Economic and Investment Update - December 2015
by Lonsec Research
Summary of Key Views
Glass half empty
As we head into 2016, the divergence between major economies is quite stark. The US Federal Reserve (the Fed) is confident enough in the US economy to begin tightening monetary policy while Asia and Europe continue to slow and policy is being eased. This contrast in conditions has led to a generally rising USD and weakening commodity prices.
However, Lonsec continues to have doubts over the strength of the US economy. At the same time, credit spreads have started to widen in the US and this could be a leading indicator of problems ahead for the broader corporate sector, not just shale oil and gas.
Whilst we acknowledge US GDP and payrolls have been generally robust, thus justifying the Fed to tighten interest rates for the first time in nearly a decade, these indicators are lagging indicators and our concerns relate to the leading indicators like US aggregate company earnings (in decline for the past two quarters), corporate credit spreads (expanding), manufacturing surveys (contracting) and confidence (declining).
In Australia, the macro-economic environment seems stable with GDP growth of 2.5% and employment remaining robust but we note that large-cap companies on the ASX are struggling for growth and it seems only a matter of time before job losses are announced in various sectors including Energy (LNG), Retailing (WOW/Masters) and Banks.
Accordingly, Lonsec retains a generally bearish short term view with an underweight position in Australian equities, slightly underweight in global equities, neutral REITs and Australian Fixed Interest, slightly underweight International Fixed Interest and an overweight cash position.
Market developments during November 2015 included:
The Australian large cap equity market as measured by the S&P/ASX 300 Accumulation Index fell -0.7% in November. This was in line with weaker global markets through the start of November as expectations around the US Federal Reserve’s (Fed) tightening began to firm. By mid-month, the market was on a sharp path to recovery with losses largely recovered by month-end as the Fed ramped up its positive communication and the European Central Bank (ECB) added to the global liquidity equation.
Declines were led by Materials (-12.2%), Resources (- 11.9%), Utilities (-1.4%) and Consumer Staples (-1.3%). Healthcare (+5.2%) rose strongly, as did IT (+4.5%) and Financials (+1.6%) on the back of a strong rebound from the banks.
Over the month, divergent signals on global monetary policy resulted in rising volatility, with the CBOE VIX Index up by 6.7%. Investors re-adjusted their interest rate expectations with a December rate hike being priced in as an almost certain outcome. This was supported by higher than expected jobs data in the US and the Fed’s Minutes suggesting the economy was strong enough to withstand a start in monetary tightening. This was in contrast to expectations of further stimulus from the ECB and the Bank of Japan in response to weak inflation. The S&P 500 Accumulation Index finished the month down -1.3%, while both key regional Asian benchmarks were up (Nikkei 225 Index +3.5%, Shanghai Composite Index +1.9%).
Australian bond yields rose after much stronger-thanexpected employment data sharply reduced expectations of a near-term rate cut by the Reserve Bank of Australia. However, the Bloomberg AusBond Composite Index finished the month down -0.88%, in contrast to the Bloomberg AusBond Bank Bill Index, which comprises lower risk and shorter dated securities, finishing 0.17% up.
US bond yields rose slightly as markets began to increasingly price in a December “lift-off” for interest rates by the Fed. The Barclay Global Aggregate Index (Hedged A$) inched 0.20% higher. Eurozone bond yields fell in anticipation of further quantitative easing to be announced by the ECB.
REITs (listed property securities)
The Australian REIT sector returned -2.8% in November, underperforming both its global counterpart and the broader Australian equity market. The best performing sub-sector for November was Industrial, returning +1.0% driven by Industria REIT (+3.9%) and 360 Capital Industrial Fund (+3.8%). Retail stocks reversed recent gains returning -4.8% driven lower by Vicinity (-6.9%) and Westfield Corporation (-6.3%).
Global REITs lost -1.2%, as measured by the FTSE EPRA/NAREIT Developed Index. US results were flat while ex-US was weaker – with listed real estate in developed Asia declining by -2.5% and that of developed Europe falling by more than -5%. The decline in European REIT prices was not a reaction to the terrorist attacks in Paris as shares actually rallied. Instead, a stronger dollar accounted for most of the loss for US investors.
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