Market Review

Australian Economy

In Australia, house prices rose strongly again in October +1.2% month-on-month to take the year-on-year decline to -2.3% after -3.9% in September. Strongest gains occurred in Sydney and Melbourne. Q3 CPI rose +0.5% over Q2 and +1.7% for the year, still below the RBA’s +2%-3% target band.

The recent rebound in house prices removes the downside risk from a deep consumer deleveraging cycle.

Growth in retail sales of +0.2% in September was poor, not only half the consensus expectation, but the average monthly growth of +0.2% over the past six months shows little gain from low and middle income tax cuts and three interest rate reductions. Westpac CEO Brian Hartzer said consumers remain “cautious”, with flat wage growth constraining consumer spending. The September quarter retail sales data will feed into estimates for 3Q GDP. Markets continue to price in a 50-50 chance of a rate cut at the February 4 2020 meeting. Cash and bank deposits are likely to continue to provide poor returns.

NAB recently published their NAB Australian Wellbeing Report Q3 2019 (How Australians think and feel about their emotional and financial wellbeing). NAB’s Australian Wellbeing Index rose for the third straight quarter in Q3 2019 to 65.7 points – the second highest reading since the survey began in 2013. Australians reported their highest levels of happiness and life satisfaction in the history of the survey, with life worth also at an equal survey high. Despite these positive trends, one of the four dimensions of the wellbeing index worsened – anxiety. Highly anxious people also ranked their overall wellbeing much lower than those with low anxiety. Not only did overall anxiety rise, but anxiety specifically arising from our current financial position also increased.

The AUD/USD held steady at 69 cents. Gold rose slightly to US$1,515. Iron Ore slipped 5% and oil was flat at US$54.

Global Economy

Global markets rallied in October with strength broad-based in most sectors driven by optimism on the US-China trade war.

In the US markets eagerly await a US-China meeting on trade that is yet to be set aside. President Donald Trump announced a tentative agreement for a trade deal with the US suspending tariffs scheduled for October 15 in return for China buying up to $50bn in US farm products, indicating some lessening of trade tensions. The Federal Reserve cut interest rates by 0.25% at the third consecutive meeting with two members dissenting. The statement dropped the phrase “act as appropriate” and did not provide any forward guidance on the path of future rates – interpreted by most as a bias to remain on hold vs an easing bias from previous statements.

US: economic data was weak. The Institute for Supply Management’s factory index slipped to 47.8 in September, the lowest since June 2009. The figure missed all estimates in a Bloomberg survey that had called for an increase from August’s 49.1. Growth in orders and business activity slowed abruptly, while the employment gauge registered its weakest print in more than five years.

Non-farm payrolls missed, rising 136,000, vs expectations 145,000, although the unemployment rate fell to 3.5% from 3.7%. September core CPI was soft at 0.1% month-on-month while retail sales fell 0.3% (consensus +0.3%).

UK and Europe: Brexit headlines continued in the UK. Amongst the to and fro, MP’s voted for an in-principle Brexit deal and EU ambassadors agreed to an Article 50 extension to 31 January. An early general election was called for 12 December.

China: 3Q GDP growth of 6.0% was the slowest since 1Q 1992, the earliest quarterly data on record. It was also at the bottom-end of the government’s full-year target range of 6.0%- 6.5%. Industrial profits also remained weak in September, falling 5.3% over the prior year, following August’s 2.0% decline. Taken together, industrial profits fell 2.1% over the first nine months of 2019.

Emerging Markets: Emerging market equities rallied in October, amid a pick-up in risk appetite. Signs of progress in US-China trade talks, further global central bank easing and US dollar weakness all proved supportive. The MSCI Emerging Markets Index increased in value and outperformed the MSCI World for the first month since January.

Russia recorded a strong gain as the central bank cut interest rates by more than expected. Hungary was the best-performing index market, supported by strong performance from OTP Bank.

In conclusion: Against a backdrop of uncertainty around an aging economic cycle, trade dislocation, and a collapse in real interest rates, investors have chased growth, certainty, and yield. There has been less interest in the growing equity risk premium on offer for the ‘average’ stock. This has pushed a favoured few companies to record levels and has supported a gaping valuation difference between those companies with lower perceived quality or certainty. Credit and money growth have now started to improve again. Other leading indicators have turned up and PMIs, which are more coincident, are beginning to stabilize.

Table 1: Market Performance – Periods to 31 October 2019

Sector 1 Month
%
3 Months
%
1 Year
%
3 Years
% pa
5 Years
% pa
Australian Shares -0.4 -0.9 19.3 12.6 8.5
Australian Shares Small Cap -0.5 -1.8 14.4 10.4 9.6
International Shares Ex-Aus (Unhedged) 0.4 2.7 15.8 15.7 13.1
International Shares Ex-Aus (Hedged) 1.9 2.3 12.3 11.8 8.5
Emerging Markets (Hedged) 3.0 1.9 11.4 8.5 5.8
Emerging Markets (Unhedged) 2.0 1.1 15.1 11.0 8.1
Australian Listed Property 1.2 -0.4 23.6 12.7 12.4
International Listed Property ($A) 0.3 7.6 20.2 11.8 11.4
Australian Direct Property 0.2 1.1 6.8 10.6 11.6
Australian Fixed Interest -0.5 0.5 10.0 5.4 4.4
International Fixed Interest (Hedged) -0.3 1.3 9.7 3.9 4.7
Cash (BAUBIL) 0.1 0.2 1.6 1.8 2.0
Change over the month  
Australian Govt. 10 yr Bond Yield 1.03% 0 bps
AUD/USD $0.69 $0.01

*as at 30 June 2019

Australian Shares (S&P/ASX 200 Accumulation Index)

The S&P/ASX 200 Accumulation Index slipped slightly by -0.4% in October with the gain over the calendar year still a very generous +19.3%.

The S&P/ASX 200 Accumulation Index has risen every month this calendar year except August an October. But our market has lagged the global market in recent months due to our index having a large skew to the Banks.  The results delivered by the banks in early November reinforces that it is heavy going for this sector.

In terms of index performance, the Pharmaceuticals & Biotechnology sector (+9.6%) was the main sector contributor driven by CSL Limited which continues to deliver double-digit profit growth, while the Bank (-4.1%) sector was the main detractor as the sector starts to feel the impact of the low cash rate setting.

A lack of global growth has also dampened resource demand. BHP and RIO both eased back in October. A resolution of trade discussions would assist these stocks. October also saw some cracks appear in the super premium growth category. Wisetech fell -24% in October while Afterpay lost -19% and Costa another -17%.

The top three moves within the S&P/ASX 200 Accumulation Index included Clydesdale Bank (+24.5%) as the possibility of a “hard Brexit” was delayed until the end of January, Silver Lake Resources (+24.1%) after management announced gold production is expected to deliver in the upper range of guidance for the 2020 financial year and Clinuvel Pharmaceuticals (+23.7%) after the company received marketing approvals for a key product by the US Food & Drug Administration. The bottom three moves were Southern Cross Media (-33.6%) after management provided a soft earnings outlook for the 6 months to 31 December 2019 due to weak media markets, and Bega Cheese (-21.0%) after management downgraded the expected earnings in Financial Year 2020 due to increased competition in milk markets.

The index finished trading at a P/BV of 2.1x and a P/E Ratio of 18.0x and equity yield (dividend) of 4.1%.

The VIX was at 14.75 (the average since 01.10.2010 is 16.4) indicating below average level of market volatility.

Australian Shares Small Cap (S&P/ASX Small Ordinaries Index)

As a collective, Australian small caps (stocks 101-300 in the ASX) benefit from low interest rates, a low currency and availability of equity capital. Add a modest improvement in demand (high employment and some wage inflation) and there is reason to expect some growth.

The Small Ords Accumulation index fell -0.5% in October in-line with the broader index which returned –0.4%.

Some of the strongest performers in the small cap space came from; QMS Media (+33.2%) was subject to a bid from private equity group, Quadrant. Adelaide electronics company, Codan (+11.9%) continued to perform exceptionally well, at the company’s AGM, the board provided guidance well above consensus expectations.

Trailing P/E Ratio was at 19.8x at the end of the month, P/BV is at 2.1x and equity yield (dividend) of 3.1%.

International Shares (MSCI World ex Australia Index, Net AUD and the MSCI World ex Australia Index, Net LCL)

The MSCI World ex Australia Index (Unhedged) +0.4% for October whilst the MSCI World ex Australia Index (Hedged) returned +1.9%.

October was interesting in the distinct lack of volatility across almost all investment markets. In the US, the S&P500 was up +2.0% and the Nasdaq +3.6%. the UK FTSE was one of the few to fall – but only a modest +2.2%. Asian markets were a little firmer with China up 0.8%, HK up +3.1% and Korea +1.0%. Metals edged higher with gold up +2.5%, copper +1.6% better but nickel re-tracing +2.6%.

The uptrend in global equities so far this year continues to be led by P/E valuations rather than earnings, with the latter in turn supported by the decline in bond yields.

As at end-October, the global forward P/E ratio edged up to 15.3, from 15.1, compared with a 10-year average of 13.9.

Over recent years, the highest month-end P/E ratio reached by global equities has been around 16 to 16.5, or around 6% above current levels.

After solid gains from early 2016 to late 2018, global forward earnings peaked in November last year and declined by 4% by end-March 2019, reflecting sharp declines for earnings expectations in 2019 and 2020. That said, there are tentative signs that the downgrades to global earnings expectations for 2020 and 2021 are flattening out, which has so far resulted in a modest lift in forward earnings by around 2% since end-March. If current earnings expectations hold, forward earnings would rise by 9.6% over the coming 12 months.

US market: The US equity market ended the month in positive territory after the US Federal Reserve (Fed) cut interest rates as expected and signalled that it was unlikely to move in either direction any time soon.

While not a uniformly positive picture, earnings season has helped ease concerns about the outlook for global economic growth. About 80% of companies in the S&P 500 index had topped expectations for profits by 24 October (source: Bloomberg), though Texas Instruments and Caterpillar both highlighted the uncertainty caused by trade tensions and global economic weakness.

The strongest performing sectors over the month were health care and technology, which retains its place as the top performing sector so far in 2019.

UK market: The UK equity market provided a negative return during October. The market fell sharply at the beginning of the month, with the FTSE 100 index posting its worst single day return in more than three years. The market was volatile due to renewed concerns around economic growth, supported by the release of worse-than-expected Purchasing Manager’s Index (an indicator of economic activity) data for the UK’s services sector.

European markets: Made modest gains in October as investor confidence was underpinned by alleviating US-China trade tensions, talk of increased government spending in Europe and faltering chances of a no-deal Brexit. Carrying on from September, markets continued to witness a style rotation away from ‘defensive’ parts of the market and into more ‘cyclical’ and economically sensitive equities.

Chinese market: Chinese equities ended the month higher on hopes of a preliminary trade deal with the US. On 11 October, US President Donald Trump announced that the US had agreed to suspend the tariffs schedule for 15 October, while China agreed to buy up to US$50bn in US farm products and accept more American financial services. Meanwhile, China’s economic data was mixed. While China’s third quarter 2019 GDP growth slowed to 6.0% from 6.2% in the second quarter and economic indicators disappointed, industrial production was ahead of expectations.

Emerging markets: Emerging market equities rallied in October, amid a pick-up in risk appetite. Signs of progress in US-China trade talks, further global central bank easing and US dollar weakness all proved supportive. The MSCI Emerging Markets Index increased in value and outperformed the MSCI World for the first month since January.

The broader index finished trading at a P/BV of 2.3x and a P/E Ratio of 18.8x and equity yield (dividend) 2.3%.

Emerging Markets Shares (MSCI Emerging Markets Index, Net AUD)

It was a strong month for emerging equity markets with all the regions recording gains. The MSCI Emerging Markets Index (Unhedged) +1.9% for October whilst the MSCI World Emerging Markets Index (Hedged) returned +3.0%.

Asia led the advance, followed closely by Latin America. In terms of country performance, Hungary, Taiwan and Russia came top. However, while most equity markets advanced higher there were some exceptions, most notably Turkey, Chile and Saudi Arabia. All sectors in emerging markets finished in positive territory, apart from communication services, with healthcare, technology and energy enjoying the best gains.

The index ended trading at a forward P/E Ratio of 12.7x and P/BV of 1.6x and equity yield (dividend) 3.0%.

Australian Listed Property (S&P/ASX 200 A-REIT Accumulation Index)

The ASX 200 AREIT index experienced a strong month in October +1.2% outperforming the market by +1.6%. S&P/ASX Diversified AREITS returned +1.8% in October, S&P/ASX Office AREITS returned +0.9% and S&P/ASX Retail AREITS returned +0.5%. Key outperformers were SGP (+7.5%), BWP (+5.1%) and MGR (+4.9%).

For the last 12 months, the top performers were CHC (+70.0%) and MGR (+54.4%). The worst performers over 12 months were SCG (1.8%) and URW (-6.2%).

At the end of October, the index was trading on a dividend yield of 4.3% with a P/BV 1.2x and a P/E Ratio 14.4x.

International Listed Property (FTSE EPRA/NAREIT Developed ex-Australia Index, AUD)

Globally, REITs were up +2.3% this month (USD terms) but +0.3% in AUD terms. United Kingdom was the top-performing region (+10.3%), US (+1.8%), Continental Europe (+3.4%). The worst-performing region over the month was the Japan (+1.1%).

At the end of October, the index was trading on a dividend yield of 3.7% with a P/B 1.8x and a P/E Ratio 21.4x.

Australian Direct Property (Atchison Consultants Unlisted Property Funds Index)

Australian direct property posted a return of +2.0% over the June 2019 quarter. Capitalisation rates across property sectors continued to trend downwards. Cap rates across office, industrial and retail properties range are 5.2%, 5.8% and 5.2% respectively.

Australian Fixed Interest (Bloomberg AusBond Composite Bond Index)

Australian fixed interest fell by 0.490% over the month. Australian government 10-year bond yields increased by 13bps to 1.14% while 3-year single A corporate credit spreads tightened from 0.855% to 0.829%.

International Fixed Interest (Barclays Global Aggregate TR Bond Index, Hedged to AUD)

International fixed interest returned -0.27% over the month (Bloomberg Barclays). The 10-year US government bond yield increased by 1bp to 1.69% while the US corporate investment-grade credit spread tightened from 1.560% to 1.500%.

Australian Economy

The direction of the Australian economy rests, to an extent, with the Reserve Bank of Australia (RBA) Governor Philip Lowe’s regular speeches.  In September the RBA Governor’s “An Economic Update” speech left the door wide open for more rate cuts. Governor Lowe remains optimistic that the Australian economy has seen a “gentle turning point” but his comments around increasing downside risks to global growth, weaker than expected GDP growth, spare capacity in the labour market, a stalling in the pick-up in wages growth, it being “not unreasonable” to expect further easing and that markets should be surprised if the RBA didn’t “act consistent with our mandate” are all very dovish.

Both skilled job vacancies and the ABS measure of economy wide job vacancies fell (led by NSW and Victoria) pointing to slower jobs growth ahead and a further rise in unemployment. What’s more, ABS employment data by industry shows that all of the jobs growth in Australia over the last year has come from the public sector – which perhaps explains why jobs growth has been so strong relative to weak GDP growth. The CBA’s business conditions PMIs rose in September, but they tend to be a bit volatile and they are still well down from 2017 highs.

The pick-up in auction clearance rates that has occurred in Sydney and Melbourne this year is now being accompanied by higher listings and sales suggesting that it has legs. Key to watch for now will be whether clearance rates continue to hold up as the spring selling season heats up and whether housing finance commitments continue to rise. many commentators forecast that after a further bounce, price gains will be constrained through next year, due to still tighter lending standards, unit supply, slow growth and rising unemployment.

Cash and bank deposits are likely to provide poor returns as there is a strong possibility that the RBA cuts the official cash rate to 0.5% by early next year.

The A$ is likely to fall further to around US$0.65 as the RBA cuts rates further. Excessive A$ short positions, still high iron ore prices and the US Fed easing will provide some support though with occasional bounces and may avoid a sudden fall in the A$.

Global Economy

Global equity markets ended September in positive territory as investors weighed the latest turns in the trade war between the world’s two largest economies.

Meanwhile, a significant rotation swept through financial markets globally. It was the biggest rotation out of relatively expensive stocks exhibiting low corporate earnings volatility and strong share price momentum and into cheaper, unloved sectors offering attractive valuations versus history since the financial crisis.

Investors sold out of defensive low volatility stocks and higher growth technology companies which have propelled the decade-long bull market in the US. They opted instead for value stocks, which includes energy and financial stocks that have underperformed the broader market in recent years.

Of course, political risks loomed large, from the US Congressional investigation into President Trump’s dealings with Ukraine to Brexit. Indeed, the Brexit deadlock continued, and UK Prime Minster, Boris Johnson’s prorogation of Parliament was ruled unlawful by the UK Supreme Court.

UK and European equity markets provided a positive return during September as investors adopted a more ‘risk-on’ stance. Mario Draghi, leader of the European Central Bank (ECB), announced a fresh wave of stimulus measures to help shore up the economy.

While interest rate cuts in the eurozone and the US attracted global headlines, central banks in Latin America were also active with Brazil, Mexico and Chile reducing interest rates by 0.50%, 0.25% and 0.50% respectively.

September was a more challenging month for fixed income markets with many sectors recording their first negative monthly return of the year so far. In large part, this reflected movement in government bond yields, which increased from the record lows reached in August. The rise in government bond yields was driven by signs that the global economy may be stronger than had previously been anticipated and a potential thawing of trade tensions.

UK: Politics continued to dominate the domestic agenda during September. Boris Johnson’s prorogation of Parliament was ruled unlawful by the UK Supreme Court and the Brexit deadlock continued. The value of Sterling versus international currencies strengthened in the first half of the month but fell lower once again as we moved closer to the 31 October 2019 deadline.

US: Equity market ended September in positive territory amid easing fears over a trade war escalation and a cut in interest rates by the US Federal Reserve (Fed). The Fed said that the cut was aimed at shoring up the US economy, amid “uncertainties” about future economic growth.

Political risks continued to loom large after it was reported that House Speaker Nancy Pelosi would announce a formal impeachment inquiry of President Donald Trump. Economic indicators also muddied the picture. A key gauge of US business investment unexpectedly fell in August and consumer spending slowed, signalling the US economy cooled in the third quarter. consumer spending, which accounts for the bulk of US gross domestic output, climbed just 0.1% month on month — its weakest showing in six months. Spending slowed even as personal incomes rose 0.4 per cent, in line with expectations.

The US economy added 130,000 jobs last month, slowing more than expected, the latest official figures have shown. Economists polled by Reuters had expected an increase of 158,000. The unemployment rate was unchanged at 3.7%, though, while average hourly earnings growth rose 3.2% from last year.

China: Chinese equities underperformed regional peers despite an earlier easing in US-China trade tensions. Talks are set to recommence in October following President Trump’s raising of tariffs on Chinese goods in August. China retaliated with its own set of tariffs on US imports but had since released a number of exemptions as a “goodwill gesture”.

Domestically, the People’s Bank of China cut reserve requirements for all banks by 0.50%, stating that it will maintain a prudent monetary policy, maintaining reasonable and abundant liquidity.

Europe: European markets rallied strongly in September as investors adopted a more ‘risk on’ stance following some easing of US-China trade war rhetoric. The month also witnessed a sharp sector and style rotation as stocks with more cyclical characteristics (linked closely with economic activity) showed signs of coming back into favour, having significantly underperformed year to date.

European Central Bank announced a fresh wave of stimulus measures to help shore up the economy. The Central Bank said it would; reduce the deposit interest rate by 0.10%; restart quantitative easing (asset purchase programme); provide more favourable TLTRO bank funding (long-term loans to banks to incentivise lending to businesses and consumers); introduce deposit tiering (to reduce the impact of negative interest rates on banks’ profitability).

Emerging Markets: Equity markets advanced higher in September with all the regions registering gains. Latin America was the best performer, followed by Asia. From a country perspective, Turkey, Pakistan and Argentina came top with the best sector returns coming from technology, energy and industrials. While interest rate cuts in the eurozone and the US attracted global headlines, central banks in Latin America were also active with Brazil, Mexico and Chile reducing interest rates by 0.50%, 0.25% and 0.50% respectively. To bolster a sluggish economy and steer inflation back up towards the target, interest rates in Brazil were reduced to 5%, a record.

In conclusion: Markets to remain volatile in the months ahead due to several unresolved issues; US trade war with China (and now Europe), friction with Iran, impeachment noise and weak global economic data. However, all is not gloom, valuations remain attractive, particularly against low bond yields, global growth indicators are expected to improve next year, and monetary and fiscal policy are becoming more supportive.

Table 1: Market Performance – Periods to 30 September 2019

Sector 1 Month
%
3 Months
%
1 Year
%
3 Years
% pa
5 Years
% pa
Australian Shares 1.8 2.4 12.5 11.9 9.5
Australian Shares Small Cap 2.6 3.1 3.9 8.8 9.6
International Shares Ex-Aus (Unhedged) 2.0 4.6 9.1 15.0 13.0
International Shares Ex-Aus (Hedged) 2.3 1.5 2.6 10.8 8.3
Emerging Markets (Hedged) 1.5 -2.1 -0.2 7.6 5.5
Emerging Markets (Unhedged) 1.8 -0.4 5.1 10.5 7.8
Australian Listed Property -2.7 0.9 18.3 9.2 13.6
International Listed Property ($A) 2.6 9.6 17.9 9.8 12.6
Australian Direct Property 0.1 2.0 7.9 11.1 11.7
Australian Fixed Interest -0.5 2.0 11.1 5.5 4.8
International Fixed Interest (Hedged) -0.6 2.3 9.8 3.7 5.0
Cash (BAUBIL) 0.1 0.3 1.7 1.8 2.0
Change over the month
Australian Govt. 10 yr Bond Yield 1.01% 12 bps
AUD/USD $0.67 -$0

*as at 30 June 2019

Australian Shares (S&P/ASX 200 Accumulation Index)

The S&P/ASX 200 Accumulation Index bounced back in September returning +1.8%, masking a volatile quarter, further accentuated by a fairly lack-lustre FY19 reporting season. Earnings growth remains elusive in many sectors with many companies cutting costs to support margins and most companies giving mixed earnings guidance.

On sector basis Energy (+4.7%), Financials (+4.1%) and Small Industrials (+3.3%) were the standout performers. Whilst Telecom (-4.2%), A-REITs (-2.7%), Health Care (-2.5%) were the largest detractors.

Companies with strong franchises that continue to derive scale advantages continued to grow well; CSL, Sonic Healthcare, Coles, Woolworths, IAG and Steadfast. Resource companies bounced around at the whim of changing commodity prices but companies such as BHP (+5.8%), RIO (+4.3%) and South32 (+0.8%) managed to provide solid returns for the month.

The index finished trading at a P/BV of 2.1x and a P/E Ratio of 18.0x and equity yield (dividend) of 4.1%.

The VIX was at 14.04 (the average since 01.10.2010 is 16.4) indicating below average level of market volatility.

Australian Shares Small Cap (S&P/ASX Small Ordinaries Index)

As a collective, Australian small caps (stocks 101-300 in the ASX) benefit from low interest rates, a low currency and availability of equity capital. Add a modest improvement in demand (high employment and some wage inflation) and there is reason to expect some growth.

The Small Ords Accumulation index had a strong month returning +2.6% in September outperforming the broader index by +0.8%.

Companies such as Codan, Baby Bunting Group, Smartgroup Corporation, and EML Payments produced stellar returns.

Trailing P/E Ratio was at 20.0x at the end of the month, P/BV is at 2.1x and equity yield (dividend) of 3.0%.

International Shares (MSCI World ex Australia Index, Net AUD and the MSCI World ex Australia Index, Net LCL)

The MSCI World ex Australia Index (Unhedged) +2.0% for September whilst the MSCI World ex Australia Index (Hedged) returned +2.3%.

US equity market: US equity market rose by +1.7% over the month despite ongoing growth concerns and uncertainty surrounding US-China trade. The Fed acted as expected by cutting rates by 25 basis points both in July and in September but has not committed verbally to a more extended easing cycle.

Less economically sensitive areas of the market generally performed more strongly. Utilities, real estate and consumer staples were amongst the quarter’s better performers. Energy and Materials were weaker areas of the market, given expectations of a more challenging demand environment. Healthcare remains a matter of heated debate in the run-up to the 2020 US presidential election, and the political sensitivity caused the sector to lag the market.

UK and European markets: UK equities recorded modest gains amid concerns about the world economic outlook, many investors favoured assets perceived to have defensive qualities. These included so-called “quality growth” companies which are characterised by their superior and defensible earnings growth.

Eurozone shares made gains, the best-performing sectors included Utilities, Real Estate and Consumer Staples. Underperformers were Energy and Consumer Discretionary. The market saw a rotation in September with Financials, which had previously been out of favour this year, leading the gains.

Chinese market: China underperformed by a more modest margin. The US announced 10% trade tariffs on $300 billion of goods imported from China, some of which took effect in September. Following the announcement, the renminbi weakened beyond the symbolic seven-per-dollar threshold, and in response the US Treasury labelled the country a currency manipulator. The US also announced plans to increase existing tariffs of $250 billion of Chinese goods from 25% to 30% in October. China responded by announcing tariffs on $75 billion of US goods.

The long-awaited reversal from growth to value may have commenced. For the month of September, the MSCI World ex Australia Growth Index (Hedged) returned +0.7% versus the equivalent Value index (Hedged) of +4.1%.

At the country level, US stocks in September were up +1.7% (Hedged) Other major share markets provided solid returns, reversing last month loses. On a hedged basis; Japan (+5.9%), China (+0.6%) and Europe (+3.1%).

The index finished trading at a P/BV of 2.3x and a P/E Ratio of 18.3x and equity yield (dividend) 2.4%.

Emerging Markets Shares (MSCI Emerging Markets Index, Net AUD)

Emerging market equities recovered in September, +1.8% (Unhedged) even though there was an escalation in US-China trade tensions and concerns over global growth continued to mount.

All the regions registering gains. Latin America was the best performer, followed by Asia. From a country perspective, Turkey, Pakistan and Argentina came top with the best sector returns coming from Technology, Energy and Industrials.

The index ended trading at a forward P/E Ratio of 12.7x and P/BV of 1.6x and equity yield (dividend) 3.0%.

Australian Listed Property (S&P/ASX 200 A-REIT Accumulation Index)

The ASX 200 AREIT index experienced a negative month in September -2.7% underperforming the market by 4.5%. S&P/ASX Retail AREITS returned -1.2% in September, S&P/ASX Industrial AREITS returned -2.3%, S&P/ASX Diversified AREITS returned -3.1% and S&P/ASX Office AREITS returned -5.2%. Key outperformers were URW (+6.0%), CMW (+4.8%) and BWP (+1.3%).

At the end of September, the index was trading on a dividend yield of 4.4% with a P/BV 1.2x and a P/E Ratio 14.2x.

International Listed Property (FTSE EPRA/NAREIT Developed ex-Australia Index, AUD)

Globally REITs ended their solid run returning -2.7% for the month. In UDS terms, United Kingdom was the top-performing region (+7.7%). The worst-performing region over the month was Australia (-2.0%).

At the end of September, the index was trading on a dividend yield of 3.8% with a P/B 1.8x and a P/E Ratio 20.9x.

Australian Direct Property (Atchison Consultants Unlisted Property Funds Index)

Australian direct property posted a return of +2.0% over the June 2019 quarter. Capitalisation rates across property sectors continued to trend downwards. Cap rates across office, industrial and retail properties range are 5.2%, 5.8% and 5.2% respectively.

Australian Fixed Interest (Bloomberg AusBond Composite Bond Index)

Australian fixed interest fell by 0.487% over the month. Australian government 10-year bond yields increased by 12bps to 1.01% while 3-year single A corporate credit spreads tightened from 0.873% to 0.855%.

International Fixed Interest (Barclays Global Aggregate TR Bond Index, Hedged to AUD)

International fixed interest returned -0.58% over the month (Barclays). The 10-year US government bond yield increased by 17bps to 1.68% while the US corporate investment-grade credit spread tightened from 1.612% to 1.560%.

Australian Economy

The ongoing rally in Australian government bond yields received a further boost following an escalation in US-China trade tensions and forward guidance from the Reserve Bank of Australia (RBA) that an extended period of low interest rates was required for it to meet its employment and inflation objectives. Sentiment shifted from ‘risk-on’ to ‘risk-off’, with equity markets weaker and credit spreads widening.

Australian economic readings continued to provide mixed signals and partial indicators point to another quarter of sub-trend growth in the upcoming release of the June quarter national accounts. While retail sales rose by a better than expected 0.4% in the month of June, volume growth over the quarter was up by only 0.2% and points to sluggish consumption growth.

Construction work completed data for the June quarter was softer than expected, falling 3.8%. Total residential spending fell 5.1% and points to dwelling investment being a drag on economic growth over the June quarter. Business investment remains sluggish, with private capital expenditure falling 0.5% over the June quarter.

On the stronger side was Australia’s trade balance, which moved from a $6.1bn surplus to an $8bn surplus in June. Net exports are poised to add to economic growth over the June quarter.

Against this backdrop, the RBA released its updated economic forecasts. Their central case view is for economic growth to lift from 2.5% in 2019, to 2.75% in 2020 and 3% in 2021. Given the amount of slack that still has to be absorbed, the RBA have inflation lifting at a slower rate, with core inflation only reaching 2% in the second half of 2021.

In light of offshore and domestic developments, many commentators have built in a further two cuts in the cash rate, with a move to a 0.75% cash rate in November and a move to a 0.50% cash rate in February 2020. This stimulus will build on the pro-cyclical pulse the economy is receiving from earlier cuts to the cash rate, the first tranche of tax relief worth around 0.5% of GDP, a relaxation in macro-prudential policies, a lower exchange and stabilisation in house prices. Thereafter, it is expected that the cash rate will remain at 0.50% for an extended period.

Investors sought “safe-haven” assets in August and, as a result, the AUD depreciated against other major currencies. The Aussie finished 1.6% lower against the US dollar at US$0.6737, 0.8% lower against the euro and 3.9% lower against the yen. However, it gained 1.9% against yuan as the Chinese currency was allowed to devalue against the greenback.

Global Economy

August saw global stock markets decline while perceived safe-haven assets such as bonds outperformed amid escalating worries over trade and growth. A closely watched US bond market indicator suggested rising recession risk.

In the US, shares fell amid growth worries. The Treasury yield curve inverted for the first time since 2007, magnifying concerns that the economy may be heading into recession. Government bond yields declined significantly (meaning prices rose) amid the various geopolitical concerns. The US 10-year government bond yield fell 35 basis points, closing the month at 1.50%, a three-year low, while the two-year yield also ended at 1.50%.

UK: Figures from the Office for National Statistics revealed GDP fell 0.2% in Q2, following 0.5% growth in Q1. The biggest drag on growth in the quarter was a reduction in inventories in the run up to the initial 31 March Brexit deadline.

US: US equities declined in August, although the falls were less pronounced than in other major markets. The Federal Reserve (Fed) cut interest rates, as expected, at the end of July. The Fed’s comments indicated that the move was an adjustment rather than the start of an easing cycle, which seemed to disappoint investors concerned about an economic slowdown.

The yield on two-year US Treasuries briefly rose above those on the 10-year bond. This represents an in-version of the yield curve, which is regarded as an indicator of a forthcoming recession.

China: China posted a negative return but marginally outperformed. The US announced 10% tariffs on $300 billion of Chinese goods with effect from 1 September, albeit around half of these were later delayed to 15 December. The renminbi subsequently depreciated beyond the symbolic 7-per-US-dollar threshold, and in response the US Treasury labelled the country a currency manipulator. The Chinese authorities retaliated to trade actions with tariffs on $75 billion of imports from the US, and also suspended new US agricultural product purchases. Meanwhile, fresh policy support was announced in response to domestic economic weakness.

Europe: Eurozone shares ended lower in August with the MSCI EMU (Economic and Monetary Union) index returning -1.2%. Weak economic data from Germany weighed on stock markets while Brexit uncertainty remains another key concern for markets.

In Germany, the “composite purchasing managers’ index (PMI) came in at 51.4, indicating the economy is expanding. However, the manufacturing PMI came in at 43.6, well below the 50 mark that separates growth from contraction. The weak data raised suggestions that Germany’s government could increase spending in order to try and fend off a recession.

Political uncertainty was the theme of the month in Italy after the break-up of the governing coalition of the right-wing League and populist Five Star.

Emerging Markets: Emerging market equities lost value with further strengthening of the US dollar exacerbating wider risk aversion. The MSCI Emerging Markets Index decreased in value and underperformed the MSCI World. Amid rising uncertainty, those markets most sensitive to US dollar strength came under pressure. These included Turkey and South Africa, but also Argentina where surprise primary election results triggered a major sell off in equities and the currency.

In conclusion: Markets continue to be supported by liquidity. There were further dovish comments from both the US Federal Reserve (Fed) and the European Central Bank (ECB) over the month, with both central banks focused on pre-empting further economic weakness and suppressing the potential appreciation of their respective currencies. The challenge for markets is that global trade data remains soft. There are also some concerns about the Fed’s ability to ease aggressively when confronted with the strength of the US labour market.

Table 1: Market Performance – Periods to 31 August 2019

Sector 1 Month
%
3 Months
%
1 Year
%
3 Years
% pa
5 Years
% pa
Australian Shares -2.4 4.2 9.0 11.4 7.9
Australian Shares Small Cap -3.9 1.4 0.9 8.4 7.8
International Shares Ex-Aus (Unhedged) 0.3 8.0 7.6 13.7 13.5
International Shares Ex-Aus (Hedged) -1.9 5.1 1.1 10.0 7.6
Emerging Markets (Hedged) -2.5 1.0 -2.8 7.3 4.3
Emerging Markets (Unhedged) -2.7 2.7 2.7 9.7 7.2
Australian Listed Property 1.2 8.2 19.4 8.6 13.0
International Listed Property ($A) 4.5 7.0 16.9 9.4 13.1
Australian Direct Property 0.1 2.0 7.9 11.1 11.7
Australian Fixed Interest 1.5 3.5 11.2 4.7 5.3
International Fixed Interest (Hedged) 2.3 4.2 10.0 3.9 5.1
Cash (BAUBIL) 0.1 0.3 1.8 1.8 2.0
Change over the month
Australian Govt. 10 yr Bond Yield 0.95% -36 bps
AUD/USD $0.67 -$0.01

*as at 30 June 2019

Australian Shares (S&P/ASX 200 Accumulation Index)

The S&P/ASX 200 Accumulation Index took its first monthly loss for the year in August, falling -2.4%.  Trade war fatigue hit global equity markets in August after another bout of Trump tariff escalation. This was amplified by deterioration in industrial production indicators in China and Germany.

Powerful macro themes flowed into local sector returns. Defensive sectors, cushioned by falling bond yields, continued to post solid gains: Staples returned +0.0%, Healthcare +3.6%, Real Estate +1.2% while cyclical underperformance continued; the Energy sector lost -5.6%, Metals and Mining -8.0% and Materials (ex-mining) -7.5%.  Exceptions to this general trend were Consumer Discretionary (which rose +0.2%) and Communications Services (which fell -4.5%). Discretionary was stronger following continuing recovery in auction clearance rates and anecdotal evidence of improving consumer activity. Earnings downgrades to Telstra (-4%) held back the communication services sector.

The index finished trading at a P/BV of 2.1x and a P/E Ratio of 17.8x and equity yield (dividend) of 4.0%.

The VIX was at 14.1.0 (the average since 01.10.2010 is 16.4) indicating below average level of market volatility.

Australian Shares Small Cap (S&P/ASX Small Ordinaries Index)

The Small Ords Accumulation index gave back most of its July gains in August with a drop of -3.9%. Reporting season is often a volatile period and this reporting season was also interesting. On a net basis, profits were a little lower than expectations (revisions of <5%) though not as poor as feared.

Companies such as Super Retail Group, Baby Bunting Group, Bapcor and Nick Scali all had solid jumps after posting their profit results.

Trailing P/E Ratio was at 198x at the end of the month, P/BV is at 2.1x and equity yield (dividend) of 3.1%.

International Shares (MSCI World ex Australia Index, Net AUD and the MSCI World ex Australia Index, Net LCL)

The MSCI World ex Australia Index (Unhedged) +0.3% for August whilst the MSCI World ex Australia Index (Hedged) returned -1.9%.

US equity market: US equity market losses were led lower by the energy sector with oil prices falling to their lowest levels in a month and a half amid growing concerns that US-China tensions would weaken demand for crude oil. Financial stocks were also impacted by increasing trade tensions which drove the demand for so-called ‘safe-haven’ assets.

UK and European markets:  Also fell sharply at the beginning of the month, spooked by a reignition of US trade war rhetoric and the inversion of the US and UK yield curves. This relatively rare phenomenon was last seen in the UK in 2008 and means that it is cheaper for the government to borrow money, or sell bonds, over ten-years than it is on a shorter basis.

Chinese equities: Underperformed as the re-escalation in trade tensions with the US impacted market performance and further highlighted the difficulty in attempting to predict the outcome of ongoing discussions between the two sides. Domestically, monthly economic indicators were broadly weaker, with industrial production slowing to a more-than-expected 4.8% year-on-year in July while fixed asset investment rose 5.7% over the first seven months of the year.

Growth stocks continue to outperform. For the month of August, the MSCI World ex Australia Growth Index (hedged) returned -0.9% versus the equivalent Value index (Hedged) of -3.0%.

At the country level, US stocks in August were marginally up +0.5% (Hedged) Other major share markets were negative on a hedged basis; Japan (-3.2%), China (-0.4%%) and Europe (-1.7%).

The index finished trading at a P/BV of 2.3x and a P/E Ratio of 17.9x and equity yield (dividend) 2.4%.

Emerging Markets Shares (MSCI Emerging Markets Index, Net AUD)

Emerging equity markets were spooked that the US economy might be headed towards a recession following an inversion of the US yield curve – this is where short-dated US Treasury bonds of two years’ maturity pay more than long-term ones of ten years’ duration. In a search for perceived ‘safe havens’, investors opted for government bonds and precious metals, such as gold and silver, over equities during August.

Emerging market shares (Unhedged) fell by -2.7% in August. But returned -2.5% on a hedged basis.

The index ended trading at a forward P/E Ratio of 13.3x and P/BV of 1.3x and equity yield (dividend) 2.9%.

Australian Listed Property (S&P/ASX 200 A-REIT Accumulation Index)

The ASX 200 AREIT index had another strong month, +1.2% in August. The theory of “lower for longer” Interest Rates has flowed through to lower Yields is one that continues to permeate throughout the markets in order to justify a number of Property transactions on all-time low Cap Rates.

At the end of August, the index was trading on a dividend yield of 4.2% with a P/BV 1.2x and a P/E Ratio 14.6x.

International Listed Property (FTSE EPRA/NAREIT Developed ex-Australia Index, AUD)

Globally REITs were marginally positive +4.5% for the month. Hong Kong REITs were negatively impacted due to investor sentiment emanating from the continued protests. US and Continental Europe were also dragged own especially in the regional mall sector. However positive returns came from Data centre and Healthcare sectors.

At the end of August, the index was trading on a dividend yield of 3.8% with a P/B 1.7x and a P/E Ratio 20.7x.

Australian Direct Property (Atchison Consultants Unlisted Property Funds Index)

Australian direct property posted a return of +2.0% over the June 2019 quarter. Capitalisation rates across property sectors continued to trend downwards. Cap rates across office, industrial and retail properties range are 5.2%, 5.8% and 5.2% respectively.

Australian Fixed Interest (Bloomberg AusBond Composite Bond Index)

Australian fixed interest rose by +1.512% over the month. Australian government 10-year bond yields fell by 30bps to 0.89% while 3-year single A corporate credit spreads widened from 0.861% to 0.873%.

International Fixed Interest (Barclays Global Aggregate TR Bond Index, Hedged to AUD)

International fixed interest returned +2.32% over the month (Barclays). The 10-year US government bond yield plummeted by 50bps to 1.51% while the US corporate investment-grade credit spread widened from 1.47% to 1.62%.

Australian Economy

The month of July kicked off with another interest rate cut. The Reserve Bank (RBA) cut interest rates to a historic 1%, as it stares down the twin issues of rising unemployment and a slowing economy. This 0.25% cut followed a move at June’s meeting and is the first back-to-back cut since 2012 amid fears of a global financial melt-down flowing from European banks. The RBA’s decision was largely expected, with market pricing roughly 80% chance of a cut ahead of the RBA board meeting.

The odds of another cut had been shortening since RBA governor Philip Lowe told the market in June that one cut was unlikely to deliver the fall in unemployment the bank is looking for. The RBA has recently indicated it views a 4.5% jobless rate as close to full employment. Unemployment has been steadily rising in recent months, from a trough of 4.9% earlier in the year, and stood at 5.2% in May, while GDP growth has fallen to just 2%— the weakest reading since the immediate aftermath of the global financial crisis 10 years ago.

Many analysts expect those record low rates to get even lower, with markets pricing in a better that 50% chance of rates being cut again in November.

With the RBA cutting the cash rate another 0.25% to 1.00%, we expect an impact in this half. Housing should clearly benefit, as will business. The banks now have little excuse not to grow their lending books. The August reporting season will reflect the poor first half due to credit being tight (exacerbated by the Hayne Royal Commission), elections and trade issues. Those headwinds are largely behind us. We are cautiously optimistic about improving conditions in the final quarter this year.

The Australian Dollar weakened 2.5% against the US dollar at the end of July to 0.6848 USD from 0.7022 USD, following the interest rate cut in Australia.

Global Economy

With interest rates being cut in various parts of the world, equities were boosted on relative valuation and higher risk premium (as well as positive US earnings season providing some support). The Dow Jones rose a modest +1.0% and the Nasdaq +2.1% given its tech bias. A dash of political certainty saw the UK FTSE up +3.0% but Asian markets were mixed with the Nikkei up +2.0%. Hong Kong, with its demonstrations, eased +1.6% and Chinese equities down close to 3%. While gold was marginally higher, our lower currency meant the received price for our mining companies reached record levels – and their share prices reacted accordingly. Other metals and commodities were reasonably flat on the month.

UK: Markit’s UK manufacturing purchasing managers’ index (PMI) slipped to 48.0 in June, from 49.4 in May. Meanwhile the services PMI fell to 50.2, close to the 50 level which separates contraction from expansion, stoking fears of a further loss of momentum in the economy’s dominant consumer-exposed sector. On a positive note, retail sales rebounded in June, defying expectations for another month-on-month decline.

US: A positive start to the second quarter earnings season buoyed relative US performance. The Federal Reserve (Fed) acted late in the month to cut interest rates by 25 basis points, but Fed chair Jerome Powell said the cut is “not the beginning of a long series of rate cuts”. Investors expecting greater commitment to policy slack were disappointed. Risk appetites dwindled and the US dollar rallied.

The US economy remains on a path of waning growth. Real GDP (which is adjusted for inflation) rose at an annual rate of 2.1% in Q2, a significant slowdown from the 3.1% growth rate recorded in Q1.

China: Economic data was mixed; second quarter GDP growth came in at 6.2% compared to 6.4% in the previous quarter as trade war woes added to existing domestic pressures.  The figure still remains within the government’s full-year target of 6-6.5%. June figures were more positive with industrial production and retail sales beating expectations, and while the manufacturing purchasing mangers’ index (indicates performance of manufacturing sector) edged up to 49.7 from 49.4, it remained below 50, indicating contraction.

Europe: Data showed the eurozone economy expanded by just 0.2% in Q2, slowing from a growth rate of 0.4% in Q1. Annual inflation dropped to 1.1% in July from 1.3% in June. The European Central Bank (ECB) indicated that it was drawing up plans to stimulate the economy given the weak growth and below-target inflation. A package of stimulus measures, including possible rate cuts, is expected to be announced in September. Christine Lagarde, currently head of the International Monetary Fund, was nominated to replace Mario Draghi as president of the ECB when his term ends on 31 October.

Emerging Markets: Emerging market equities fell back in July. South Korea was weak due to a trade dispute with Japan and India underperformed following a disappointing Union Budget announcement.  President Trump’s criticism of the country’s special status at the World Trade Organisation (WTO) also exacerbated ongoing concerns over trade and global growth.

In conclusion, after their strong gains so far this year share markets are at risk of a short-term correction – with the escalating US/China trade war, along with Middle East tensions and mixed economic data providing possible triggers as we enter a seasonally weak part of the year for shares. However, valuations are fine, particularly against low bond yields, global growth indicators are expected to improve, and monetary and fiscal policy are becoming more supportive all of which should support decent gains for share markets on a 6-12-month horizon.

Table 1: Market Performance – Periods to 31 July 2019

Sector 1 Month
%
3 Months
%
1 Year
%
3 Years
% pa
5 Years
% pa
Australian Shares 2.9 8.6 13.3 11.7 8.5
Australian Shares Small Cap 4.5 4.1 7.6 9.3 9.2
International Shares Ex-Aus (Unhedged) 2.3 2.9 11.7 14.1 13.8
International Shares Ex-Aus (Hedged) 1.2 0.9 4.5 10.9 8.7
Emerging Markets (Unhedged) 0.6 -3.3 -0.8 9.2 5.3
Emerging Markets (Hedged) -1.0 -0.6 5.5 12.0 8.1
Australian Listed Property 2.6 9.5 21.2 7.2 13.1
International Listed Property ($A) 2.2 3.8 11.8 5.9 11.4
Australian Direct Property* 1.1 8.0 11.4 11.8
Australian Fixed Interest 1.0 3.7 10.4 4.2 5.1
International Fixed Interest (Hedged) 0.7 3.4 11.8 4.3 5.6
Cash (BAUBIL) 0.1 0.4 1.9 1.8 2.1
Change over the month
Australian Govt. 10 yr Bond Yield 1.19% -14 bps
AUD/USD $0.68 -$0.02

*as at 30 June 2019

Australian Shares (S&P/ASX 200 Accumulation Index)

The S&P/ASX 200 Accumulation Index started the new financial year with a positive +2.9% for July 2019.  outperforming key international markets including the S&P 500 Index (+5.6%) and the broader MSCI World Ex-Australia Index (Unhedged) (+2.3%).

The best performing sectors in the S&P/ASX 200 Accumulation Index for the month of July were Consumer Staples (+9.8%), Small Resources (+7.9%), Health Care (+5.9%) and Information Technology (+5.0%). The worst performing sectors included Materials (+1.0%), Energy+1.7%), Financials (+1.7%) and Utilities (+1.9%).

The index finished trading at a P/BV of 2.2x and a P/E Ratio of 18.1x and equity yield (dividend) of 3.9%.

The VIX was at 13.0 (the average since 01.10.2010 is 16.4) indicating below average level of market volatility.

Australian Shares Small Cap (S&P/ASX Small Ordinaries Index)

Small Ords Accumulation Index surged in July, rising +4.5% and outperforming the broader Australian index by +1.6%. This was driven by a recovery in resource companies and lower rates driving increased equity valuations more generally.  Small resources were up +7.9% (largely driven by gold stocks).

Trailing P/E Ratio was at 19.5x at the end of the month, P/BV is at 2.3x and equity yield (dividend) of 3.0%.

International Shares (MSCI World ex Australia Index, Net AUD and the MSCI World ex Australia Index, Net LCL)

The MSCI World ex Australia Index (Unhedged) +2.3% for July whilst the MSCI World ex Australia Index (Hedged) returned +1.2%.

US equity market: US shares rose modestly in July (S&P 500 Index +1.5%) and outperformed other major stock markets. Investors broadly moved into perceived safe havens such as US Treasuries as trade tensions continue to cloud the outlook for investors and companies alike

UK markets:  The UK was one of the best performing major stock markets over July, in local currency terms. Sterling fell sharply as a result of increased Brexit uncertainty which provided a boost for overseas earners at the top end of the market. Merger and acquisition activity were also supportive.

European equity markets: Eurozone shares were virtually flat in July with the MSCI Europe Index returning 0.7%. Top gaining sectors included information technology and consumer staples, boosted by strong Q2 results from companies including Nokia and Danone. Energy and financials were among those that declined. Deutsche Bank reported its largest quarterly loss since 2015 and announced 18,000 job cuts as part of a restructuring plan.

Chinese equities: Eked out a return +0.7% for the month of July, even though US trade restrictions are starting to bite.  China’s economic growth rate has been in long-term secular decline as the government seeks to rebalance the economy to be more sustainable. Opportunities exist due to the characteristics of the Chinese markets. Chinese equities have an attractive revenue, earnings and cashflow growth profile.  Economic growth is shifting from investment-heavy industries to more sustainable and shareholder-friendly, consumer-orientated areas. Despite these advantages, Chinese equities still trade at a large discount to developed market equities and international investment communities remain underweight. maintain

Growth stocks continue to outperform. For the month of July, the MSCI World ex Australia Growth Index (hedged) returned +1.7% versus the equivalent Value index (Hedged) of +0.5%.

At the country level, US stocks produced another solid month in July, up +3.5% (Hedged) propelled by expected cut in interest rates and better than expected corporate earnings. Major share markets were again positive in July; Japan (+0.9%), China (+0.7%) and Europe (+0.7%).

The index finished trading at a P/BV of 2.3x and a P/E Ratio of 18.3x and equity yield (dividend) 2.3%.

Emerging Markets Shares (MSCI Emerging Markets Index, Net AUD)

Emerging market shares (Unhedged) rose marginally by +0.6% in July, faced by the headwind of a stronger US dollar. South Korea was weak due to a trade dispute with Japan and India underperformed following a disappointing Union Budget announcement.  But returned -1.0% on a hedged basis

The index ended trading at a forward P/E Ratio of 15.9x and P/BV of 1.3x and equity yield (dividend) 2.8%.

Australian Listed Property (S&P/ASX 200 A-REIT Accumulation Index)

The ASX 200 AREIT index had another strong month, +2.6% in July. The best A-REIT performers over the month were Stockland which delivered +9.6% and Aventus Retail Property Fund which returned +7.9%. The worst A-RET performers over the month were National Storage REIT -6.3% and Goodman Group -1.5%.

At the end of July, the index was trading on a dividend yield of 4.2% with a P/B 1.2x and a P/E Ratio 11.5x.

International Listed Property (FTSE EPRA/NAREIT Developed ex-Australia Index, AUD)

Globally REITs were up +2.2% for the month. Industrial REITs globally had another strong month.  Conversely shopping centre continue to suffer after an onslaught of disappointing retailer earnings and further announced store closures. Australian and Japanese REITs performed particularly well as did German residential stocks.

At the end of July, the index was trading on a dividend yield of 3.8% with a P/B 1.7x and a P/E Ratio 19.4x.

Australian Direct Property (Atchison Consultants Unlisted Property Funds Index)

Australian direct property posted a return of +1.1% over the June 2019 quarter. Capitalisation rates across property sectors continued to trend downwards. Cap rates across office, industrial and retail properties range between 4.5% – 6.8%.

Australian Fixed Interest (Bloomberg AusBond Composite Bond Index)

Australian fixed interest rose by +0.95% over the month. Australian government 10-year bond yields fell by 14bps to 1.19% while 3-year single A corporate credit spreads tightened from 0.879% to 0.861%.

International Fixed Interest (Barclays Global Aggregate TR Bond Index, Hedged to AUD)

International fixed interest returned +0.73% over the month (Barclays). The 10-year US government bond yield remained unchanged at 2.01% while the US corporate investment-grade credit spread tightened from 1.55% to 1.47%.

Australian Economy

Australian credit data for May showed a further slowing in credit growth to its weakest since 2013 with growth in lending to property investors remaining stalled and at its weakest on record, as is growth in total housing credit. Personal credit growth is at its weakest since the GFC. Clearly the combination of tight lending conditions and reduced demand for debt continue to impact, consistent with slowing economic growth overall.

In other data, new interest-only loans provided in the March quarter fell to a new low of just 14.9% of new home loans, which is well down from their 2015 high of 46%.Similarly the total stock of outstanding interest-only loans, as share of all outstanding housing loans, has fallen to 23%, which is down from a record high of nearly 40% in 2015. Clearly interest-only loans remain out of favour, despite the relaxation of the 30% limit on loans going to interest-only borrowers in December. With interest returning to the Sydney and Melbourne property markets, it’s likely interest-only loans may soon bottom-out but given tougher lending standards it is doubtful they will return to anything like the 40% share of total loans seen a few years ago.

The RBA made the decision to cut interest rates by 0.25% to 1.25% in June, the first cut since August 2016. The RBA is concerned that unemployment is too high. It would like to reduce unemployment in order to stimulate wages growth and inflation.  The June cut Is unlikely on its own to achieve that objective.

RBA Governor Lowe’s often-repeated request for more fiscal stimulus and structural reform looks to being heeded to some degree. Infrastructure spending is continuing a pace and the Federal Government has noted it was looking at trying to bring some of it forward and, in the last week PM Morrison flagged a new focus on reducing business regulation and to take a fresh look at improving the industrial relations system. Confirmation with May data that the budget could be in surplus for 2018-19 – a year ahead of schedule – helps provide more room for additional fiscal stimulus.

The Australian Dollar weakened further against the US dollar in June, on expectations of another interest rate cut in Australia in July.

Global Economy

Optimism guided global equity markets in June was fuelled by the prospect of interest rate cuts by central banks globally and hope that the US-China trade war could still be resolved. Rebounding from a rout in May, markets shrugged off concerns about a slowing global economy to focus instead on the prospect of interest rate cuts around the world.

UK: The latest snapshot revealed subdued activity in the sector forming the backbone of the British economy, which includes finance, transport and telecommunications, in a survey of 650 services firms that is closely monitored by the Treasury and the Bank of England. The service sector accounts for about four-fifths of the UK economy. Official growth figures for the second quarter will be released in July. However, the respected National Institute of Economic and Social Research (NIESR) thinktank has forecast that GDP contracted by 0.2% in the second quarter.

US: US economic data was mixed. Pending home sales rose but new home sales fell sharply. While underlying durable goods orders rose. The slump in Boeing orders weighed on headline orders. Regional business surveys continued to weaken, highlighting the negative impact from the trade war. Personal spending rose solidly in May, but consumer confidence fell to 2017 levels with consumers less optimistic on the jobs market. This is likely concerning President Trump – sounding tough on trade may appeal to his base but if it starts to affect consumer confidence and the jobs market it won’t be good for his re-election prospects. Meanwhile, core personal consumption deflator inflation remained soft at 1.6% year-on-year.

China: Softer economic data emanating from China thanks to China’s response to stockpile ahead of higher US tariffs leading to flat Chinese manufacturing. The decline in exports and domestic activity has led to estimates for GDP growth to be adjusted down from 6.4% for 2019 and 6% for 2020. It is estimated that further tariffs could reduce GDP by 1% and employment by 4 million.

Europe: Eurozone economic sentiment fell in June and core inflation was just 1.1% year-on-year, leaving the ECB on track for more easing. Europe needs fiscal stimulus. Italy wants to do it but can’t, Germany can do it but doesn’t want to.

Emerging Markets: Emerging market shares lagged their developed market counterparts but still delivered a positive return (+4.9%). Trade uncertainty weighed on Chinese and South Korean stocks. South Africa, Indonesia, Turkey and Argentina were the best performing countries.

In conclusion, the threats around trade and geopolitical risks along with the tendency for seasonal weakness out to September/October could see a pull-back in share markets and returns are likely to be constrained. However, the availability of easy money and the absence of large-scale economic excess should help extend the cycle and keep returns for a diversified portfolio positive territory, expected return of around 6% for the year to 30 June 2020.

Table 1: Market Performance – Periods to 30 June 2019

Sector 1 Month
%
3 Months
%
1 Year
%
3 Years
% pa
5 Years
% pa
Australian Shares 3.7 8.0 11.5 12.9 8.9
Australian Shares Small Cap 0.9 3.7 1.9 10.7 9.3
International Shares Ex-Aus (Unhedged) 5.3 5.2 11.9 14.0 13.2
International Shares Ex-Aus (Hedged) 6.0 3.5 6.6 12.0 8.2
Emerging Markets (Unhedged) 4.6 0.2 1.8 11.1 6.1
Emerging Markets (Hedged) 4.9 1.8 6.6 12.9 8.7
Australian Listed Property 4.2 4.1 19.3 8.1 13.6
International Listed Property ($A) 0.2 0.8 9.6 6.1 11.3
Australian Direct Property 1.1 1.7 7.8 11.1 11.8
Australian Fixed Interest 1.0 3.0 9.6 3.8 4.8
International Fixed Interest (Hedged) 1.3 2.7 11.0 4.3 5.6
Cash (BAUBIL) 0.1 0.4 2.0 1.9 2.1
Change over the month
Australian Govt. 10 yr Bond Yield 1.38% -27 bps
AUD/USD $0.70 $0.01

*as at 31 March 2019

Australian Shares (S&P/ASX 200 Accumulation Index)

The S&P/ASX 200 Accumulation Index returned a healthy +3.7% in June but underperforming key international markets including the S&P 500 Index (+5.6%) and the broader MSCI World Ex-Australia Index (Unhedged) (+5.3%).  n the 20 June, the S&P/ASX 200 Accumulation Index closed at just 2% below its November 2007 peak.

The best performing sectors in the S&P/ASX 200 Accumulation Index for the month of June were Resources (+9.4%), Materials (+6.4%), Industrials (+5.4%) and Health Care (+4.2%). The worst performing sectors included Consumer Discretionary (-1.5%), Small Industrials (+0.4%), and Information Technology (+1.0%).

The index finished trading at a P/BV of 2.1x and a P/E Ratio of 17.5x and equity yield (dividend) of 4.0%.

The VIX was at 13.0 (the average since 01.10.2010 is 16.4) indicating below average level of market volatility.

Australian Shares Small Cap (S&P/ASX Small Ordinaries Index)

Small Ords Accumulation Index rose by +0.9%% in June again underperforming the broader Australian index by -2.8%. Within the Small Ords index, Small Resources bounced back returning +2.9% against Small Industrials +0.4%.

Trailing P/E Ratio was at 18.5x at the end of the month, P/BV is at 2.2x and equity yield (dividend) of 3.0%.

International Shares (MSCI World ex Australia Index, Net AUD and the MSCI World ex Australia Index, Net LCL)

Global equity markets, ahead of the highly anticipated US-China presidential meeting at the G20 gathering in Osaka hopes were high for a breakthrough in the trade war. A decision at the end of the month to resume trade talks after a six-week stalemate was set to further support global economic growth.

US equity market was led higher by materials, energy and tech stocks. It was a reversal of fortune for the materials sector, supported by gold prices that hit six-year highs on the back of a weakening US dollar and heightened geopolitical tensions earlier in the month. The price of oil fuelled the share prices of energy stocks as US inventories dipped and exports hit a record high, while an incident involving oil tankers in the Gulf of Oman sent oil prices climbing higher. Utilities, real estate, consumer staples and health care – all traditionally defensive stocks and less sensitive to the business cycle – were the laggards during a month in which optimism reigned.

UK markets recovered most of the ground lost during a volatile May, to end the two-month period broadly flat, soothed by an improving outlook for global economic growth, the prospect of improved US-Sino trade relations and a more accommodative tone (by leaving interest rates unchanged) from central banks including the US Federal Reserve.

European equity markets made strong gains in June as investors remained hopeful that Trump and Xi would move closer to a trade deal at the G20 summit. At a sector level, Consumer Discretionary, Materials and Industrials were the biggest gainers, whilst only one sector, Real Estate, returned negatively. Meanwhile, in his latest speech, ECB President Mario Draghi suggested that the Central Bank will further loosen monetary policy (to stimulate economic growth) unless they see an improvement in economic data.

Chinese equities gained on positive trade news flow while the central government indicated its ongoing support for the domestic market. The People’s Bank of China stated that it injected approximately US$108bn into the market in June to maintain liquidity in the banking system at a “reasonably sufficient level” while the Ministry of Finance issued new measures aimed at speeding up infrastructure spending. Macroeconomic data was mixed, with the purchasing managers’ index (PMI) – a figure that represents current and future business conditions, in June flat with the previous month at 49.4 while May retail sales were up 2.1% month-on-month.

Growth stocks continue to outperform. For the 12 months to June 2019 the MSCI World ex Australia Growth Index (hedged) returned +6.4% versus the equivalent Value index (Hedged) of +5.7%.

At the country level, US stocks rebounded in June up +7.0% (Hedged) fuelled by renewed hope over potential progress on the US-China trade talks at the upcoming G20 summit. Share markets were generally stronger; Japan (+2.9%), China (+5.3%) and Europe (+4.6%).

The index finished trading at a P/BV of 1.6x and a P/E Ratio of 18.3x and equity yield (dividend) 2.4%.

Despite the support of stronger iron ore prices and the outcome of the Federal Election, the Australian dollar (AUD) depreciated 1.3% against the US dollar (USD) due to the interest rate cut in June and anticipated one on July. The AUD fell -0.5% against the Japanese yen, down -0.8% against the Chinese Yuan Renminbi but up +0.9% against the Euro.

Emerging Markets Shares (MSCI Emerging Markets Index, Net AUD)

Emerging market shares rallied across the board in June with confidence boosted by growing expectations that central banks across several countries, including US and China, stand ready to lower interest rates on global growth concerns. For the month of June, the index returned +4.6%(Unhedged).

The index ended trading at a forward P/E Ratio of 12.9x and P/BV of 1.6x and equity yield (dividend) 2.7%.

Australian Listed Property (S&P/ASX 200 A-REIT Accumulation Index)

The ASX 200 AREIT index was up +4.2% in June. Office and industrial property sectors continue to benefit from strong leasing and transactional conditions. Larger listed property stocks were the standout performers such as; Mirvac, Goodman Group, Stockland and Charter Hall.

The A-REIT sector was the best performing asset class for the year to June 2019 returning +19.3% on the back of high demand for annuity-like cashflow steams and taking advantage of historically high premiums to NTA to de-leverage.

The A-REIT sector was trading at a 44% premium to NTA (index weight approach). While the FY19 yield for the sector is 4.7%, above 10-year bonds (1.33%).

International Listed Property (FTSE EPRA/NAREIT Developed ex-Australia Index, AUD)

Globally REITs were up +0.2% for the month. Large cap REITs significantly outperformed their smaller peers. Regionally Singapore was the strongest performer delivering +9.0% in local currency terms.  The poorest was Continental Europe, returning -3.5% in local currency terms.

At the end of June, the index was trading on a dividend yield of 3.9% with a P/B 1.7x and a P/E Ratio 19.5x.

Australian Direct Property (Atchison Consultants Unlisted Property Funds Index)

Australian direct property posted a return of +1.1% over the June 2019 quarter. Capitalisation rates across property sectors continued to trend downwards. Cap rates across office, industrial and retail properties range between 4.5% – 6.8%.

Australian Fixed Interest (Bloomberg AusBond Composite Bond Index)

Australian fixed interest rose by +1.00% over the month. Australian government 10-year bond yields fell by 14bps to 1.33% while 3-year single A corporate credit spreads contracted from 0.904% to 0.879%.

International Fixed Interest (Barclays Global Aggregate TR Bond Index, Hedged to AUD)

International fixed interest returned +1.38% over the month (Barclays). The 10-year US government bond fell by 12bps to 2.01% while the US corporate investment-grade credit spread tightened from 1.71% to 1.55%.