This afternoon the Reserve Bank of Australia left Australia's cash rate at a record low 1.5% with little hint that it plans to give savers some relief by lifting cash rates in the near future.
The governor's statement suggesting he's happy to leave rates at current levels as the weakening Australian dollar supports a transitioning economy and the bank warns that "an appreciating exchange rate would complicate this adjustment".
The statement also stressed the mixed strength of Australia's housing markets with Sydney and Melbourne remaining strong, while other regions deliver anything from moderate growth to falling prices.
Inflation at 1.5 per cent was also flagged as below the bank's targeted range, although the bank stuck to its guns in stating that "inflation is expected to pick up over the course of 2017 to be above 2 per cent".
It's now five straight months that the RBA has kept rates on hold after being forced into almost back-to-back cuts by weaker-than-expected inflation data in the second quarter of 2016. Again it seems the one factor likely to force the RBA into action again is if consumer price inflation comes in substantially lower than its targeted range in the quarterly readings over March and June 2017.
For investors the short-term outlook for no rate change means dividend stocks are likely to remain in high demand.
Notably, today toll road operator Transurban Group (AX: TCL) is up 5.6 per cent after delivering better-than-expected dividend guidance. While rival infrastructure operator Sydney Airport Holdings Ltd (ASX: SYD) is also up 2.4 per cent as the yield hunt returns.
However, I expect buying these businesses today may lead to some pain for investors over the years ahead as the benchmark risk free rate on US 10-year treasuries is rising and expected to rise further over the next 12-18 months on the back of three to four U.S. Fed base rate rises.
The risk-free rate could easily head towards 3 per cent in 2017 which should put the yields of between 4.7% and 4.8% available on relatively high-risk equities like Transurban and Sydney Airport in clear perspective as being ridiculously low.
It seems investors are bidding up supposedly "safe" equities oblivious to the changing dynamics in the debt markets that function as the driver for what cash flow returns equity investors should demand in compensation for the additional risk they are taking on.
Equities after all are priced on their ability to deliver an excess return over the risk free rate and as that rate rises the bond proxies are likely to be less highly valued by investors seeking better risk adjusted returns.
Moreover, these "bond proxies" are partly known as such because of the huge amounts of debt they take on at varying coupons and maturities, which means that over time they will tend to move inversely in value to interbank or other benchmark lending rates above which they can generally borrow at fixed margins.
The result of investors divorcing themselves from reality to chase these "yield plays" is that they trade on high price-to-earnings multiples that are also likely to come falling down as risk-free rates rise around the world.
Despite today's investor excitement, I would give these businesses a wide berth to focus on dividend stocks on sensible valuations that can prosper tomorrow not today.
