JUNE QUARTER 2018 COMMENTARY

Transcription

1 JUNE QUARTER 2018 COMMENTARY Broadly, global economic growth continues to be solid with the International Monetary Fund (IMF) forecasting net growth of 3.9% in 2018 i and inflation remains relatively contained on the back of low wage growth in most developed economies. However, the potential divergence around many forecasters central economic scenarios appears to have widened as a result of trade tensions emanating from the USA and a wide array of geopolitical events. Protectionist policies announced, and threats made, by US President Trump remain key to the global growth outlook, however particularly for the US itself and China. On 6 th July 2018, the US imposed tariffs of 25% on $34bn in Chinese exports to the US, and Chinese authorities announced similar levies on the same amount of US exports to China. The US then threatened further action releasing a list of goods totaling $200bn of trade on which it would levy a tariff of 10%. The total of imports from China on which the US has now threatened to impose tariffs is now $500bn, which is a level at which China is able to respond with direct like-for-like tariffs given that US exports to China in 2017 were worth approximately $130bn. In response, China has lodged a complaint with the World Trade Organisation ii, the outcome of which remains to be seen. The IMF has warned that the tariffs announced by the US and the retaliation to date from Europe, China, Mexico and Canada could escalate and reduce global economic growth by 0.5% by 2020 iii. Despite this backdrop, the US economy has continued its recent momentum in many respects. US GDP growth for the first quarter of 2018 was 2.0%, below expectations for 2.2%, and lower than the 2.9% rate recorded in the last quarter of 2017 iv. However, employment gains continue to be strong, with Non-Farm Payrolls adding 223,000 positions during May and 213,000 in June, both up from 159,000 in April, which saw the unemployment rate dip below 4%, to 3.8% in May, and then return to 4% in June v. At these levels, US employment is clearly in full-employment territory. Wage pressures have continued to grow however wage inflation remains low, especially relative to the strength in employment and for this stage in the economic cycle. The Federal Reserve (Fed) increased interest rates again in June, the seventh increase since December 2015, to the range of %, as widely expected vi. The median expectations of members of the Fed s Federal Open Market Committee (FOMC) increased since the March meeting, and their expectations are now for an earlier increase in rates above the estimated neutral level (the level at which interest rates neither stimulate or sedate the economy) by the end of 2019, although their expected level of rates in 2020 was unchanged at around 0.50% above the neutral rate vii. As the tax cuts start to take effect and government spending increases, the IMF is forecasting expansion of the US economy at a rate of 2.9% for 2018 viii. In the Eurozone, inflation decreased to 1.0% over the year to June, which was in line with expectations ix, while GDP for the first quarter of 2018 remained at an above-trend 2.5% x. Confidence in the Eurozone appears to be holding up relatively well, against a very difficult backdrop, with the Purchasing Managers Index (PMI) remaining well above the level of 50 which indicates expansionary purchasing intentions by businesses, recording 55.1 in April, 54.1 in May and 54.9 in June xi. Political tensions in Italy, the fourth largest economy in the Eurozone (and soon to be the third largest after the United Kingdom (UK) leaves), reached a crescendo following the uncertain election result earlier in the year. The catalyst on this occasion was the nomination of Paola Savona ( an avowed Eurosceptic ) as Finance Minister, which was rejected by Italian President, Sergio Mattarella late in May xii. After a strong response from the markets (refer to the graph of Italian bonds below), Mr Mattarella allowed more time for the coalition of the Five Star Movement and Lega parties to form government. In the end, a new Finance Minister, Giovanni Tria, was proposed and accepted, and both parties appear to have backed away from proposals to withdraw Italy from the European Union (EU). Page 1

2 Since then, markets have substantially calmed down. The chart to the left illustrates the reaction however also puts the recent rise in Italian bond yields into a historical context. There is, however, a high probability that uncertainty in Italy reemerges as some of the tax cut and spending increase policies on the agenda for the new government appear to be contrary to EU fiscal rules. Following the famous statement by European Central Bank (ECB) president Mario Draghi to do whatever it takes to preserve the euro, facilities were set up for Eurozone nations to use to access funding. However, the conditions attached to those facilities are unlikely to appeal to Italy s populist government. This prompted ECB Vice President, Vitor Constancio, to comment that Italy knows the rules relating to the use of these facilities, adding they might want to read them again. xiii It is also, on this occasion, seemingly fortunate that Italy has a long history of short-lived governments. In June, the ECB also announced its intention to scale back its stimulus package by winding down is net asset purchasing program by the end of 2018, however confirmed an expectation to maintain the current level fo negative interest rates until mid-2019 xiv. Commenting on this situation in June, Mercer summed it up as follows: Mercer believes the probability of Italy leaving the euro remains extremely low, although clearly such a development would be a high impact event (and a worst case scenario). This view is partly informed by the commitments from the leaders of the new government, as well as popular support within Italy to remain within the single currency bloc. Nevertheless, we note that Europe still has not addressed the structural problems of the single currency mechanism (in particular, issues around fiscal transfers), and which many believe could lead to renewed financial and political instability in the longer term. xv In the UK, Brexit negotiations continue amid policy turmoil for Prime Minister, Theresa May, with Brexit Secretary, David Davis, and Foreign Secretary, Boris Johnson (who many regarded as the face of the Brexit referendum) both resigning within 24 hours in protest against the form of the Brexit plan. In response, Mrs May has warned the UK parliament that there is a real risk of exiting the EU without an agreement. The Bank of England maintained current accommodative monetary policy settings. In July, the IMF cut its growth forecast for the UK for 2018 to 1.4%, reduced by 0.2% from its April forecast. Chinese GDP growth continued at a robust pace of 6.7% in the second quarter of 2018, in line with expectations xvi. Growth has been relatively steady at around this pace, which is slightly higher than Beijing s target growth rate of 6.5% for 2018 xvii, for some time now. Conditions for Chinese manufacturers continue to improve, albeit at a more modest pace than in recent history, with the Caixin PMI steady at 51.1 in May and 51.0 in June xviii. Page 2

3 The importance of Australia s economic relationship with China is never lost on any of us, and the current trade tensions between the US, a significant trade and security partner, and China create a difficult balancing act for our political leaders. The chart to the left illustrates this point clearly, both in terms of the importance of China for Australia s absolute level exports, however, more particularly, for the rate of growth in our exports over the past decade. supported our economy during the Global Financial Crisis (GFC)), however remains at very high levels. Pleasingly, however, our exports of services, such as education and tourism, to China have continued to grow at a strong pace. Chinese visitors to Australia are now clearly the largest spending visitors each year xix. In recent times, the value of our resources trade with China has been somewhat volatile and broadly declining (from the once in a lifetime levels that Emerging economies have also been affected by a wide array of geopolitical events, including upcoming elections in Mexico and Brazil, debt related issues for Turkey and Argentina, the latter of which has sought an assistance package from the IMF. Oil prices moved higher as demand remained robust due to strong global economic growth and supplies appear as though they could be under threat due to geopolitical as tensions in Iran and Venezuela. Here at home, GDP growth for the March quarter surprised on the upside with a reading of 3.1%, relative to the Reserve Bank of Australia s (RBA s) expected rate of at least 2.75% at their May meeting, and with non-farm GDP increasing at a rate of 3.6% xx. Employment conditions remain robust, however slightly less so than in recent history, with the unemployment rate remaining steady at 5.4% in May xxi. Inflation remains contained, allowing the RBA to maintain interest rates at their all-time low of 1.50%, where they have been since August The RBA also made an interesting point in the minutes for the June meeting relating to Australia s demographic trends, noting that strong population growth over the past decade has been driven in large part by net overseas migration of younger people, and that this has affected the age structure of the population. They believe that this is to an extent sufficient to reduce the impact of our otherwise aging population such that Australia s oldage dependency ratios were projected to increase by less than those of other advanced economies, despite a relatively high life expectancy. This would make Australia one of the youngest populations within this group of countries xxii. This is good news for all Australians however especially those that pay tax and those that receive government assistance, including the Age Pension. Summing up their view of economies abroad and at home, RBA Governor, Philip Lowe, stated: Page 3

4 The global economic environment was expected to remain favourable over the next couple of years, with most of Australia s major trading partners generally expected to grow at or above their trend growth rates. Inflation had remained low but had increased a little in some economies and further increases were expected, given the already tight labour markets, particularly in the major advanced economies. Against this backdrop, a number of central banks had withdrawn some monetary stimulus and further moves in this direction were expected. The Chinese economy had continued to grow solidly, with the authorities paying increased attention to the risks in the financial sector and the sustainability of growth. How the Chinese authorities navigate these various challenges would be important for growth in Australia and the rest of the world. Developments in US China trade relations would also be important for the outlook for the global economy. xxiii Investment Markets Growth asset class investment markets in general recovered from the weakness during the March quarter, which was a relatively positive period for economic and geopolitical news, to post solid gains during the June quarter, despite the more challenging economic and geopolitical backdrop. With interest rates in Australia remaining unchanged again at all-time lows, Australian cash again provided a modest return of 0.49% for the quarter and 1.78% for the year. Despite a negative start to the quarter, Australian fixed interest markets provided a return of 0.82% for the quarter and 3.09% for the year. International fixed interest markets also started the quarter with a negative return in April, however recovered in May and June to end the quarter with a modest gain of 0.15% for the quarter, and 1.85% for the year. Property investments, which bore the brunt of the volatility during the March quarter, recovered strongly both in Australia and overseas during the June quarter. Australian Real Estate Investment Trusts (A-REITs) provided positive returns in each of the three months during the quarter, resulting in a very strong return of 9.82% for the quarter, which dragged up the 12-month return to 13.20%. Their global counterparts, Global Real Estate Investment Trusts (G-REITs), followed a similar pattern and provided a similar return of 9.97% return for the quarter, resulting in an annual return of 8.95%. Australian shares were generally positive en masse for the quarter, achieving positive returns in each month and a very strong quarterly return of 8.47% and a return of 13.07% for 12 months. However, within the market, there was considerable company and sector specific volatility due to resource price movements and perceptions of the potential fall-out from the banking Royal Commission for various financial stocks. Returns from unhedged international shares followed a similar pattern, posting gains in each of the three months and a solid gain of 5.53% for the quarter for Australian investors who benefited from a reduction in the Australian dollar relative to the US dollar of 3.57% during the quarter. For the financial year, international shares achieved a strong total return of 15.39%. empowering your financial evolution TM Market Index Returns The table below summarises the returns for key market indices for the period to the end of the quarter: Page 4

5 Please note that the index for Global Property is hedged into Australian dollars thereby removing the impact of movements of the Australian dollar whereas for International Shares the index shown is not hedged meaning that this index includes the movements of the Australian dollar. Please note that these returns are before tax. Target Strategic Asset Allocation Weighted Market Index Returns The table below applies the above returns for the various asset class underlying markets on a weighted basis to our standard Target Strategic Asset Allocations for the various levels of risk tolerance. These returns will enable you to more appropriately compare your actual returns with the market index returns for the Target Strategic Asset Allocation set for your portfolio. You can determine which Target Strategic Asset Allocation Index is most appropriate for your portfolio by matching the Growth Allocation percentage in the table below with the Total for Growth Assets figure in the Target Weight column of the Target Strategic Asset Allocation v Actual Asset Allocation table in your personalized reports. For instance, if your personal Target Weight to growth assets is 50% you should compare with the Balanced returns below. If there are no figures in the Target Weight column of that table you should contact our office. Please note that the returns in the table below are before tax however some of your actual returns may be reported after tax. Page 5

6 General Advice Disclaimer The views expressed is this publication are solely those of the author; they are not reflective or indicative of Millennium3 Financial Services position, and are not to be attributed to Millennium3. They cannot be reproduced in any form without the express written consent of the author. The information (including taxation) is general in nature and may not be relevant to your individual circumstances. You should refrain from doing anything in reliance on this information without first obtaining suitable professional advice. You should obtain and consider a PDS before making any decision to acquire a product. Opt Out Clause: Mammoth Financial respects your privacy. Should you wish not to receive further publications please contact our office. yours sincerely, alex morris CFP SSA director & authorised representative mammoth financial pty ltd Contact Details Please feel welcome to contact our office via the contact form on our website or using any of the details below: p f e alex@mammothfinancial.com.au Sources: i ii The Guardian, China files complaint to WTO over Trump s $200bn tariff plan, 16/07/2018 iii BBC News, Trump tariffs will hurt global growth, IMF warns, 16/07/2018 iv v and vi vii 03/07/2018 viii BBC News, Trump tariffs will hurt global growth, IMF warns, 16/07/2018 ix x xi and xii xiiixiii Page 6

7 xiv 03/07/2018 xv xvi The Guardian, China files complaint to WTO over Trump s $200bn tariff plan, 16/07/2018 xvii 03/04/2018 xviii and xix Reserve Bank of Australia, Speech by Philip Lowe: Australia s Deepening Economic Relationship with China: Opportunities and Risks, 23/05/2018 xx 03/07/2018 xxi xxii 05/06/2018 xxiii 01/05/2018 Page 7