Economic Review

19 Oct

Economic Review

United States
US Federal Reserve (Fed) policy was a major focus this month, with the decision to leave the federal funds rate unchanged being widely expected by investors. The Fed also announced that it would start to gradually unwind its quantitative easing programme from October 2017, initially by allowing a set amount of Treasury (US$6b) and agency bonds (US$4b) to mature each month. This will increase over a twelve month period to US$30b per month for Treasury bonds and US$20b for agency bonds.

Data released during the month were generally firm. Whilst August employment was a little weaker than expected, with 156,000 jobs created in the month and the unemployment rate rising 0.1pp to 4.4%, the ISM Manufacturing Index rose 2.5 points to 58.8, mainly due to a 4.7 point increase in the employment component to 59.9. Retail sales fell 0.2% in August to show annual growth of 3.2%. Inflation continued its modest acceleration, with the headline rate rising 0.4% in August to be up 1.9% over the year and core inflation up 0.2% in the month and 1.7% over the year.

President Trump announced his proposed tax reform agenda that includes reducing the number of income tax brackets from seven to three (12%, 25% and 35%) and a significant reduction in the US statutory corporate tax rate to 20% from 35%. Whether or not he can get these policies through Congress remains a key question..

Growth in Europe continues to surprise on the upside and leading indicators remain upbeat. This includes the Market Composite PMI that was stronger than expected in September, rising 1.0 points to 56.7. Both the services and manufacturing components contributed to the rise, with the latter hitting a new high for this economic cycle.

Inflation is gradually picking up but remains relatively low. Headline inflation rose 1.5% year-on-year in September, up from 1.3% in July, whilst the core rate was virtually unchanged at 1.1%

The European Central Bank (ECB) left monetary policy unchanged after its monthly meeting but announced that plans for winding back its quantitative easing policy would be outlined to investors in October.

Japan’s economic data were mixed. The Nikkei Manufacturing PMI rose 0.4 points to 52.6 in September, mainly due to strength in the output, new orders and new export orders components. Q2 GDP growth was revised down to 0.6% from 1.0% due to lower than previously forecast business investment. Retail sales rose 1.8% year-on-year in July, down from 2.2% in June, however industrial production rose 2.1%% in August to show annual growth of 5.4%. The Bank of Japan left monetary policy unchanged.

In China, the economic data were also mixed. The Official Manufacturing PMI rose 0.7 points to 52.4 in September, led by solid rises in new orders and new export orders. However, both August retail sales and industrial production were weaker than expected, showing year-on-year growth of 10.1% and 6.0% respectively. Inflation remained benign, with the CPI up 0.4% in August to show annual growth of just 1.8%. There were no changes to China’s monetary policy during the month.

Australian economic review
The most significant Australian data were Q2 GDP that rose 0.8% in the quarter to be up 1.8% over the year. This was led by a 0.7% rise in private consumption and a 1.2% rise in government consumption. Business investment fell 2.1% whilst net exports contributed 0.3pp to growth in the quarter.

Other data remained quite firm. Employment rose 54,200 in August and the unemployment rate was unchanged at 5.6%. Over the past year, employment has now risen a strong 2.7% and hours worked are up 2.6%. Retail sales were flat in July but still up 3.5% over the year.

The Reserve Bank of Australia (RBA) left official interest rates unchanged following its regular meeting and the neutral policy bias remained intact.

Global share market review
Global share markets were generally stronger in September, supported by continued firm global growth data and stable monetary policies. In the US, the S&P500 Index managed to rise 1.9% despite the impact of hurricanes Harvey and Irma and the ongoing geopolitical tensions with North Korea. President Trump’s proposed tax reforms were viewed as potentially favourable for the market, particularly the corporate tax rate cut to 20% from the current 35%.

European markets were particularly strong, with the Euro Stoxx 50 Index up 5.2% and the German Dax Index up 6.4%. Sentiment was supported by continued strength in leading economic indicators and the success of Angela Merkel’s CDU-CSU alliance that won a fourth term in office in the German Federal elections, albeit with a lower than expected majority.

Asian share markets were mixed. Japan’s Nikkei Index rose 3.6% as the yen weakened against the US dollar. Prime Minister Abe also called an election for October 22nd, one year earlier than required by law. In China, the Shanghai Composite Index fell a modest 0.4%. Economic data were mixed and Standard & Poors downgraded China’s sovereign debt rating to A+ from AA- due to the higher economic and financial risks posed by recent strong credit growth.

Table 1: Global share market performance – July 2017
US S&P 500 +1.9%
US Dow Jones +2.1%
Euro Stoxx 50 +5.2%
German DAX +6.4%
UK FTSE 100 -0.8%
Japan Nikkei 225 +3.6%
China Shanghai Composite -0.4%
Source: Factset, IRESS

Australian share market review
The Australian share market was flat in September, as a slight rise in industrial stocks was offset by weakness in resources. The latter was impacted by a fall in the iron ore price (down 19%) in response to expectations of steel price declines due to weaker demand in China. Other sectors that experienced weakness included telecoms (-4.7%) and utilities (-4.0%), that were impacted by higher bond yields, and consumer staples (-2.5%).

Weakness in the Australian dollar (-1.4%) supported healthcare stocks (+1.3%) and other companies that have significant offshore earnings. Financials (+0.9%) also performed relatively well and energy stocks (+0.8%) were boosted by a 9.4% rise in the oil price.

In company news, Rio Tinto increased its existing US$1.5b share buy-back by a further US$2.5b. Beach Energy acquired Lattice Energy from Origin Energy for $1.585b.

Table 2: Australian share market performance – July 2017
S&P/ASX 200 Accumulation Index Flat
S&P/ASX 200 Industrials Accumulation Index +0.3%
S&P/ASX 200 Resources Accumulation Index -1.4%
S&P/ASX Small Ordinaries Accumulation Index +1.3%
S&P/ASX 200 A-REIT Accumulation Index +0.5%
Source: Factset, IRESS

Large Caps
The best performing Australian large cap stocks during the month were CSR (+17.1%), South32 (+14.8%) and Lendlease Group (+10.3%).

  • CSR (TWE) continued to benefit from the strength of the domestic housing and construction sectors. Management also delivered an upbeat Investor Day presentation during the month.
  • South32 (S32) continued to perform well following its favourable earnings report in late August. Strength in the Aluminium price due to China shutting capacity is supporting the stock. The company also announced its commitment to a drilling programme with its strategic alliance partner, AusQuest, at the Chololo Porphyry Copper Project in Peru. This should commence in Q1 2018 once the drill permitting process is complete.

The worst performing Australian large cap stocks during the month were TPG Telecom (-11.3%), Fortescue Metals Group (-10.9%) and Primary Healthcare (-10.8%).

  • TPG Telecom (TPM) weakened despite delivering record FY17 profits. Earnings rose 5% to $890.8m whilst net profit (after tax) rose 9% to $413.8m. However, investors focused on FY18 guidance which was weaker than expected. TPM expects to deliver earnings of $800-815m in FY18 which is around 3% below FY17. This mainly reflects lower margins in the fixed-line residential market due to the NBN, along with higher electricity prices. TPM also cut its dividend, preferring to retain some additional profits to invest in the rollout of its mobile strategy.
  • Fortescue Metals Group (FMG) was negatively impacted by the weakness in the iron ore price that fell 19% during the month in response to concerns about declining steel prices and the widening discount of its ore to higher quality ores. FMG also announced that CEO, Nev Power, will step down in mid-February 2018, having run the company for the past 15 years. FMG is yet to name his successor but indicated that it is considering both internal and external candidates..

Listed property
The listed property market rose modestly in September, with the S&P/ASX 200 A-REIT Accumulation Index delivering a return of 0.5%, outperforming the broader share market by 0.5%. Retail REITs (+2.7%) rebounded from their recent weak performance, whilst the industrial (-0.6%) and office (-0.4%) sectors ended the month modestly weaker.

REITs that performed well over the month included Abacus Property Group (ABP), Westfield Corporation (WFD) and Cromwell Property Group (CMW). WFD has underperformed over the past 12 months but investors now appear to be focusing on the potential positive impact of several large pending development completions. These include Century City (California) in October, UTC (California) in late 2017 and London in March 2018. CMW announced that it would not be proceeding with its planned Cromwell European REIT.

Charter Hall Group (CHC) was amongst the weakest REITs, despite the announcement that is was being included in the S&P/ASX 100 Index. National Storage REIT (NSR) and Stockland (SGP) also underperformed although no stock specific news was released on either REIT.

Important Information
This publication is produced by the MLC Investment Policy Team and issued by MLC Wealth Management Ltd and its related companies and entities for the intended informational use by financial advisers. Whilst due care has been taken in preparing this report, Australian National Consulting, ANC Wealth and MLC does not warrant or represent that the information, opinions or conclusions contained in this report are accurate, reliable, complete or current. This report is general information only and has been prepared without taking into account an investor’s individual objectives, financial situation or needs. The report should not be taken to contain securities advice or recommendations. Past performance is no indication of future performance.