JCB ACTIVE FUND IS A PORTFOLIO OF LONG ONLY AAA AND AA+ RATED EXPLICITLY GUARANTEED GOVERNMENT BONDS. SINCE INCEPTION ANNUALIZED RETURNS ARE CURRENTLY 4.26% NET OF ALL FEE’S.

• TRUMP’S WIN PUSHES MARKETS ON EXPECTATION ONLY, INCREASES RISKS FOR PORTFOLIO’S
• LIFTING THE SERVICE COST ON $240 TRILLION OF GLOBAL DEBT
• WHILST GLOBAL MARKETS FOCUS ON TRUMP, AUSTRALIAN DOMESTIC DATA COLLAPSES
• OBSERVATIONS OF BUYERS AND SELLERS OF AUSTRALIAN GOVERNMENT BONDS
• AUSTRALIAN BANKS HIKING MORTGAGE RATES ‘OUT OF CYCLE’ AS FUNDING COSTS INCREASE

Trump’s win pushes markets on expectation only, increases risks for portfolio’s -

Positive Trump momentum has reigned supreme in markets since the US election, with themarket moving to a euphoric state factoring in expected future growth and inflation in the United States. Only time will tell if this fully materialises and what the implications will be for global trade and financial assets. As is widely known, markets move quicker than policies and in turn new infrastructure identification, planning, funding, and employment takes even longer.

From a technical perspective looking forward via a normal distribution bell shaped probability curve, the possible financial market return outcomes have widening significantly to both the up and downside.

Under a Trump led US Government we will likely get strong near term US growth, but we might also suffer broader global geo-political tension. This could have an impact on borrowing rates (as outlined further below) that can endanger global markets given their heavily indebted nature post the global financial crisis (GFC). The only constant that seems assured in 2017 is market volatility, making diversified portfolio’s critical to navigating future investment markets twists and turns.

Jamieson Coote Bonds notes that we have been here before post GFC; via similar financial market moves on the election of Obama, with the commencement of multiple QE programs and with Abenomics in Japan. These moments were suggested at the time as the catalyst for job creation, delivering sustainable growth and generating inflation. Sadly as we know, none of this has occurred. The outstanding question is - can Trump succeed where other capable leaders and programs have failed? It is of course too early to answer this question in full, but the markets have certainly priced in lofty expectations as evidenced by the ‘asset side’ of Trump’s future Presidential term, with little regard for the ‘liabilities’ side that will provided economic headwinds to Trump’s term in office.

The prevailing US commentary around lower taxes, stimulus spending and deregulation are all welcome near term, but cutting your income (via tax cuts) whilst spending more, plus allowing bankers free rein isn’t a sustainable or healthy proposition for the longer term.

Lifting the service cost on $240 trillion of global debt -

Since the GFC, global debt levels have increased dramatically from $140 trillion to over circa $240 trillion. All this new debt has essentially been created from zero interest rate policies, given the lower rate environment we find ourselves in. This debt of course requires servicing, as it must be rolled forward as it matures over differing time frames. The Trump euphoria has seen US borrowing costs climb quickly in expectation of higher growth and inflation. This has had the impact of causing an immediate in specie tightening of financial conditions, as the cost of servicing this huge debt load has in effect increased. Combined with a stronger USD currency, the market has essentially hiked interest rates in the United States during November. These events will most likely be followed by the Federal Open Market Committee (FOMC) hiking rates on December 15th and Jamieson Coote Bonds notes a rate hike is 100% priced in markets (as observed by the indicative US Fed Funds Futures contract forward pricing), leaving US consumers with essentially a double financial tightening for their hip pockets into 2017. This should have a short-term impact on standard US mortgage, car loans and student debt serviceability levels and will create a drag on future US economic growth levels and expect weaker incoming data to support this view and will be watching this with keen interest in the New Year.

Whilst global markets focus on Trump, Australian domestic data collapses -

While Australian interest rates have historically risen in sympathy with US rate moves, Australian economic data has recently fallen dramatically. In sequential order over the last few weeks the Australian economy has:

• Recorded its weakest ever wage growth - important due to high correlation to inflation data which is still weak at 1.30% YoY and below the 2.00 to 3.00% RBA mandate,
• Lost 12,000 full time jobs on average each month during 2016, whilst creating part time work (structural under employment),
• Construction work completed has dropped -4.9% in Q3, its weakest reading in 15 years (key indicator as construction has helped fill the void left after the mining boom)
• Building approvals fell -24.9% in October following a decay of -6.8% in September, placing pressure on the construction pipeline into 2017.
• CAPEX intentions (as tracked by the ABS ) continues to fall posting -.00% for Q3; and
• GDP for Q3 was significantly below the weakest estimates at -0.5% posting negative quarterly growth

Without the recent Trump associated market moving headlines, we would normally be discussing when the RBA would be cutting interest rates to stem the recent poor domestic data flow. Ironically, Australian banks have however been increasing mortgage rates on fixed and variable products in response to the higher cost of funds. This is worrying as this comes at a time when Australian debt to income is at record highs, making Australian consumers very sensitive to interest rate movements. Should the Banks continue this trend whilst the domestic data remains so weak, the RBA will be forced to react by cutting interest rates.

Observations of buyers and sellers of Australian Government Bonds -

Flows remained mixed over November period from international holders of Australian Government Bonds. Selling was noted as emerging Asian Central Banks raised cash to defend local currencies against large moves. Local managers have trimmed risk in longer dated bonds as the market re calibrates inflation expectation, but added risk in short dated bonds in recognition of the poor domestic data. Sovereign wealth managers remain cautious on bonds currently given the speed of the move post Trump, however, there remains broad agreement that valuations have improved significantly, and once the asset class stabilises Australian rates are favoured given the weakening domestic data and high yields on offer. Australian Banks hiking mortgage rates ‘out of cycle’ as funding costs increase.

Jamieson Coote Bonds concluding remarks

After rapid market moves post the US election, opinions among asset owners and CIO’s are widely distributed. Without question, we are entering a period of higher uncertainty about US monetary policy and higher uncertainty about fiscal and structural policy. This will lead to continued higher uncertainty around the direction of the global economy with increased volatility for investment markets. The current and likely future macro-economic backdrop will likely lead to various different outcomes for investment portfolios.

The ‘expectation’ of Trump must meet ‘realisation’ into 2017 to justify the recent new valuations for growth and defensive assets will be tested at a time of record debt burdens. As investors are aware, there is a concrete relationship between the price of money for borrowers (i.e. individuals and corporate) and the financial health of markets. In this regard, Jamieson Coote Bonds is of the view that further material increases in the price of money may begin to impact over leveraged consumers and an over-indebted corporate sector, which could start to impact risk asset valuations.

If this trend continues, markets should reach a tipping point where a broader deleveraging cycle begins, which will put a drag on global growth and in turn dent risk asset valuations. With volatility looking set to be our only constant in 2017, portfolio diversification remains as critical as ever. The likely future significant divergence between asset classes provides a compelling backdrop to incorporate cornerstone defensive allocations in portfolios. Australian Government Bonds can offer investors this true to label exposure.

FUND UPDATE FOR NOVEMBER

The JCB active fund declined by 1.69% in November, outperforming the Bloomberg AusBond Treasury (0+Yr) Index by 0.17%. The fund remained underweight duration during the month, with a preference for holding short dated bonds (which are more heavily driven by RBA policy) and was underweight positions in longer dated bonds (which are driven primarily by inflation expectations). JCB notes the increase in short dated yields as being particularly unusual given the extremely poor domestic data flow experienced over the month. Moving forwards, as RBA rate hikes are extremely unlikely given the poor recent domestic data, combined with the tightening of financial conditions via out of cycle bank rate hikes, we will look to increase positioning in the front end of the curve on any further price cheapening.