SMSF weekly market update
It was another volatile week for global shares. In this note, we explore some key economic events, provide an outlook for markets and indicate what to watch in the coming week.
It was another volatile week for global shares as the US Federal Reserve (Fed) provided a reminder about China and emerging market driven global growth worries. This saw US shares fall 0.2% for the week, Eurozone shares down 0.6% and Japanese shares down 1.1%. Chinese shares also fell 3.2% as official support for the market was tested. Australian shares managed a 2% gain.
Bond yields followed a similar pattern to shares initially rising before falling and commodity prices reversed some or all of their gains later in the week as global growth concerns came back into focus and the US dollar rose. While the Australian dollar rose over the week it ended well off its highs.
Key economic events and implications
Economic data remains mixed and suggests that growth is continuing to trend along around 2-2.5%. Retail sales data was solid with upwards revisions to previous months and homebuilders’ conditions were strong. Against this, housing construction fell and industrial production and manufacturing conditions were soft. While consumer spending is fine, the strong US dollar and an inventory correction looks to be weighting on manufacturing.
Capacity utilisation is also running at sub-par levels which may be constraining business investment and pricing power. In terms of the latter, inflation remained low in August with headline inflation remaining at 0.2% year-on-year and core inflation at 1.8% year-on-year. Were it not for housing costs, the core inflation rate would be just 0.9% year-on-year. There is clearly plenty of room for the Fed to continue delaying the interest rate lift off.
Industrial production and construction activity was a bit stronger than expected in July, but inflation for August fell to 0.1% year-on-year and core inflation fell to 0.9% year-on-year, both of which are well below target.
Business conditions are likely to remain solid and bank lending growth should show further signs of gradual improvement. The focus will also be on the Catalonian regional election (Sunday September 27). With the polls indicating that Catalonians prefer to remain in Spain, the election outcome shouldn’t be an issue for markets.
There was no sign in the Reserve Bank of Australia (RBA) Governor Steven’s Parliamentary testimony that the RBA is moving towards another interest rate cut just yet. The Governor seemed reasonably comfortable that the Australian economy is rebalancing and that the Australian dollar was around fundamentally-justified levels. While the economy is not doing as badly as many seem to have expected (and still expect) my view remains that it is likely to need more help and this will come in the form of more interest rate cuts and a lower Australian dollar.
The change to Malcolm Turnbull as Australia’s Prime Minister won’t change the current Australian economic reality flowing from the end of the resources boom, but it does have the potential to help. At the very least we should see a short term boost to confidence as he is a more popular political leader. More importantly, we are likely to see a better articulation of Australia’s economic challenges and what we can do to address them and greater flexibility in working to help guide reforms through Parliament. While I won’t be rushing to revise up economic growth forecasts and investment market return expectations, the change does provide a bit of upside risk.
Outlook for markets
- While the base building action seen in most sharemarkets since the late August lows is positive, it’s still too early to say that we won’t see another leg down. At the very least share markets remain vulnerable to more volatility over the next month or so as we are still in a seasonally weak period of the year for shares and uncertainties regarding China and the emerging world remain. A failure to resolve the US budget impasse by October 1 could also add to volatility.
- Beyond near term uncertainties, we see the cyclical bull market in shares as likely to resume. Shares are cheap relative to bonds; monetary conditions are set to remain easy with the latest global growth scare likely to drive further global monetary easing in some countries and the Fed indicating it won’t do anything to threaten global growth. This should help see the global economic recovery continue and investor sentiment is around the levels of pessimism that provides great buying opportunities. As such, despite near term uncertainties, developed country sharemarkets are likely to remain in a broad rising trend. This includes the Australian sharemarket.
- Low bond yields point to soft medium term returns from bonds, although the recent sharemarket downswing which saw bonds rally provides a reminder that government bonds remain a great portfolio diversifier.
- In the short term, there is a chance of a further bounce in the Australian dollar to around $US0.75 partly reflecting the Fed’s more dovish stance on interest rates. However, the broad trend in the Australian dollar is likely to remain down; we expected a fall to $US0.60 in the next year or so, with the risk that it may go even lower.
What to watch?
Get ready for some noise out of Washington. The US budget and debt ceiling may hit the headlines again soon with Congress needing to pass budget funding for the new fiscal year that begins October 1. This and a desire by a group of extreme Republicans to tie budget funding to defunding Planned Parenthood could lead to the usual brinkmanship. The Republican Party knows that it will end up getting blamed by the American people if it goes down the shutdown route again, and this is something they will likely be keen to avoid given the closeness to next year's elections. So our base case is a last minute deal but no shutdown.
Similarly, expect some argy bargy around increasing the debt ceiling later this year (it looks like being reached around mid-November to early December) and again another last minute deal. However, budget funding and the debt ceiling could end up getting rolled in together again and the risk of some market impact is certainly there, so it’s worth keeping an eye on.
About the author Head of Investment Strategy and Economics and Chief Economist at AMP Capital, Shane is responsible for AMP Capital's diversified investment funds. He also provides economic forecasts and analysis of key variables and issues affecting, or likely to affect, all asset markets.