PSSap Fund Performance for March 2008

Welcome to the monthly update on your Fund's investment performance.

ARIA’s primary responsibility is the management and investment of the PSSap Funds in the equitable and best interests of all members. ARIA approaches this task by setting an investment objective to maximise the real returns earned on investments subject to a tolerable level of short-term volatility.

Table 1: The PSSap Options Earning Rate for one month as at end March 2008 (%)

All Earning Rates are after fees and tax

Commentary:

Financial markets continued to exhibit extreme volatility in March, with the global liquidity crisis forcing the US Federal Reserve to adapt extraordinary measures to prevent a systemic breakdown of the US financial system. The first of the measures came mid-month, when a number of leading Central Banks joined forces to increase liquidity in the US and other major economies. This was followed shortly after by the US Federal Reserve’s effective bail-out of Bear Sterns, a large non-deposit taking US bank. This involved the Fed Reserve providing the financial backing to allow JP Morgan to purchase Bear Sterns and honor its commitments to other financial institutions. This action was followed two days later by a 0.75% cut in the Fed Funds rate to 2.25% - the largest such cut since 1984.

The economic environment in March was characterised by a growing realisation that the US economy is now in recession – as evidenced by a large drop in employment and weakness in both consumer and construction spending. In Australia, early evidence emerged that the recent tightening of monetary policy is beginning to have an effect – reflecting a drop in both consumer and business confidence and an easing in credit growth. The slowdown in global economic growth is being accompanied by heightened inflationary pressures, with higher than expected inflation numbers in China, Europe and Japan in March. These heightened pressures are stemming from significant increases in food and energy costs.     

Against this backdrop, global equity markets fell sharply in the first part of March before partially recouping some losses in the last part of the month, in line with the aggressive policy action by the US Federal Reserve.  For the month as a whole, global equities hedged into Australian dollars fell by 2.1%.  However, a decline in the value of the Australian dollar meant that global equities in unhedged terms rose by 1.6%.  In March, the best performing markets included Mexico (up 7%), Spain (up 1%), Sri Lanka (up 1%) and the US (flat).  The markets that fared worst included China (down 20%), Japan (down 8%), Hong Kong (down 6%) and Italy (down 6%). In the first nine months of the financial year to the end of March, global equities declined by around 15% in hedged terms and 16% in unhedged terms.

The Australian equity market also struggled in March, declining by 4.0%. Industrial shares outperformed resource shares by 7%, while small stocks fared slightly worse than their large counterparts. Materials stocks (down 8%) were hurt by the decline in commodity prices, while Telecoms (down 8%) and Industrials (down 4%) also lagged. The best performing sectors were Consumer Staples (up 1%), Financials (up 0.5%) and LPTs (flat). In the first nine months of the financial year to the end of March, the Australian market fell by 12%, thereby modestly outperforming its global counterparts.

Bond markets also experienced much volatility in March, with government bond prices strengthening in the first part of the month in response to equity markets falling, before weakening in the last part of the month as equity markets advanced. This reflects the extent to which movement in government bond yields are currently dominated by their perceived safe haven characteristics, rather than economic fundamentals such as changes in inflation, economic growth and the level of short-term interest rates. Credit spreads increased further in the first part of March before contracting somewhat towards the end of the month. In March, long-term government bond yields declined by around 0.1% in the US, Japan and UK, but were flat in Europe. This resulted in a return from global bonds in hedged terms of 0.4%. This compared with a return of 0.7% from cash and 1.6% from Australian bonds, which the latter benefiting from a more significant decline in government bond yields as the market began to anticipate an end to the cycle of short-term interest rate increases. In the first nine months of the financial year to the end of March, global bonds rose by 9.9%, Australian bonds by 4.0% and cash by 5.3%

In March, the Australian Dollar exhibited significant weakness, falling by 2% against the US Dollar, 5% against the Yen and almost 6% against the Euro. This decline was due to both a modest pullback in commodity prices and an increasing belief that the cycle of domestic short-term interest rate increases is near an end. The first nine months of the financial year to the end of March has been a story of US Dollar weakness. During this period, the Australian dollar rose by 7.5% against the US dollar, but declined by 13% against the Yen and almost 8% against the Euro.

Alison Tarditi
Chief Investment Officer
10 April 2008