Investment markets and key developments over the past week
- Global shares had a much better week with the US central bank signalling that low US interest rates will for prevail until at least April 2015. American shares (S&P 500) have risen by circa 3.4% this week with similar gains for Europe (+2.4% for the Eurostoxx index). Japan’s TOPIX is up a more modest +0.7% for the week.
- Australia’s ASX 200 had a more encouraging week with a +2.3 % gain on the back of the Global rally.
- Government bond markets in America and Germany responded to the better Global Share performance with a rise in yields. American 10 year Government Bond yields rose by + 8 basis points to 2.16%. German 10 year bond yields fell by 3 basis points to 0.59% while Japanese Government yields also fell by – 3 basis points to 0.36 %. For Australian 10 year bond yields, there was a modest rise of 5 basis points to 2.94% for the week.
- Russia is in a major crisis judging by the collapse in the Russian rouble and surge in interest rates in December. The -40% slump in oil prices and economic sanctions by America and Europe has seen the Russian rouble fall -52% against the American dollar this year. In a desperate attempt to stabilise the rouble, Russia’s Central Bank raised interest rates by 6.5% to 17% on December 15th. However given that Russia appears to be sliding into recession with oil prices yet to stabilise, this astonishing interest rate rise is likely to make the Russian currency and economy sink deeper into the cold winter snow.
- America’s central bank (“FED”) held their final monetary policy meeting for 2014. The FED considers that the US economy is “expanding at a moderate pace” with “solid job gains”. The FED “judges that it can be patient” in starting to raise interest rates. FED Chair Dr Janet Yellen commented that the FED “considers it is unlikely” to raise US interest rates “for at least the next couple of meetings”. This suggests that the April 28/29th meeting in 2015 is then the first probable opportunity for the FED to raise US interest rates in 2015.
- Australia’s Federal Treasurer Joe Hockey provided the update on the Federal Budget (also known as the MYEFO or Mid Year Economic and Fiscal Outlook). There has been a significant deterioration in the Budget deficit forecasts for the next 4 years given weaker Global commodity prices and the subdued Australian employment growth. The revised forecast is for a Federal Budget deficit of A$ - 40.4 billion in 2014-15 compared to the initial A$ 29.8 billion estimate back in May. So Australia’s budget deficit has increased from -1.8% of Nominal GDP to -2.5% for 2014-15 .There is a projected return to a Federal Budget surplus “in 2019-20 with the surplus reaching 0.8% of GDP”. However this 2018-19 Budget surplus appears very dependent on constrained Government spending with the MYEFO assuming only +1% real growth in public spending from 2015-16 onwards.
Major global economic events and implications
- America’s central bank (FED) also released the key economic forecasts at the December meeting. America’s economic growth is expected to mildly accelerate from 2014 estimate of 2.3 % towards 2.66 to 3.0% in 2015. The US unemployment rate is expected to fall from 5.8% to the “5.2 -5.3%” range in 2015. Notably the 2015 inflation forecast has been lowered from the previous “1.6 to 1.9%” to now “1.0 to 1.6%”. The FED noted that US inflation “has continued to run” below the 2% target “reflecting declines in energy prices”. The FED expected “inflation to rise gradually” as the “labour market improves and the transitory effects of lower energy prices and other factors dissipate”.
- Global PMI manufacturing surveys give a mixed picture on economic activity. The American economy is doing reasonably well, Japan appears to be emerging from recession but Europe is still struggling.
- America’s Markit PMI survey did edge lower by -1 point to 53.7 in December. Yet Markit noted that this PMI reading suggests “US manufacturing output and new orders continued to rise at a solid pace”. November’s industrial production data illustrates America’s strength with the largest monthly gains in 4 years.
- Europe’s PMI actually improved by +0.7 to 50.8 in December which is mildly encouraging. However Markit did highlight that Europe “saw slightly faster growth of business activity in December but still ended the year on the whimper rather than a roar”.
- Japan’s PMI marginally rose by +0.1 to 52.1 in December. Japan’s manufacturing sector appears to be materially benefitting from the sharp weakness in the Japanese Yen which has insulated the sector from the 2014 recession. Markit noted that the “short term outlook appears broadly positive”.
- China’s HSBC PMI manufacturing survey fell to a 7 month low in December, indicating that China’s slowdown continues. Residential property prices fell further in November, bringing the annual decline to -3.5%. Given cooling production activity and the property market correction, China should cut interest rates further in early 2015 as well as step up targeted infrastructure spending measures.
Australian economic events and implications
- The RBA Board meeting minutes for December noted that a further currency decline “was likely to be needed”. There was also a reference to the RBA Board discussing that financial markets were starting to price in a further interest rate cut. So the RBA February’s 2015 meeting is likely to have the main agenda item being whether Australia’s cash interest rate should be cut further. AMP Capital Investors expects that the RBA will lower Australia’s cash interest rate by 0.25% to 2.25% in early 2015.
What to watch over the next week?
- America sees the release of another estimate for US real economic growth in the September quarter (expected to be close to 4% annualised growth).
- Japan sees the release of November employment and housing spending data on December 26. This should give some guidance on whether Japan is coming out of its recession.
- Australia should have a quiet week provided Santa turns up on time and is in a generous mood.
Outlook for markets
- Global shares should make solid gains next year. Share valuations are supportive given strong profit growth, low cost pressures and easy financing conditions. Global monetary policy should remain very accommodative given further quantitative easing (QE) in Europe and Japan, further interest rate cuts in China and only a gradual US interest rate tightening process in 2015. Global Shares are particularly attractive on a relative basis compared to very low Government Bond Yields.
- However Australian shares are likely to be only modest performers in the short term as commodity price weakness weighs on investor sentiment. A further RBA interest rate cut early in 2015 and a lower Australian dollar should progressively become supportive for Australian Shares in 2015.
- Low Global yields suggest modest medium term returns from Government bonds. Yet given weak commodity prices, subdued wage pressures and significant spare capacity in the Global economy, Government bonds should see only a gradual rise in yields in 2015.
Important note: While every care has been taken in the preparation of this document, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) and AMP Capital Funds Management Limited (ABN 15 159 557 721, AFSL 426455) make no representations or warranties as to the accuracy or completeness of any statement in it including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This document has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this document, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This document is solely for the use of the party to whom it is provided.