This article is the first in a two-part series on portfolio defensiveness. The first part focuses on cash and the second part focuses on bonds.
Vision Super has a wide range of multi-asset class investment options for members. When designing these options, one consideration is ensuring an appropriate level of defensiveness given the investment objectives of the option.
What do we mean by defensiveness? When the investment environment is unfavourable (e.g. the Global Financial Crisis), a defensive exposure is generally expected to provide positive returns. Examples of asset classes that are typically considered to be defensive are Cash and Diversified Bonds (which is mainly government bonds). These exposures help balance a portfolio, making it somewhat more resilient. Lower risk investment options (e.g. the Conservative option) tend to have higher allocations to defensive asset classes, with the aim of providing greater protection against adverse investment environments.
Along with Cash and Diversified Bonds, foreign currency exposure is a defensive exposure. This is because the Australian dollar tends to fall during unfavourable investment environments, which increases the value of overseas investments. Foreign currency exposure continues to provide a reasonable level of defensiveness. For example, the value of the Australian dollar fell sharply when equity markets collapsed last year.
While the defensiveness of foreign currency remains reasonable, the defensiveness of cash and bonds has diminished somewhat. Cash is generally considered to be low risk, partly reflecting relatively stable returns. The chart below shows that the cash rate that the Reserve Bank of Australia (RBA) is currently targeting is at a record low of 0.1%.
Today’s current low cash rate means that if an unfavourable investment environment occurs, an exposure to cash would provide less of a buffer to falling equity markets than previously. As the cash rate is not expected to rise materially for many years, we anticipate the defensiveness of cash from a return perspective will be less than is typically the case. That said, it still has merit as a defensive asset class as its return is expected to be relatively stable and much higher than equities during an unfavourable investment environment.
If you want to read more on portfolio defensiveness, please read the second part in this series.
Investment returns are not guaranteed. Past performance is not a reliable indicator of future returns. This information is general advice which does not take into account your personal financial objectives, situation or needs. Before making a decision about Vision Super, you should think about your financial requirements and consider the relevant Product Disclosure Statement issued by Vision Super Pty Ltd ABN 50 082 924 561 AFSL 225054 at www.visionsuper.com.au