Co-chief investment officer at Talaria, Hugh Selby-Smith, said that as global markets transition away from elevated capital growth driven by historically high asset prices, the importance of income will become more prominent in the year ahead.
“Income matters and always contributes to returns, but capital doesn’t actually contribute every decade. In fact, in the S&P 500, there’s been three — the 1910s, 1930s and more recently, the 2000s — where investors had no return from capital appreciation,” Mr Selby-Smith said.
“The importance of income usually increases after a period where capital gains have been very strong. The most recent period is certainly one of those environments.
“This leads us to believe that the 2020s is very likely to be a decade where capital gains will be a far lower contribution of return, highlighting the importance of income.”
In an environment of lower capital contributions to investment returns, Mr Selby-Smith said two things would signal a bottom in capital markets in 2023. He said that when leading economic indicators trough, investors can anticipate a recovery in the economy and corporate earnings, while the second is when central banks change to policies that support capital markets.
“The established relationships between interest rates, leading economic indicators, and corporate earnings point towards falling profitability into the second half of 2023, which will negatively impact markets,” he said.
“2022’s moves in equities have rammed home the importance of risk management. For investors, this means avoiding assets that magnify market moves, owning assets with shorter rather than longer payback periods, and selecting funds that consistently deliver positive results.
“On a regional basis, markets outside the US offer better prospective returns given lower starting valuations.”
Mr Selby-Smith said investors should take any opportunity to rebalance their portfolios, as it will continue to be a dangerous time to be adding risk in 2023.
“One of the keys to wealth creation is holding on to as much of it as possible in down markets so that capital can then work for you when things improve,” he said.
“Amid high inflation, it pays to own assets that allow you to recoup your investment sooner rather than later. This is because with inflation increasing, a dollar now is worth more than a dollar in the future.
“Monetary authorities around the world will not be loosening financial conditions any time soon as they try to fight spiralling inflation, meaning investors must position their portfolios accordingly.”
He added that there are other ways to generate reliable returns than just “harvesting fully franked dividends from ASX stalwart stocks”.
“Our approach to global equity investing has provided over 9 per cent per annum average income distribution as part of the total return of 10.6 per cent for the last 10 years, with relatively low volatility and lower market risk,” Mr Selby-Smith concluded.
