The Vanguard Australian Shares Index ETF (ASX: VAS) didn't have its best year in 2022. But can the exchange-traded fund (ETF) stage a turnaround in 2023?
In terms of the unit price, the Vanguard Australian Shares Index ETF declined by 8.5% last year, though the income distributions did offset some of that pain.
Investors should keep in mind that the return of an ETF like this is almost entirely decided by the performance of the underlying holdings in its portfolio, minus the cost of the annual management fee (which is 0.10% for this ETF).
This particular ETF tracks the S&P/ASX 300 Index (ASX: XJO) which represents 300 of the biggest businesses on the ASX.
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What happened in 2022?
Rising interest rates and elevated inflation seemed to impact investor confidence and share prices quite significantly over the past year. Indeed, the Reserve Bank of Australia raised interest rates from 0.1% to 3.1%.
While some names saw positive returns, like BHP Group Ltd (ASX: BHP) and National Australia Bank Ltd (ASX: NAB), there were plenty of others that took a sizeable hit. Names like Wesfarmers Ltd (ASX: WES), Macquarie Group Ltd (ASX: MQG), Goodman Group (ASX: GMG), and Aristocrat Leisure Limited (ASX: ALL) all fell by around 20% or more over the year.
Legendary investor Warren Buffett once said about interest rates:
The value of every business, the value of a farm, the value of an apartment house, the value of any economic asset, is 100% sensitive to interest rates because all you are doing in investing is transferring some money to somebody now in exchange for what you expect the stream of money to be, to come in over a period of time, and the higher interest rates are the less that present value is going to be. So every business by its nature…its intrinsic valuation is 100% sensitive to interest rates.
Not only are valuations being hit but earnings of some economy-linked sectors may be impacted such as ASX retail shares, construction businesses, and so on.
How could the Vanguard Australian Shares Index ETF perform?
It's impossible to know how things are going to go. But, however things pan out, the ETF's return is likely to be heavily influenced by ASX bank shares and mining shares. At the end of November 2022, financial shares made up 28.3% of the Vanguard Australian Shares Index portfolio, with materials making up another 24.2%, for a combined total of 52.5%.
ASX banks could see stronger lending profitability on the back of a higher central bank interest rate as they pass on rate hikes to borrowers faster than to savers. Certainly, reporting higher profits could mean improving investor confidence. However, there is also a danger that as time goes on, arrears could increase if some borrowers can't handle the higher interest payments.
As well, resource price movements are very hard to predict. On the one hand, there's a risk that a possible global recession could lower demand for commodities. However, the reopening of the Chinese economy after COVID lockdowns may mean stronger demand from the Asian superpower.
I do believe that when interest rate increases are paused, this could lead to a boost in investor confidence once people see that there won't be any further pressure on investor valuations.
If I had to guess, I think the Vanguard Australian Shares Index ETF unit price will go up this year as inflation calms and interest rate worries somewhat reduce. Economic conditions may worsen during the year, but share prices sometimes move ahead of the economic numbers showing the pain (or strength).
