A recent investment outlook statement by Bill Gross from the giant bond manager PIMCO reminded investors (although they shouldn't need reminding) that all asset prices are ultimately referenced to the government bond rate.
Risk-free rate
The government bond rate is so important in investment terms because it represents the risk-free rate of return. In other words, when someone invests their money in anything other than government bonds they are taking a risk – hence every investment should be compared to and considered as a trade-off against investing in a government bond.
To date declining official interest rates around the world have acted as a tailwind for equity markets. Low rates have been a way to artificially inflate economies post-GFC, as lower interest rates not only lead to asset-price inflation but they also help to expand corporate profit margins.
While the S&P/ASX 200 Index (Index: ^AXJO) (ASX: XJO) hasn't risen as strongly as US markets and nor are Australian interest rates as low as in the USA, the long-term outlook of higher interest rates is a significant handbrake on future increases in asset prices and therefore rising equity values. This scenario would suggest investors cannot rely on a "normal" level of asset price appreciation over the next few years, which will make individual stock-picking more important than ever and also make dividend income as a proportion of overall returns increasingly significant.
One company which looks to be an appealing opportunity given these circumstances is Platinum Asset Management Limited (ASX: PTM). Unlike many fund managers who despite understanding the effects of interest rates on valuations, ultimately play a momentum game and hug the index, Platinum has a history of acting in a conservative and contrarian manner. It understands the major drivers of economies and markets and focuses on individual stock selection and valuation. This business acumen bodes well for Platinum to continue to produce profit growth for shareholders in the face of rising interest rates.
Secondly, with Platinum forecast to pay a dividend totalling 33.8 cents per share in FY 2014, this equates to an attractive 5.3% fully franked dividend yield. For investors facing the prospect of lower equity price appreciation the yield and potential for it to grow is very valuable.
