Following a rocky start to 2016 and since our last update, there has been some limited relief as markets have rebounded slightly from their lows in mid-Feb where the Australian share market crossed into a technical bear market.
From last year’s highs to recent lows, Australian shares have fallen around -20%, US shares -14%, Eurozone shares -27%, Japanese shares -28%, Emerging market shares -27% and Chinese shares -49%. Valuations are therefore looking more appealing than in 2015 after these significant adjustments to share prices.
The reporting season has restored some confidence that amidst macroeconomic uncertainty, reinforcing that good businesses are still able to generate sustainable profits and cashflow. Markets have remained choppy both here and abroad with investors still remaining cautious of a slowing global economy, and keep an eye fixed on the Chinese economy.
I remain optimistic that while China’s year on year growth is slowing, it is still a juggernaut where growth should continue albeit the mix of this is changing. Household consumption and the services sector are growing, at the expense of the manufacturing sector. The continuation of this trend bodes well to many global businesses in the consumer sector who will benefit from the increased disposable income of their middle class.
To reinforce points made previously, the volatility in markets is nothing to fear and is the price of your ticket to long term returns. I am always surprised to see how quickly investor sentiment changes, with overreactions in both directions. Taking a look at the fear and greed index, we have now moved from a position of extreme fear to greed in the space of a month.
The Australian Story
So what did the report card look like for Australian businesses? Headlines generally were that the results were “Better than Feared”
In terms of expectations:
One of the factors of note is the dividend payout ratios, which were in line with expectations – but based on slower growth the buffer of earnings supporting these payout ratios are being eroded. This means that the margin for error is getting a little smaller and requires monitoring.
Cost management was another key theme with the belt buckle being tightened in many businesses, with low-ish levels of wage and capital expenditure growth across the board. Some relief was felt in businesses where fuel was a large part of costs such as transport.
The surprise to me is the relative strength of the Australian Dollar against the USD. Whilst the medium term outlook for the Australian Dollar (AUD) is that it is likely to fall further as the USD and US interest rates rise, and commodity prices continue to decline. In the short term is has been creeping higher and current sits at 0.75c to the USD, which is worrying the Reserve Bank of Australia (RBA). The target of the RBA has been around the 0.65c mark, and if the dollar remains at these levels it could place a drag on growth in Australia. So what is causing this? The key drivers are two-fold; firstly the relief in commodity prices has provided recent support, but the biggest driver is the interest rate differential between Australia and the rest of the world. As while are rates are low compared to history, they are still relatively high when compared to our peers globally. It appears likely that this differential will narrow in the coming year, placing downward pressure on the AUD.
Overall Australia piggybacked Chinese growth for several years, but all good things must come to an end and the resources investment boom is over. The impact for Australia is sub-trend growth, however there are still green shoots of growth in other sectors including services such as health, telecommunications and technology.
Unemployment has recently stabilised at around 6%, with services sectors growing at the expense of our manual and manufacturing sector.
The global economy
We have experienced heightened market volatility since the middle of last year, with a correction in the Chinese market, a continuation of the commodities devaluation.
A key focus still is China. China’s economic growth rate is slowing (at what exact rate we don’t really know) and the mix of Chinese growth is changing. Household consumption and the services sector are growing, albeit at the expense of the manufacturing sector. This shift has been felt by Australian commodity businesses such as BHP and Rio Tinto.
Economic growth across the advanced economies has been weak, although this is balanced by stronger levels of employment especially in the US. The big four advanced economies now are at or very close to technical full employment.
Negative interest rates in Japan and in parts of Europe don’t paint a pretty picture for investors with an eye on the global forecast for growth – as the risk is where to from here?
Until next time…
Whilst volatility has increased across asset classes, the message remains the same. Buy quality businesses which you can hold for a long period of time. That’s all from me for now. Until next time, happy investing!
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Wealth Collective trading as Pekada (ABN 95 624 612 684), corporate authorised representative (CAR), number 1263725, is authorised to provide financial services on behalf of Communitas Wealth Pty Ltd.
The information provided on this website is general in nature and does not constitute advice. You need to consider with your financial situation and your particular needs prior to making any strategy or products decision. Pekada will endeavour to update the website as needed. However, information can change without notice and Pekada does not guarantee the accuracy of information on the website, including information provided by third parties, at any particular time Unless otherwise specified, copyright or information provided on this website is owned by Communitas. You may not alter or modify this information in any way, including the removal of this copyright notice.