Global Markets and the upcoming Federal Budget...

Global Markets: Hope reigns supreme...
 

US stocks rose further last week – the sixth weekly gain in a row – with ongoing hopes for a US-Iran peace deal despite continuing skirmishes in the Strait of Hormuz. One sign of optimism was the decline in oil prices. A stronger than expected US payrolls report on Friday also boosted stocks. 

Yet another week in the lingering Iran war and hope springs eternal. The global economy is facing a race against time – settle the Iran war and re-open the Strait before the lagged impact of the lack of new supply jacks up prices. So far at least, inventory run-down, some demand restricting measures across Asia and persistent hopes for a peace deal has limited lift in near-term oil price futures – but the clock is still ticking.

Both sides are exchanging peace proposals – at the same time as they’re firing on each other’s ships! But there seems enough wiggle room on both sides that hopefully a deal can be done soon – though the outcome is unlikely to be much better for the US than the Obama-era deal that Trump tore up in 2018. 

The current environment reminds me of the COVID-crisis – after an initial sell-off due to lockdowns, markets kept rallying despite abysmal economic data, due to the ongoing hope of a vaccine and economic re-opening. Markets can endure near-term sticks it seems if there remains an attractive carrot ahead of them.

But for now, markets remain in limbo – waiting on a peace deal. As the consequences of no deal seem catastrophic for both sides, it’s hard to imagine they can’t/won’t agree. Yet the week begins with news that Iran is refusing US demands to dismantle its nuclear facilities and suspend uranium enrichment for 20 years.

Global markets rebound...
Global equity markets have now staged a remarkable 6-week rebound on peace talk hopes. Overall global stocks and the S&P 500 are now trading comfortably above the levels prevailing just before the Iran war began. But it’s not just peace-talk hopes, but a renewed infatuation with the AI trade – especially hardware companies. 

Accordingly, the US, Japan and emerging markets continue to do best in the rebound so far, whereas Europe, Australia and small caps have not. The Nasdaq 100 has shot the lights out. Korea is also soaring, thanks to the market’s love of hardware companies such as Samsung benefiting from the AI boom – as, unlike software companies, they’re at less apparent risk from disruption.  

Australia: RBA and the Budget...
Local stocks underperformed global stocks again last week, with the RBA delivering on its threat to raise interest rates for the third time in a row. Concerns around capital gains tax increases in this week’s Federal Budget did not help.

It’s been a sorry tale for local stocks in recent weeks – which have failed to benefit all that much from the global market rebound. A low technology exposure, along with RBA and Federal Budget concerns, have been major drags.

If there was any solace in last week’s RBA rate hike news, it was that the Bank might be kind enough to pause at the next meeting in June – just to assess the impact of its work to date. 

My hope is that by the time the August meeting comes around, the Iran war will have ended and oil prices will have retreated further, lessening the pressure on the RBA to hike further. Potential disruption in the property market following this week’s Federal Budget might also give the RBA reason to hold off. We'll see.

Tax grab or boost for intergenerational equity?
Rumours suggest a fairly aggressive attack on negative gearing and capital gains. This will apply to all assets it seems – such as property and shares – with an exemption only for new properties. 

Modelling suggests that the shift to inflation-indexing of capital gains – rather than the 50% discount – will increase the effective capital gains tax the longer you hold an investment and the higher the return it attracts.

As an example, an investment returning 7% in capital gains each year held for 10 years will attract a 15% CGT under the current system, but 21.3% under inflation-indexing (assuming inflation of 2.5% p.a. and a marginal income tax rate of 30%).

• If the annual return was 10%, the CGT under the current system would remain 15% but lift to 24.7% under inflation-indexing.

• If the 7% returning investment is held for 30 years, the CGT under inflation-indexing rises to 25%, though stays at 15% under the current system. 

Boomer investors will be hurt, but so will younger investors – especially as they have longer investment timeframes and tend to hold higher-growth investments.   

As for the property market, the expected tilt favouring new property will only succeed in driving up land values and developer profits (due to supply constraints, the more favourable tax benefits will be quickly capitalised into prices), while there’s also a risk of a leap in rents on existing properties as investors exit the market and demand higher compensation to offset the less favourable tax benefits.

Also getting media coverage is an effective doubling of the capital gains tax on entrepreneurial companies from 25% to a world-beating 50%!.

All up, the idea that these changes will boost ‘intergenerational equity’ seems a stretch – there may be several unintended consequences that actually make economic conditions even harder for the young (higher rents, high new property prices, reduced returns on longer-term investments and the hobbling of the start-up/entrepreneurial sector).

It’s true that current tax incentives favour gearing up into property especially – but a key problem is the high 47% top marginal tax rate which kicks in at a relatively low income by global standards and is considerably higher than the corporate tax rate. That just invites creative tax planning – the impetus for which won’t change after tomorrow. True tax reform would have involved effective tax-base broadening (as we’re likely to see tomorrow) along with a reduction in marginal income tax rates.

More to come.

Rick Maggi, CFP, Westmount Financial, Financial Advisor (Perth)

Budget SPECULATION RIFE

There will be added interest in the Federal Budget announcement next week (May 3rd) as it's likely to be the final major economic statement the Government makes before the election later this year, quite possibly July 2nd. With the opposition taking a strong stance on capital gains tax and negative gearing, we're looking at a focus this year on taxation. Corporate tax could be cut by up to 1.5% however, there is likely to be minimal, if any, relief in terms of personal income tax.

There may also be some changes to superannuation. Some potential changes might be reduced contribution caps, the concessional 15% tax on super contributions, an end to 'Transition to Retirement' pensions and taxes on superannuation pension payments.

Overall, the outlook is for minimal growth in government spending, with spending offset by savings elsewhere in the Budget.

Where sharemarkets are concerned, historically we have seen some sideways tracking in past election years, but there has been no evidence to date of a lasting impact caused by an election. In fact, Australian economic growth has actually been strong during election years since 1980.

We'll be watching the announcements closely next week and will keep our clients informed of any meaningful developments.

For more information, contact Rick Maggi on 9382 8885 or rickmaggi@westmount.com.au.

13/05/15: 2015/16 Federal Budget

Just the facts...

Last night the Federal Government handed down the Budget for the 2015-16 year, and as foreshadowed, the Budget contained relatively few surprises, with a number of announcements made in the previous weeks.

Of course the most notable announcement impacting clients were the 2017 Age Pension changes and the ‘no new superannuation taxes’ commitment I highlighted last Friday (click here for another copy).

Self-managed super funds also dodged a bullet with no mention of implementing proposed changes to limited recourse borrowing arrangements.

The Government appears to be banking on small business to lead the recovery and has set out a series of generous new tax concessions for businesses with turnovers of less than $2 million. These include a drop in the corporate tax rate to 28.5 percent, immediate tax deductions of up to $20,000 for capital expenses, and FBT exemptions.

Primary producers also do well, regardless of their size with generous depreciation concessions for fencing, water rights and fodder.

So where is the sting in this Budget?

The Government has been careful in its targets. Rather than increasing taxes, the Government has focused on loopholes where there is a clear argument for ‘fairness’.

For example, Multi-national companies who avoid paying tax on business profits in Australia are in the firing line, and GST will be extended to imported digital products and services.

Also, fly-in fly-out (FIFO) clients may lose the zone tax offset, and caps will apply to salary sacrificed meal and entertainment expenses for employees of charities, hospitals and public benevolent institutions.

For a more detailed summary of the Federal Budget Click here.

Even better, feel free to call me personally if you’d like to know whether this year’s budget is likely to impact on you personally.

Rick Maggi Westmount Financial Clear Focus. Better Solutions.