After a two year run which saw industrial shares rise by 40%, Australian analysts are wary as to where things go from here.

Chris Walker, head of Australian equities at Colonial Investment management in Melbourne, says: The rise occurred without much in the way of earnings growth. A lot of it was on the back of the banks, which were re-rated.”

But with the series three half point interest rate cuts over the last seven months, he believes there is “a bit more life in the economy”.

He does not expect to see the sort of equity returns experienced over the past two years. “The markets are fairish value in our view and we have gone back to neutral in Australia.” He adds: “I hope to see a positive return in calendar 1997.”

Good value in the Australian equity markets is now much harder to find, he reckons.

Of most immediate concern to local investors is what will happen in the US. “They are concerned about a possible correction to the Dow,” says Walker.

Iain Griffin, director of investment strategy, at Prudential Portfolio Managers in Sydney, says the group believes the Australian market deserves more support than it is getting, it is a long position in Australian equities and a short one on US. “We expect Australian shares to out perform those in the US,” he says. Local shares offer reasonable value, even though the market looks expensive by historical terms. What has changed is the price of risk as a result of the fall in inflation and people are requiring less return in order to buy risk. “Australian valuation in a lower risk-priced world still looks good,” says Griffin.

Does Australia still deserve a country risk premium because of its inflation history? The lessons the rest of the world have learned have been taken on board by Australian business, though outside there are fears of “a wage blow out” hitting corporate profits still remain. What has happened is that companies have learned that no longer can they pass price rises. He thinks there has been too bearish views about the corporate earnings outlook. The current reporting season had shown on average “a 1 to 2% positive earnings surprise. “We have seen a bottoming out negative earnings sentiment and there is room for share prices to rise.”

Griffin is sanguine that the inflation bogey has been laid to rest. “Australian bonds trade 110 basis points higher than US counterparts, but Australian inflation will be less than US over the next five years.” PPM says the country risk premium will reduce. “But we do not know whether this will be in the next 12 months or not,” Griffin adds.

On Australian bonds Griffin’s strategy is simple. “We reckon 7.5% is fair. So if yields go above this to, say, 8% we are a buyer and if they go down to 7% we are a seller. We have been making money out of that strategy for the last nine months.”

In London, at Cazenove Fund Management, the perspective is different, says fund manager Ann West: “We regard Australia as a bolt hole when we see Asia looking fully priced, or we go fully weighted there when the conditions are right.” She describes the present approach as being in “the middle ground”. “We do not see any compelling value in Australia. So our position is fairly neutral against our MSC benchmark.”

But she believes that inflation is no longer the threat it once was, but not very one is so convinced. “There is a disbelief that interest rates will stay at their current levels.”