May 03, 2019
May 03, 2019 | Investments Insightz
In this month’s Market Update Charles Stodart, Investment Specialist, looks at the latest events driving investor sentiment across the major asset classes.
- Returns since the start of 2019 have been strong across almost every asset class. In the US, the S&P500 posted its strongest first quarter since 1998 and has since moved back into record territory
- Both the US and China posted stronger than expected GDP growth in the first quarter (Q1), though temporary factors boosted the reported number in the US
- Trade talks between the US and China enter their fifth month
- Brexit pushed out to potentially 31st October in a bid to avoid an unintended no-deal exit, however a clear course of action in the UK remains elusive. The EU’s Donald Tusk ‘dreams’ of Brexit being cancelled
- Pressure builds in Australia for a rate cut after recent weak inflation data, though employment data remains firm for now. Federal election called for 18th May
- 10-yr bond yields sag as Central Banks turn more dovish. In the US, some parts of the yield curve invert, though the ‘recession predictor’ 2yr-10yr remains positive
- Several ‘decacorns’ (or privately held companies with valuations of at least $US10bn) have filed to go public. The largest, Uber, is due to list in mid-May
Following one of the worst quarters in memory, equity markets have begun 2019 with the best returns since the early 1990s. The sharp decline at the end of 2018, driven by macroeconomic and geopolitical concerns, created an oversold situation for global equities. Investor confidence improved in the first quarter as Central Bank policies turned more dovish, prospects for a resolution of the US-China trade conflicts improved and the outlook for China’s economy grew more positive. Adding further support, Q1 earnings, while muted, are turning out better than initially feared.
USA: The S&P 500 hit a record high at the end of April, propelled by stronger than expected earnings and Q1 GDP. With the majority of S&P 500 companies having reported, Q1 earnings per share (EPS) growth is running at 5% (vs the same period in 2018), better than expected, especially as some analysts had forecast an earnings recession. Revenue has also come in better than expected, with more than half of companies beating sales estimates. Q1 GDP was boosted by a build-up in inventories and strong net trade, which are unlikely to be sustained. By contrast, domestic demand was relatively weak, impacted in part by the government shutdown. The outlook is supported by solid employment, encouraging new home sales, rebounding consumer sentiment and a dovish Fed. For now, the US economy looks set to continue to expand, but a further acceleration seems unlikely. Investors should also be mindful of valuations that are no longer inexpensive.
China: Efforts to simulate the Chinese economy became clearer with measures of credit growth surging in March. Aggregate financing, the People’s Bank of China’s measure of credit to the real economy, surged fourfold in March from February and was well ahead of expectations, notwithstanding the impact of the Lunar New Year holidays. First quarter GDP growth held steady at 6.4%, slightly ahead of expectations, with noted contributions from industrial activity, retail sales and infrastructure spending. Proactive government support should allow the 2019 economic growth target of 6-6.5% to be comfortably met, provided trade talks come to a positive conclusion. After a challenging 2018, Chinese shares have raced ahead in so far 2019, with the MSCI China A-Share 50 Index up 33%.
Europe: Most European markets have also recovered all of their Q4 losses in local currency terms, though a weaker Euro has weighed on relative returns. However, underlying conditions remain muted, with manufacturing confidence still at low levels. The European Central Bank has provided market support by abandoning its intention to taper monetary stimulus, though it remains undecided as to how much extra support to provide to the region’s beleaguered banks. The political landscape remains challenging. In France, President Macron has announced further measures to placate the ‘yellow vest’ protest movement and in Spain the incumbent Socialist Party has won the most seats in the recent general election, though fallen short of a majority. Brexit has been postponed to potentially the end of October and while this reduces the risk of a ‘hard Brexit’, it also prolongs the period of uncertainty for households and firms.
The local market has continued its solid rebound, notably led by Technology shares. Afterpay has more than doubled since the start of the year as investors buy into the promise of continued strong growth. Trading at a rich 25x FY19 revenues, with profits flagged for FY20, the company has high expectations to meet. The Energy sector has also fared well as supply shocks have supported the oil price, most recently with the US ending waivers on sanctions against Iranian oil imports. Material names have been led by Fortescue Metals, up over 70%, as spot iron ore prices remain elevated. While the big banks have also rebounded, performance has been relatively muted.
With the May 18th general election fast approaching, election pledges delivered on the campaign trail may accelerate, particularly if polls continue to narrow. Meaningful policy changes have been proposed by the ALP, though investors are mindful that successful passage requires a majority in both houses.
Cash and Fixed Interest
The Reserve Bank of Australia left the cash rate unchanged at 1.50% in April. The labour market remains strong with the current unemployment rate currently sitting at 5%, though recent GDP data has been relatively lacklustre, prompting growth forecasts to be cut. The RBA is also monitoring the adjustment in established housing markets and the impact that might have on consumption. Weak inflation data in the first quarter, well below the RBA’s target range of 2-3%, has prompted some calls for a cut to the cash rate, though it remains unclear how eager the RBA is to respond to individual data points.
The US Federal Reserve’s pivot away from rate hikes has seen the US 10-yr bond yield retreat to 2.5%, roughly in line with the current cash rate. Market commentators have raised concerns about an inverted yield curve which has been noted in the past as a precursor to a recession, though the measure with the most weight, the difference between the 2-yr and the 10-yr bond yields, remains positive, mainly because the 2-yr bond yield has retreated to 2.26% (from 3% at the end of 2018) - implying that the next move by the US Federal Reserve may be a cut. Australian 10-yr bond yields have retreated to multi-decade lows at 1.78%. Bonds at these levels imply a relatively muted growth outlook.
Property – AREITs
AREITs have retreated modestly in April, after lower bond yields supported stellar returns in the first quarter. Equity investors were significant buyers of AREITs at the start of the year as they took a more defensive stance. Fund managers Charter Hall Group and Goodman Group were strong outperformers, as was Dexus as demand for office exposure remains strong. However, valuations have become elevated – Goodman Group is highly regarded, but currently trades on a 26x PE multiple, a valuation level not seen since before the GFC. Conversely, retail mall stocks have lagged as retail sentiment remains subdued. Concern has also been raised about several shopping centres that are in various stages of the selling process, which may weigh on asset values. However, there is some debate as to how far this has been recognised in valuations, with several key names trading at a meaningful discount to Net Tangible Assets.
Underlying property values are close to mature-cycle levels. The AREIT market overall appears relatively expensive on a price to Net Asset Value (NAV) basis, albeit significantly bifurcated between sectors that are in vogue and those that are not. Distribution yields remain attractive relative to bonds.
For more information on the markets contact your financial adviser.
Sources: Zurich Insurance Group, Renaissance Asset Management, American Century Investments, Lazard Asset Management, Wells Fargo Asset Management, Bloomberg.
Important information: The content of this publication are the opinions of the writer and is intended as general information only which does not take into account the personal investment objectives, financial situation or needs of any person. It is dated May 2019, is given in good faith and is derived from sources believed to be accurate as at this date, which may be subject to change. It should not be considered to be a comprehensive statement on any matter and should not be relied on as such. Past performance is not a reliable indicator of future performance and should be used as a general guide only. Neither Zurich Australia Limited ABN 92 000 010 195 AFSL 232510, nor Zurich Investment Management Limited ABN 56 063 278 400 AFSL 232511 of 5 Blue Street North Sydney NSW 2060, nor any of its related entities, employees or directors (Zurich) give any warranty of reliability or accuracy nor accept any responsibility arising in any way including by reason of negligence for errors and omissions. Zurich recommends investors seek advice from appropriately qualified financial advisers. Zurich and its related entities receive remuneration such as fees, charges and premiums for the financial products which they issue. Details of these payments can be found in the relevant fund Product Disclosure Statement. No part of this document may be reproduced without prior written permission from Zurich.
Past performance is not reliable indicator of future performance. GINN XYY9MQ.00000.SP.03. CSTT-014535-2019