Economic and Investment Update - April 2015
by Lonsec Research
Summary of Key Views
Blistering start to 2015 - The Australian market rallied over 10% or 600 points in January and February. Lonsec has traced the strong rally back to a sequence of events which include:
A lower AUD (good for Australian exporters);
A lower oil price (lowers fuel costs);
Lower interest rates;
A reasonable February reporting season; and
A short squeeze, as the market continued to rally higher.
Readers will remember that Lonsec moved to overweight Australian Equities at the start of 2015 because we believed that the growth drivers for the Australian economy had multiplied from just one (low interest rates) to three (low interest rates, lower fuel prices and a lower currency).
While the journey to this point has been a bumpy ride, financial market conditions remain very accommodative for the broader economy and many sectors of the share market.
When one considers a cash rate of 2.25% (with the market expecting it to go lower), falling inflation, falling fuel prices and a more competitive exchange rate, it is clear that consumers and producers alike should receive a boost from these conditions.
Even mining, which has weathered a perfect storm in the past year will receive some benefit from lower fuel prices and a lower currency.
While we retain a positive outlook for the Australian share market there are always downside risks. Known risks in 2015 include: patchy conditions across the global economy, diverging central bank policies and economic challenges in Asia and Europe.
Global growth is being led by the US but Europe continues to wallow in low growth and the threat of deflation while most of Asia is in economic transition – particularly in China and Japan.
As a result, central bank policy has begun to diverge; the US Federal Reserve (the Fed) is gradually tightening policy while the Bank of Japan (BOJ) has recently increased monetary stimulus and the European Central Bank (ECB) has recently re-ignited its monetary stimulus. Divergent central bank policy has been a key reason for increased currency volatility in recent months. At the same time, the fall in oil prices will pose a challenge for Russia, the Middle East and other oil exporting nations reliant on oil income.
For Australia, key risks include: Asia continuing to slow; commodity prices staying lower for longer; consumer and business confidence remaining subdued; fiscal consolidation at all levels of government; and a housing market at risk of overheating.
On balance, we believe the positive factors (US led recovery, low interest rates, low inflation, cheaper fuel, lower AUD) are likely to outweigh the negative factors, as we progress throughout the year.
As mentioned previously, Lonsec increased its Australian Equity and A-REIT weighting at the start of 2015 as we recognised financial market conditions were very accommodative and we saw better value in the domestic equity market than in global equity markets, particularly compared to the US.
We retain a positive outlook for growth assets and remain generally neutral to underweight income assets.
Market developments during February 2015
The Australian ‘broad cap’ equity market, as measured by the S&P/ASX 200 Accumulation Index, had a particularly strong month, rising 6.9%. The sharp rise of the Australian equity market was largely driven by the cut in interest rates towards the beginning of the month. When assessed over 12 months the index has risen 14.5%.
From a regional perspective, European equity indices continued their stellar run into February, with all the majors benefitting from the European Central Bank’s stimulatory cycle. The German DAX, French CAC and U.K. FTSE returned 6.6%, 7.5% and 2.9% respectively during the month.
The U.S. equity market rebounded strongly in February, with the S&P 500 surging by 5.5%. Over 12 months the return of the U.S. market continues to impress, with the index rising 13.2% during this period.
The Australian fixed interest market, as measured by the Bloomberg Ausbond Composite Index, rose by 0.3% in February. Contrary to preceding months the Global Fixed Interest Market, as measured by the Barclays Global Aggregate Index (Hedged A$), fell by -0.4%.
Contrary to the majority of commentator’s expectations, the RBA left the cash rate unchanged during their March meeting. The RBA used its scheduled monetary statement to highlight the significant challenges facing the Australian economy, notably, rising unemployment, lacklustre investment and fiscal tightening. However, the RBA refrained from enacting further monetary stimulus due to its hesitation regarding house price appreciation in some Australian capital cities, particularly Sydney. Nonetheless, the market is expecting further cut/s to come in the short to medium term unless circumstances change materially.
REITs (listed property securities)
The S&P/ASX 300 A-REIT Accumulation Index, a proxy for the local REIT market, rose by an additional 3.7% in February. Local REITs have significantly outperformed other listed assets over the last 12 months, given their leverage to falling bond yields.
The GREIT market, as measured by the UBS Global Investors TR Hedged (A$), fell by -1.1% in February. Over 12 months the GREIT market marginally underperformed REITs listed domestically.
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