World share markets produced solid returns in 2014. This was despite geopolitical issues, concerns over the durability of the global recovery and the prospect of quantitative easing (QE) in the US ending, all of which contributed to bouts of market volatility.
By the end of November, global shares had produced a hedged return of over 13 per cent for Australian investors and nearly 12 per cent in unhedged terms. However, there was a great deal of variation in market performance between regions and countries.
Emerging share markets underperformed the developed world, despite several key emerging markets being among the world’s best performers. The election of reform-minded leaders in India and Indonesia lifted share market returns in emerging markets.
After losses in 2013, Chinese shares delivered a return of over 9 per cent for the 11 months to November, particularly after a surprise cut in official interest rates in November boosted share prices.
The Australian dollar fell a little more against a resurgent US dollar, which was boosted by the impending end of QE in the US, ongoing QE in Japan, and the potential for QE in Europe.
Quantitative easing remained a key influence
The US share market had a solid 12 per cent return for the year to November, while Japan extended 2013’s stellar performance with a 9 per cent return. So far, US shares have taken the end of QE in their stride, particularly as US economic news has remained positive enough to support the idea that QE is no longer needed. The Bank of Japan’s QE program provided strong support for the Japanese share market, despite economic news which tended to be disappointing – against expectations, Japan’s economy again fell into recession in the September quarter.
European shares were undermined by signs that Europe’s economic recovery came close to a halt in 2014. This development prompted further interest rate cuts by the European Central Bank (ECB) and raised hopes that the ECB would embark on a QE program.
The iron ore price weighed down Australia’s share market
Our market managed a positive return, but had a generally disappointing year, despite signs of improving growth outside the mining industry. Strong gains in shares in the real estate trust, healthcare and telecommunications sectors were offset by losses in mining shares, due to a fall in the iron ore price to its lowest level in five years.
Lower bond yields worldwide…
After very low returns in 2013, bond investors enjoyed much better returns this year, with yields falling in most major markets. Non-government bonds tended to underperform government bonds.
In Australia, bond yields also declined, as both economic growth and inflation remained subdued and the Reserve Bank of Australia left the official cash rate unchanged.
…helped boost listed real estate
The extraordinarily low level of interest rates and bond yields worldwide encouraged investors to find other sources of income. As a result, real estate investment trusts in Australia and globally continued to be highly sought after.
Overall, the investment environment remains uncertain
Australian investors have enjoyed very good returns from multi-asset investment strategies over recent years, underpinned by the strong performance of world share markets. However, the investment environment is still unpredictable.
We remain concerned that in key markets like the US, share prices have run too far ahead of corporate profits. We’re also concerned that too much of the performance of US and global share markets has depended on the extraordinary monetary measures of the major central banks.
At present, inflation rates are generally benign in much of the world, and too low or even negative in Europe and Japan. However, the extraordinarily loose monetary policy in some key economies aims to stimulate growth and produce higher inflation. If rising inflation occurs, it could help reduce the burden of public debt across the world. However, financial markets aren’t expecting any rise in inflation: bond yields are at or close to all-time lows and short-term interest rates are already negative in real terms in some countries.
Another reason for caution is that after a period of strong returns from rising markets, it’s not easy to find well-priced investments.
The geopolitical environment also remains a source of concern, despite the apparent ability of investment markets to overlook disturbing developments in the Middle East, the Ukraine and elsewhere. While financial markets find it almost impossible to price geopolitical risk, this risk is always present, and it’s currently at a higher level than for many years.
