For Australian investors, a larger global allocation vastly increases the flexibility available to potentially generate income and total return.
Australian investors, like many around the world, have a pronounced home bias when investing - this is particularly true when building retirement or income orientated portfolios.
While this is understandable given our familiarity with local companies and the attraction of franking credits, it may compromise a portfolio’s ability to achieve its long-term objectives.
Firstly, investors miss out on a world of potential opportunities. Australia represents only around 2% of the global share market capitalisation. A larger global allocation vastly increases the flexibility available for investors to generate appropriate levels of total return. It also increases opportunities for investors to meet their investment objectives over the long term and may reduce the risk of investors outliving their capital.
Secondly, a heavy reliance on Australian exposure to deliver income risks incurring a shortfall when investors can least afford it. The adage “don’t put all your eggs in one basket” comes to mind. When close to, or in, retirement, the ability to generate additional income in the event of an unexpected shortfall (such as a sharp drop in interest rates, a dividend cut or a change in tax policy) is more limited compared to the accumulation phase (where time is on the investor's side). Consequently, it is prudent for investors to construct a portfolio with as many differentiated sources of income as possible.
As demonstrated in the chart below, dividends fell sharply across Australian equities during the Global Financial Crisis with traditional sources of equity income such as Financials, Energy or A-REITs, significantly cutting their returns. Conversely, dividends from global listed infrastructure steadily rose. Infrastructure’s ability to generate income is determined by the regulation and contractual structures in place and is much more closely linked to the growth in the underlying assets than it is to the strength or weakness of the economy. For investors, this is what delivers stable cash flow and greater capital stability.
Sources: FactSet and RARE Infrastructure, as of 12/31/2018. DPS = Dividend Per Share. The S&P/ASX 200 A-REIT Index is used as a representative of Australian Real Estate Investment Trusts. All Ords = ASX All Ordinaries Index, Local, Bloomberg (Index Code – AS30 Index). Infrastructure – RARE Core Universe, Local, FactSet Research Systems (Portfolio Code – CLIENT: CORE_LIST). Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.
The All Ordinaries (XAO) or "All Ords" is considered a total market barometer for the Australian stock market and contains the 500 largest ASX listed companies by way of market capitalisation.
ASX is an abbreviation for Australian Securities Exchange.
An Australian real estate investment trust (A-REIT) is a unitised portfolio of property assets, listed on a stock exchange, usually the Australian Securities Exchange (ASX). Such investment structures were known as listed property trusts (LPT) in Australia until February 2008, but were renamed to be more consistent with international terms. An A-REIT usually owns a portfolio of large properties, which, due to their size and value, cannot be bought by the average private investor. Thus, these large investments are broken up into units of smaller value that can be purchased by private investors, who become unit holders.
A franking credit is an entitlement to a reduction in personal income tax payable to the Australian Taxation Office. The entitlement is offered to individuals who own shares in a company (“shareholders”) in recognition of the tax on profits paid by that company.
The financial crisis of 2007–08, also known as the Great Financial Crisis, global financial crisis and the 2008 financial crisis, was a severe worldwide economic crisis considered by many economists to have been the most serious financial crisis since the Great Depression of the 1930s, to which it is often compared.
Market capitalization is the total dollar market value of all of a company's outstanding shares; it is calculated by multiplying a company's shares outstanding by the current market price of one share.
The S&P/ASX 200 A-REIT Index is a sector subindex of the S&P/ASX 200, this index tracks the performance of Australian real estate investment trusts (A-REITs) and mortgage REITs.