Global Assets Vs Australian Assets.

Most Australian investors still have too much exposure to Australian assets. This article looks at some of the reasons why and the role global assets can play in diversifying portfolios.

Dividends and income

Part of the mentality for Australian investors with Australian assets is traditional “home country” bias, but it also represents too great a focus on dividends and income at the expense of maximising total portfolio returns.

There is no doubt dividends levels are high in Australia. They are much higher than the rest of the world and there is the additional boost from franking credits for most investors. This tax advantage to dividends is unique to Australia and is the overwhelming reason why payout ratios are so high.

Figures in Chart 1 show from the 10-year period before COVID-19 there was an average dividend yield of almost 6 per cent after franking in Australia compared with 2.5 per cent for the US.

Chart 1

However, the pursuit of dividends does also come at a cost. Australian companies are mature and grow earnings per share (EPS) at a much lower rate than the rest of the world, so investors with portfolios with heavy biases to Australia miss out on that potential growth over time.

Chart 2 then shows that in the decade preceding COVID-19, US companies grew EPS at 10 per cent versus Australian companies that only grew by 2.5 per cent.

Chart 2

What are the considerations for investors?

If an investor has a long-term horizon, a balanced approach is to focus on total return and not just income, and there is good reason for this. If we look at the figures in Chart 1 and Chart 2 where yield and growth are added together as a rough estimate of total return, the US has a figure of 12.5 per cent and Australia at 9 per cent.

That difference is significant over time and would seem a high price to pay for a sole focus on dividends.

It should also be noted that a large part of this EPS growth in the US is due to buybacks, because companies in the US generally buyback shares ― rather than pay dividends ― so the steady reduction in the number of shares pushes up EPS.

The second reason for higher earnings growth in the US is that their market has larger exposure to higher growth companies ― particularly in the technology sector where technology represents 30 per cent of the market ― compared to about 2 per cent of the Australian market.

In comparison, the biggest sectors in the Australian market – banks and resources – are very mature industries. And apart from some pockets of resources, it is hard to see substantial growth in these sectors, particularly when we consider that lending growth has stalled somewhat for the banks, and the iron ore boom is now well advanced.

These factors are important for investors with long horizons to consider – remembering that the duration of a portfolio should match the duration of the investor. So, investors looking to invest for the long term should invest in companies that are likely to experience the highest growth and total return in the long term. This should be a key element of discussions and planning with your adviser.