We are seeing signs of volatility returning to markets, which has been reflected in an increased divergence in returns between regions, sectors and securities alike. For some time, we have flagged that volatility in markets has been subdued, underpinned by a wave of liquidity being pumped into global economies by central banks in the form of quantitative easing (QE). We have seen bond yields trade at historic lows and the subsequent low interest rate environment has led to increasing debt levels among both corporates and households.
With central banks unwinding their QE programs and interest rates in the US going up, from an equities perspective the focus will increasingly be on future earnings growth, which to date has been trading above nominal GDP, partly due to low wage growth. Furthermore, the ongoing ‘trade wars’ between the US and China may potentially lead to lower global growth, with some market commentators already suggesting that the dip in China’s economic growth is partly the result of the impact of tariffs on Chinese exports.
We believe that the increased volatility in markets will create opportunities for quality active investment management, and portfolio diversification will become increasingly important. The bull market we have experienced in recent years has been conducive to growth and price momentum factors. However, as we progress through the later stages of the cycle, ensuring that portfolios are diversified by style as well as strategy (e.g. long only, long/short, absolute return) will be important as we see growing divergence in performance across the investment landscape.
The S&P/ASX 200 Index returned -1.3% in September as the benchmark was dragged down by Financials (-2.2%) and the Health Care sector (-7.7%), including a major dip in pharmaceuticals giant CSL (-11.5%) which is coming off record highs following August’s earnings season. The Federal Government’s announcement of a royal commission into the aged care sector also impacted care providers Estia Health (-22.3%) and Fisher & Paykel Healthcare (-8.1%), which will begin engaging on the terms of reference of the inquiry. Meanwhile, the Royal Commission into Financial Services weighed on major insurance providers in September, with falls from Suncorp (-6.7%) and Insurance Australia Group (-5.2%).
The Energy sector (+4.3%) was the top gainer in September, recovering from August’s falls, led by oil and gas explorer Beach Energy (+10.3%). Materials (+4.2%) also bounced back, with Rio Tinto (+8.3%) announcing a US$3.2 billion share buyback. In September the S&P/ASX 200 Communications Services Index was formed, merging telecommunications, media and online advertisers. September performance was split across the new sector, with telcos Vocus Group (+15.1%) and Telstra Corporation (+2.9%) gaining, while Carsales.com (-6.7%) and Southern Cross Media Group (-6.7%) were the biggest losers.
Divergence between developed and emerging market shares has been a key theme in global markets, and it awaits to be seen if September’s recovery in emerging market shares will be sustained. Global developed market shares, measured by the MSCI World Ex Australia Index, saw modest gains in local currency terms, bolstered by gains from the US and Japanese markets. The Dow Jones Industrial Index hit a record high in early October, pushing above 28,600 points, and the Japanese Nikkei 225 returned 6.2%, powering to a 27-year high following the final negotiation of a trade deal between the US, Mexico and Canada (USMCA).
Leading US sector returns was the newly created Communications sector (+4.3%), which was boosted by traditional media and telco stocks including Viacom (+15.3%) and AT&T (5.1%), while ‘new’ media stocks Twitter (-19.1%) and Facebook (-6.4%) were down. The MSCI Emerging Markets Index was down 0.6% in September in Australian dollar terms but rose 1.8% in US dollar terms. Emerging market equities recovered partially through September, with the Turkish market rising 16.3% in US dollar terms and the Argentinian index rising 7.0%. Selling in emerging market currencies showed signs of reversing in September, only to continue to slide through the start of October.
Global bonds, measured by the Barclays Global Aggregate Index, returned -0.4% in September in AUD hedged terms as yields in both developed and emerging markets pushed higher. The US 10-year Treasury yield rose to a seven-year high in early October, pushing above 3.20% on the back of positive employment data, while markets focused on the potential for higher inflation and the impact of rising interest rates on equity markets.
Following the Fed’s September rate hike, markets are still strongly anticipating a further increase in the funds rate in December, which would bring the target range to 2.25–2.50% by the end of 2018. Another three hikes are currently projected for 2019, which would move the funds rate above the ‘neutral’ rate. The Australian 10- year Treasury yield rose in September from 2.52% to 2.67%. The Australian dollar has been closely tracking the continued erosion of Australia’s interest rate spread, with the difference between the Australian 2-year Treasury yield moving just below 90 basis points in early October. Government yields in Turkey and Argentina, both of which have been on the front line of recent market turmoil, eased through September.
The S&P/ASX 200 A-REIT Index returned -1.8% in September as rising yields brought the sector under pressure. Shopping centres tracked downwards, with Vicinity Centres (-5.4%) sliding through the month before announcing the selloff of 11 centres for $631 million, and Scentre Group (-3.4%) feeling the pinch as department stores battle falling revenue. Over the past year, the ASX 200 A-REIT Index has delivered broadly in line with the ASX 200 Index, and has outperformed Australian shares over five and seven years.
While rising long-term bond yields are generally negative for REITs, especially those with higher leverage, the sector is proving relatively robust, indicating that investors are still looking for exposure to sustainable income and high-quality property. Labour’s plan to eliminate most cash refunds for excess franking credits may also result in a shift away from highdividend paying and franked shares in preference of REITs and infrastructure.
Globally, developed market property returned -1.8% on a hedged basis in September. US REITs hit a roadblock in September, with the Bloomberg US REIT Index down 3.1%, with falls in Health Care (-4.8%), Office (-4.3%) and Malls (-3.2%).
The Australian equity market (as measured by the S&P/ASX 200) started the year off much like the previous finished, although most of the steam had been taken out of the rally with January producing a solid +1.20% return. February was much more muted with the uncertainty of an imminent reporting season hanging over the market however with better-than-expected results, coupled with softer-than-expected domestic inflation data, March provided some highlights as Australian shares hit new record highs. The quarter ended on a high with March producing +3.27% closing the quarter off with an attractive +5.53%.
2023 made for another very interesting year in investment markets as macro / regime driven events resulted in extreme shifts in investor sentiment on an almost monthly basis. Investors chose to shoot first and ask questions later in what can best be described as a year of maximum noise.
The Australian equity market (as measured by the S&P/ASX 200) started the September quarter with a flurry but ended up in the red as the global “higher-for-longer” narrative (interest rates) coupled with the ever-increasing cost of living concerns caused consumer confidence to wane.