Wednesday, 8 June 2016

What’s one of the single-biggest investments you’re likely to ever make in your lifetime? With Australia’s median house price currently north of $580,0001 chances are that it’s a house. The 2011 Australian Census2 estimated that 32 per cent of Australians own their home outright while another 35 per cent have a mortgage. Two-thirds of us, therefore, should find it somewhat unnerving that offshore hedge funds are raising their bets on Australia’s housing market going bust in the near term.

Offshore hedge funds are doing this by taking short positions3 on the shares of Australia’s big four banks (ANZ, CBA, NAB and Westpac, dubbed the ‘Big Four’). This aggregate bet now surpasses $8 billion4. And while it represents only about 2 per cent of the Big Four's combined market value, it is the biggest aggregate short position of this kind since records began in mid‑2010.

The general view among these hedge funds is that Australia’s banking sector will struggle when a confluence of factors undermine house prices, including:

  • household debt which is more elevated than ever before and more so than comparable countries5
  • weak wage growth6
  • expanding supply including a pipeline of new apartments in Sydney, Melbourne and Brisbane7

These factors could have negative implications for investors, owner-occupiers and developers, many of which borrow from the banking sector. Outside of housing, the Big Four also lend to businesses within the resources sector, where lower commodity prices are creating financial stresses.

In essence, this aggregate $8 billion bet is rolling the dice that non-performing loans in Australia’s banking sector trend higher, corporate earnings weaken, and share prices of the Big Four banks fall.  

In early May ANZ announced a dividend cut and is the first Australian major bank to do so since the GFC. But, it won’t be the last, according to analysts at Goldman Sachs and Morgan Stanley who are forecasting further dividend cuts from the banking sector4. Credit rating agencies are also dealing into the debate. Moody’s recently forecast weaker bank earnings and higher bad debts, albeit from record-low levels – and Fitch Ratings8 reiterated concerns last week toward potential oversupply and elevated household debt in the Australian market.

While the decision by hedge fund managers to take a short position on the Australian banking sector may be a short term tactical move, at QSuper diversifying any one type of risk is a key pillar of our investment philosophy and long term strategy. Some years ago, we researched investment strategies that mitigate concentration risk in our major global equity holdings, including in Australia. The market value of the Big Four banks is an oversized 27 per cent9 of Australia’s S&P/ASX 200. This is one of the factors that led us away from investing passively in this Index (as well as others) some years ago and toward implementing some bespoke equity indices relatively more agnostic to company size. The upshot is that the QSuper Fund’s portfolio10 has held a significantly lower exposure to the Australian banking sector for some time.

To be fair, this strategy may also lead to equity underperformance should some of the largest corporates materially outperform the S&P/ASX 200. In this case, however, we have found it has helped to mitigate exposure to the Australian banking sector’s underperformance this calendar year, and may insulate the QSuper Fund from further weakness should these offshore hedge funds’ predictions happen to be correct. Should we consider it more likely that value of the Big Four are in decline, we can also manage the QSuper Fund’s portfolio’s Australian Equities exposure10 through our Dynamic Asset Allocation (DAA) process.11 In fact this is precisely why we express our investment strategy as asset allocation ranges. If you’d like to know more about this process, please let me know in the comments section below.


1 According to CoreLogic, the median dwelling price of Australia’s combined capital cities was $580,000 in May 2016. Sourced from Bloomberg data, accessed 6 June 2016.

2 The Australian Bureau of Statistics, 2011 Census QuickStats. Retrieved from http://www.censusdata.abs.gov.au

3A short position is a contract to sell an asset today, and buy it in the future, in anticipation that its value will fall over the period.

4 Sprothen, Vera (2016, May 22). The Next Big Housing Short: a $6.5 Billion Bet Against Australia’s Banks. The Wall Street Journal. Retrieved from http://www.wsj.com

5 The Reserve Bank of Australia, Financial Stability Review, April 2016. Retrieved from http://www.rba.gov.au

6 As measured by the Wage Price Index, annual growth in private-sector wages (excluding bonuses) decelerated to 1.9% in March quarter, its slowest pace since records began in 1997. Source:  The Australian Bureau of Statistics, Catalogue number 6345.0. Retrieved from http://www.abs.gov.au

7 The Reserve Bank of Australia, Financial Stability Review, April 2016. Retrieved from http://www.rba.gov.au

ABC News (27 May 2016). Banks face profit risks from household debt and China transition, Fitch says. Retrieved from http://www.abc.net.au.

9 Bloomberg data, accessed 27 May 2016

10 The following QSuper investment options have exposure to the Australian equity allocation of the QSuper Fund portfolio referred to in this post:  the Lifetime investment option for Accumulation account and the Balanced, Moderate and Aggressive investment options for the Accumulation and Income accounts. Whilst the QSuper Australian Shares investment option is passively invested with an investment objective to match the return of the S&P / ASX 200 Index after fees and tax and the Socially Responsible option is wholly invested in the Responsible Investment Leaders Balanced Fund which is managed by AMP Capital Investors Limited.

11 The dynamic asset allocation process is the name given to the process whereby the QSuper Investments team has the delegated authority to move the asset class weights within the approved asset allocation ranges for each of the QSuper options and which are set by the QSuper Board of Trustees.

The views of the author and those who provide the responses to comments posted on this blog are not necessarily the views of the QSuper Board. We’ve put this information together as general information only and you should get professional advice before relying on this information.

Past performance is not a reliable indicator of future performance. Each of our investment options has a different objective, risk profile, and asset allocation.