Investment markets and key developments over the past week
Global equity markets were generally up over the week, apart from the US (down 0.1%) dragged down by health care stocks because of concern around potential changes in government regulation following Bernie Sanders’ comments around his proposed “Medicare for All” program which would hurt private health insurers’ premiums. Chinese shares continue to rise, up by 3.3% thanks to the better Chinese data this week indicating evidence of green shoots for the global economy. Japanese shares were up by 1.5%, Eurozone equities +1.5% and Australian shares are 0.1% higher. The US dollar remains constrained and the Australian dollar is trading at just under 72 US cents. Commodity prices were mixed, with oil prices ending the week slightly higher while iron ore prices slipped a little.
In Australia, the Federal election campaign remains in full swing. The “Pre-election Economic and Fiscal Outlook” was released from the Federal Treasury which is meant to be an independent report that gives an assessment of the budget. Because the budget was only handed down two weeks ago there are no major changes to budget estimates or economic assumptions apart from some. In regard to the election, the polls still suggest a Labor party victory (see chart below), but the Coalition did receive a small boost in polls post Budget (because of tax cuts).
As well…after a wait of two years, the last season of Games of Thrones was finally released this week – happy watching!
Major global economic events and implications
US earnings season continues with mostly financials having reported so far and outcomes have been okay. First quarter earnings growth is likely to be low, with earnings expected to be only 0.4% higher year on year. Some slowdown in earnings was expected given that earnings in 2018 received a massive boost from tax cuts. US earnings growth is expected to remain modest until the December quarter where expectations are still for earnings to be over 20% higher than a year ago which looks too optimistic and will need to be revised lower.
US data was mixed this week. Retail sales bounced back in March but the Markit manufacturing PMI slightly disappointed expectations (although is still in expansionary territory), the services PMI fell and March housing starts were lower than expected. The Fed Beige Book indicates that activity is still expanding at a “slight to moderate pace” which is consistent with the Fed on hold. The February trade deficit improved and the deficit between China and the US narrowed. The details of the Mueller report were released and while there were some calls for impeachment proceedings to start, we still see it as unlikely to progress.
Chinese data was solid and showed that the central bank’s stimulus measures are working. March quarter GDP was up by 6.4% over the year which was a touch above expectations (of 6.3%). Chinese credit data was good with total social financing (a measure of lending in the economy) stronger than expected. Industrial production growth was also good, up by 8.5% over the year to March, retail sales rose by 8.7% year on year and fixed asset investment was up by 6.3% (ex rural). Chinese home prices are also rising and increased in March by 11.3% year on year.
Eurozone data continues to disappoint. The April manufacturing PMI fell again to 47.8 and services declined to 52.5. Sentiment according to the ZEW survey showed a further worsening in current conditions but expectations are looking better. European inflation data showed there are inflationary pressures in the Eurozone with core inflation at just 0.8% year on year.
The New Zealand consumer price index data surprised on the downside with headline CPI up by 0.1% and annual growth declining to 1.5% with tradable goods prices weaker than expected. The Reserve Bank of New Zealand has been communicating a more dovish tilt recently, responding to the weakness in global growth and perhaps in anticipation of a rate cut by the Reserve Bank of Australia. Markets now expect the Reserve Bank of New Zealand to cut interest rates in May, by 0.25% to 1.5%
Australian economic events and implications
The April Reserve Bank Board minutes had a more dovish tilt compared to recent communication with detailed discussion around impacts on the economy from lower interest rates. But a rate cut at the next Board meeting in May is unlikely. The March jobs data was solid with employment up by 25.7K over the month, with the unemployment rate higher (but still remaining low) at 5.0%. Forward looking readings on job advertisements, vacancies and hiring intentions are slowing but not collapsing and we expect annual employment growth to decline to below 2% over the next six months with a tick up in the unemployment rate to 5.5%. We have been expecting the RBA to cut interest rates twice this year and despite the labour market holding up we still hold that view because we think that the recent tick up in the unemployment rate (from 4.9% to 5.0%) will continue, home prices will fall more than the RBA expects and the RBA would be concerned about the slowing in global growth (although the global economy should be stronger in the second half of this year).
The March quarter NAB business confidence index declined to –1 from +1 in the prior quarter but this drop in confidence was already known in the monthly NAB business survey data. The next business confidence reading will be important as it gives a reading on business sentiment towards the Federal Budget.
What to watch over the next week?
US March quarter GDP may disappoint with consensus indicating 1.8% annualised growth. But, first quarter GDP data in the US tends to be weaker because of negative impacts from weather. March durable goods orders should strengthen after a fall in the prior month. There are also various measures of the US housing market including existing home sales, new home sales and the home price index which may benefit from the fall in bond yields which will lower mortgage rates.
No major announcements are expected from the Bank of Japan meeting next week. The focus for Japan in the near term is managing the scheduled consumption tax hike in October. March consumer price data should show low core inflation running around 0.4%, well below the 2% central bank target.
The Bank of Canada is expected to keep interest rates at 1.75% at next week’s meeting.
In Australia, it will be a quiet week with the Easter and Anzac Day break and the most important release is the March quarter consumer price data. We expect the headline consumer price index to be flat over the quarter with annual growth in prices declining to 1.3%. Petrol prices fell by around 10% over the quarter which will detract around 0.3 percentage points from headline CPI. Discounting pressures also appear to still be present which will weaken clothing & goods prices while food prices were up over the quarter. We expect underlying or core inflation (which the RBA targets) to increase by 0.4% over the quarter or 1.7% over the year, still below target. The RBA is well aware of muted domestic inflation so it’s unlikely that the March data will significantly change the central bank’s inflation forecasts, but it may give the RBA the green light to shift to an easing bias in May given the more dovish communication lately. Import and export price data is released and should show a rise in the March quarter terms of trade.
Outlook for markets
Share markets – globally and in Australia - have run hard and fast from their December lows and are still vulnerable to a short-term pullback. But valuations are okay, global growth looks to have bottomed and is expected to improve into the second half of the year, monetary and fiscal policy have become more supportive of markets and the trade war threat is receding, all of which should support decent gains for share markets through 2019 as a whole.
Low yields are likely to see low returns from bonds, but government bonds continue to provide an excellent portfolio diversifier. Expect Australian bonds to outperform global bonds.
Unlisted commercial property and infrastructure are likely to see a slowing in returns over the year ahead. This is particularly the case for Australian retail property. However, lower for even longer bond yields will help underpin unlisted asset valuations.
National capital city house prices are expected to fall another 6% or so into 2020 led by Sydney and Melbourne on the back of tight credit, rising supply, reduced foreign demand, price falls feeding on themselves and uncertainty around the impact of tax changes under a Labor Government.
Cash and bank deposits are likely to provide poor returns as the RBA cuts the official cash rate to 1% by year end.
The A$ is likely to fall into the US$0.60s as the gap between the RBA’s cash rate and the US Fed Funds rate will likely push further into negative territory as the RBA moves to cut rates.
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