The month that was…

  • The Australian reporting season was disappointing but given the context of slowing domestic and global growth and increasing geopolitical risks a positive result was about the best investors could expect. AMP Capital summarised it neatly with their research indicating only 36% of results were above expectations, well below the average of 44% and only 58% of companies have seen their earnings rise (compared to 77%) in FY19. The result was that earnings growth for the market was just 1.5%, below expectations of 2.0%, and some 28% of companies cut their dividends as a result. Once again it was the resources/mining sector that drove the market earnings improvement (up 13%) with the rest of the market combined falling 2%, particularly financials which are struggling amid a property slowdown and remediation cost blowouts.
  • Markets around the world struggled as the US-China trade war took another turn, with US markets falling around 2% and bond yields collapsing once again. The All Ordinaries and ASX 200 both fell around 3%, struggling through reporting season as the key mining and energy companies saw falling commodity prices. The Asian markets were hardest hit with the Hang Seng off 8% in August suggesting the Chinese economy is taking the brunt of the trade war. The traditional hedges once again came to the fore with highly rated Government (including negatively yielding German bonds moving further into negative territory) debt adding positive returns and gold rallying another 10%.
  • Strong performing property trust, Rural Funds Group, came under pressure following a short selling attack by Bonitas Research which was founded by a member of Glaucus responsible for the pressure on Blue Sky and Quintis among others in recent years. The group accused management of fraudulent activities, undisclosed payments and inflated rental figures which were flatly denied. The share price immediately fell 40% but has since recovered to make up the majority of the loss ground. We are always interested to understand where these groups obtain the shares to then short-sell on the market, interestingly Vanguard is the largest and most passive shareholder at 9%.
  • The outlook for Australian economic growth continued to weaken during the month after building approvals fell a further 9.7% in July. Economists had been predicting a flat result. It was the apartment developments driving the fall, which were down an incredible 18% taking the 12 month fall to 28.5%. This came shortly after weaker than expected business investment data was released showing a contraction of 0.5% in the quarter. Once again, economists were expecting growth of 0.4% suggesting they are disconnected from what is happening in the real world. The result has been a reduction in Q4 GDP growth expectations from 0.5% to just 0.3%, and we wouldn’t be surprised if it’s even weaker than that.
  • In a sign of the increasing power being wielded by the union fund sector, IFM Investors, who own Australia’s largest energy network, Ausgrid, announced an ambitious policy to begin cutting carbon emissions by up to 100%. The Coalition Government responded by suggesting the asset owners should not be passing these costs onto consumers, who are also members of many of their super funds.
  • The Australian economy delivered a second successive record trade surplus seling $8bn more than we exported in June, some $1.8bn higher than in May. The country is now poised for our first current account surplus since 1975! The primary drivers were continued growth in iron ore and coal prices and weaker imports of motor vehicles and aircraft.
  • The Trump Administration’s tot-for-tat with China continued unabated, but as usual showed signs of improvement whenever the S&P 500 began to fall. President Trump declared the Chinese ‘currency manipulators’ following the devaluation of the Yuan, and continues to call on the Federal Reserve to support his ‘negotiation’ via even lower interest rates. Throughout the month the rhetoric fluctuated between an interest in restarting negotiations, to a further escalation of tariff introductions. As we write, a further $300bn in imports are expected to be hit by 15% tariffs on the 1st of September unless the White House puts these on hold once again.
  • ASIC’s case against Westpac, but effectively the entire banking sector, was thrown out of court during the month. ASIC had been pursuing Westpac under the new Responsible Lending legislation, questioning whether Westpac’s use of spending benchmarks was sufficient to justify higher loan limits being offered. The judge now famously said ‘I may eat wagyu beef everyday washed down with the finest shiraz, but if I really want my new home, I can make do on much more modest fare’. This is one of few too many realistic court results which suggests individuals can take personal responsibility over their spending and adjust their expenses after taking out a loan. It may be a turning point for the sector that have been pushing away prospective borrowers for several months now.
  • The NBN reduced their forecast sign-ups for 2020 from 7.5m to 7.0m as the pressure of improving 4G and 5G networks continues to grow. The announcement is likely to be a positive for Telstra with most NBN sign ups effectively being a lost customer of the group. Management are expected to update guidance accordingly.
  • Growth in Chinese industrial output fell to a 17 year low in July in a sign that the trade war and US tariffs are hitting the economy harder than expected. This is not good news for Australia. The broad Industrial Output measure was up just 4.8% for the month, well below forecasts of 5.8%. Retail sales on the other hand were more positive, increasing 7.6% but below the 8.6% expected by economists. Exports remain under pressure to both the US and Europe. On the flipside, US retail sales remained highly resilient increasing for the fifth straight month by 0.7%. It has been the lower cost, middle income focused chains like Walmart benefitting and the luxury department stores being hardest hit.
  • You will shortly be receiving our latest Unconventional Wisdom Journal, which among other topics covers the incredible search for yield that is occurring around the world and the many areas where investors appear to be taking more risk than they should. One such article focused on a listed investment trust that raised $1bn from retail investor and incredibly holds over 10% of the portfolio in CCC rated junk bonds. These carry the same rating as just defaulted Argentinian bonds. Go figure.

The month that was..

  • Geopolitical tensions continued around the world, with Iran commandeering British oil tankers in the Strait of Hormuz and the Hong Kong protests over a planned Chinese extradition bill sending the city into lockdown. The UK Prime Ministerial race has concluded, with Pro-Brexit candidate and former Mayor of London, Boris Johnson the winner. He has arrived as a ‘circuit breaker’ after the Brexit debacle saw the departure of the last two leaders. His mandate is to force through Brexit by 31 October with or without a deal. Throughout all this, markets marched ahead, the S&P 500 was up 1.3% for the month, the ASX 200 2.9% and the FTSE 2.1%.

 

  • The ASX reached its highest point since just prior to the GFC, hitting 6,845 points in July. The ASX 200 eventually returned 2.93% for the month, with consumer staples (9.8%), consumer discretionary (4.9%) and healthcare (5.92%) leading the way. It was positive across the board with all sectors delivering a positive return for the month. The market continues to be driven by falling interest rates at the same time that geopolitical risks escalate, and the domestic economy shows signs of slowing. With the RBA now indicating lower rates will remain for longer, investors continue to seek out the more traditional, profitable businesses for their secure income and earnings.

 

  • The US economy delivered once again, reporting a 2.1% annualized GDP growth rate in the second quarter. It came after a better than expected quarterly reporting season during which 170 of the 221 companies delivered better than expected results. It is the companies generating most of their revenue in the US, rather than through exports, that performed strongest (including small caps). The result has been a 3.2% increase in earnings rather than the 2.6% contraction initially predicted. Interestingly, the Federal Reserve decided to cut their benchmark rate by 0.25% on the last day of July but indicated no further cuts are planned at this stage, which sent the market down quickly.

 

  • Closer to home inflation surprised to the upside, with a 10% increase in fuel prices resulting in Australian inflation hitting 1.6% for the 12 months to June. As expected, the Reserve Bank of Australia cut interest rates to an all-time low of 1.0% in July with the Governor suggesting the rate cuts was aimed at boosting the flagging unemployment rate of 5.2% and helping achieve the inflation target, which remains well below the 2-3% range at just 1.6%. Given the last round of rate cuts simply lead to a residential housing bubble, it’s difficult to see what real benefit this will have outside of forcing investors into riskier assets to generate income. Take for instance the latest term deposit offers, with the best 3-year rate just 2.0% per annum. The US Federal Reserve is also hinting at more accommodative monetary policy via an out-of-the-blue rate cut. They are concerned about the slowing economy and weak inflation.

 

  • The Australian economy remains in a difficult position, seemingly teetering on the edge of a slowdown, but receiving stimulus from both Government spending and lower interest rates.

 

  • New car sales were off 9.6% in June, the 15th straight monthly fall, whilst the housing cycle seems to be turning with Steller Developments and Ralan entering administration; worryingly the latter had requested buyers release their deposits as a loan to the company, which may never be returned. Anecdotal evidence is suggesting to us that the banks are simply unwilling to lend as much or as easily as before, which is seeing both pre-sales and apartment settlements reduce and along with them the value of newer apartments. This comes at the same time that the depth of the flammable cladding problem is being investigated by Governments. It’s becoming evident that those who built and approved the impacted towers will escape penalties with the cost passed onto taxpayers, with owners likely to bear the majority of the burden for cheap construction materials and profit maximizing developers.

 

  • The industry fund sector returns for the financial year were delivered during the month with the median growth option delivering a return of 7%. This represents higher risk options, with the more ‘Balanced’ strategy delivering closer to 6.2% for the same period. It’s more useful to compare against the median or average return for each option, as this reduces the skew that occurs from the higher risk-taking strategies. It remains as difficult as ever to understand the amount of risk each of these options is taking, or the appropriateness of the discount rates being used to price all those unlisted assets. Research house, Chant West, suggests more challenging times are ahead for the sector years of strong returns.

 

  • In what looks to be a positive move for suffering consumers in Victoria and NSW, the Australian Energy Market Commission released a draft rule allowing large energy consumers, like manufacturers and smelters, to sell back unneeded demand into the wholesale energy market. This means that major users can go around their retailers to reduce capacity when it is not required, whereas in the past retailers had no reasons to sell into the wholesale market as they simply passed the cost onto consumers. Given it is industry that are the greatest power users this makes some sense.

 

  • Chinese GDP growth fell to the lowest level in 27 years in the June quarter, at ‘just’ 6.2%. The result was weaker than expected as the trade ‘negotiations’ with the US continued to impact on exports but at that level remains one of the fastest growing economies in the world. Importantly, retail sales were up 8.4% year on year in the first 6 months, whilst industrial production also improved by 6%, meaning the quarter was quite strong.

 

  • The financial services industry purge continued during July as APRA’s disqualification case against prior directors of IOOF came to a head. APRA is suggesting the use of reserves within their super plan to compensate impacted investors was inappropriate. AMP’s maligned life insurance business sale was effectively rejected by the NZ Reserve Bank who noted that the buyer had not submitted the appropriate paperwork and it was not comfortable with many aspects of the change of control. NAB continues making strides to reform their business, with ‘crisis banker’ Ross McEwan appointed the new CEO.

 

  • BHP has made a huge decision to begin setting goals for its customers to cut their greenhouse emissions. Under what’s being called their ‘Scope 3’ de-carbonisation strategy the company will invest $500m to reduce the emissions from its coal and gas fired global operations and to pressure its customers into doing the same. It’s an important step for the mining sector given the companies dominance in coal mining and the fact it’s exports result in the emission of some 40 times their own.

 

  • The Australian reporting season will begin in earnest in August, highlights for the first two weeks that will give an insight into the outlook for the economy include:

 

  • Commonwealth Bank – 7 August
  • AGL Energy – 8 August
  • AMP Ltd – 8 August
  • JB HiFi – 12 August

The month that was…

  • Sharemarkets around the world closed the month delivering the highest 6 month returns in several decades. The ASX was up 3.19% for the month taking the 6 month return to 17.22%, whilst the S&P 500 was up 6.89% for June and 17.35% for the 6 months, making it the best half year since 1997. The Australian market was once again driven by the banking and financial sector (+3.49%) with materials and mining (6.28%) and industrials (4.47%) where most of our technology facing companies operate.

 

  • Looking around the world, most of Europe gained at least 5%, lead by the French CAC 40, which was up 6.36% for the month. The Chinese sharemarket began bucking the trade war trend, the Hang Seng was up 5.4% and the CSI 30, 6.1%. June saw a number of highly successful IPO’s and the return to favor of the all-important semi-conductor industry on both sides of the world. In a sign that the rally may continue into the second half unabated, President Trump conceded ground with China at the G20 meeting, relenting on the US ban on sales to Huawei and reopening trade discussions as anticipated.

 

  • Gold bullion reach an all-time high in June, hitting over $2,000 per once in Australian Dollar terms. This oft understood investments works as both an alternative currency and a hedge against volatility. It underperformed in the previous period of expansion as the central banks embarked on unconventional monetary policy. But the threat of falling rates around the world at a time of slower global growth has seen central banks and investors rush back into the commodity. That and the falling AUD have supported the price and made it one of the best performing assets in 2019.

 

  • The US trade re-negotiation continued in June, with India and Mexico brought into focus. The US removed India’s preferential trade status and their exemption from steel and aluminum imports, with India retaliating by imposing tariffs of up to 70% on 28 US products including almonds and apples. The US and Mexico came to an agreement to avoid the commencement of tariffs, with Mexico agreeing to do more in an effort to slow the flow of immigrants moving through its country.

 

  • After some 3,156 days of planning and assessments the Adani coalmine finally received environmental approvals with construction to commence as soon as possible. Interestingly, it came in the same week that AGL Energy announced it’s partnering with Santos to more efficiently extract oil and gas from the ground.

 

  • Evans Dixon was in the news for all the wrong reasons during the month after a claim to the Financial Ombudsman Service was shared with the Australian Financial Review. The complaint was focused around Dixon’s strategy of recommending their own in-house products to their clients, in some cases over 60% of their portfolio, and charging exorbitant fees. The focus was around the US Masters Residential Property Fund, which has reaped fees of over $200m from its investors, in addition to those paid to other Dixon subsidiaries for undertaking renovations on the fund’s properties. The firm which heavily advertises its low up-front cost service in the press, appears to be pushing the same vertical integration story that caused the banks and customers so much pain in the Royal Commission. With a potential class action on the cards we haven’t heard the last of this affair.

 

  • The Australian Dollar reached a 10 year low against the US dollar in June hitting as low as 67 cents in intraday trade. The downward pressure was due to a combination of factors, the first being the RBA’s first rate cut but the 13th in the current period of monetary loosening. This saw the 10-year Government bond rate fall to all-time lows under 1.3%. This suggests all is not well for the Australian economy as exports to China slow and we become more reliant on Government spending.

 

  • The weakness was evidenced by the GDP result for the first quarter, which came in at just 1.8%. this is a decade low and well below the 3.5% long-term average. Most weakness came from the private investment and consumption sector as property valuations, particularly on the fringes of our major cities remain under pressure and many developments are not securing enough presales to proceed. The highlight remains government spending and investment (read infrastructure) which is one of the few positives on the horizon and an area of interest for our clients.

 

  • In the worst kept secret in finance, Facebook announced it would be launching its own cryptocurrency with the support of a long line of financial and technology giants, including Visa, Mastercard, Ebay and Uber. It comes at an interesting time for the company following a number of data and privacy issues, and of course the opinions on the launch are mixed. There has been talk for many years that someone would challenge the world banking order and Facebook seemingly has the network, data and partners to make this a success.

 

  • We were exacerbated to hear the goings on at market darling Afterpay (APT). For those not aware, the company offers a lay-by service for online purchases and has been growing exponentially but is yet to deliver a profit. The company has been forced by ASIC to appoint an external auditor and are being investigated by AUSTRAC for their adherence with anti-money laundering laws. ASIC is concerned that the company is not suitably identifying it’s clients nor is it performing credit checks before lending, requiring as little as a prepaid Visa Card to purchase goods. Interestingly, the founders sold down $104m of shares before the announcement and the companies broker appears to be pressuring shareholders not to sell their own shares. On the final day of the year Visa announced the launch of its own copycat product sending shares down 10%.

 

  • The US and China agreed to resume trade talks ahead of the G20 meeting at the end of the financial year. This comes at an important time after the US began public hearings to discuss further tariffs on up to $300bn in additional exports. It’s estimated that consumer technology products would make up over half the additional amount slowing down the US’ innovation engine. This comes after the Chinese applied tariffs of between 10-25% on any $60bn worth of US exports and the US Government banned its own companies from selling to networking giant Huawei.

 

  • Looking globally, both the Japanese and European economies have shown signs of improvement, with Japanese GDP growing by 2.2% in the March quarter, as the consumer came back to the fore. European unemployment fell to a 10-and-a-half-year low of 7.6% in April as the German economy recovered and Italy moved out of another recession. This came at the same time as Theresa May stepped down as Prime Minister in the UK and more moderate parties gained traction in the EU election.

The month that was…

  • In a positive move for investors, workers, retirees and most likely the economy, Scott Morrison won what many experts had considered the ‘unwinnable’ election. He will return to Government with a majority and a number of major personalities out of his way. Scott Morrison won on a status quo approach and by raising real concerns about the potential impact that Labor’s higher tax environment would have on a weakening economy. Now we can only hope the Coalition is able to cobble together a long-term energy policy and halt the rise in living costs.
  • The Australian Sharemarket bucked the global trend, delivering a positive performance of around 1% for May, as the rest of the world was hit by growth concerns and the escalation of the US-China trade war. The S&P 500 fell 7%, the Hang Seng 10% and the FTSE close 4%. Global growth concerns are increasingly reflected in bond rates, with the Australian 10 Year Government Bond hitting an all-time low of 1.46% after starting the month at 1.79%. The threat of a US recession increased as the bond rate fell similarly from 2.50% to 2.12%. The weaker bond rate saw Australia’s exchange rate continue to weaken, moving below 70c. US GDP growth was confirmed at 3.1% for the first quarter.
  • Microsoft reported strongly delivering 16% growth in revenue for the third quarter. The result was driven by the increased focused on cloud and business services, rather than the Office product, which actually saw the company move past a market cap of $1tn; just the third listed company to do so. Apple is coming under increasing pressure from various sources, with an anti-trust lawsuit against its dominant but restrictive App Store business, which represents some 35% of revenue. The company is also being hit heavily by the US’s tariffs announcements, as the majority of the iPhone is built in China, with the potential for an increase of $160 in the production costs. The company is down from a high of $230 to just $180 and now trades on a P/E ratio of just 15x.
  • It was a bad month for forecasters and economists in Australia, with the majority failing to predict the result of the Federal Election or the RBA’s decision to hold rates steady. Interestingly, close to half of the highly paid economists got the RBA’s call wrong and not one poll predicted the flood of votes to the Liberal National Party across the country. As always, it just reiterates the importance of not making investment decisions on expert forecasts and planning for several rather than a single outcome.
  • It is, however, becoming increasingly likely that interest rates will be cut in June, with the Governor announcing as much at a speech in Brisbane. Inflation remains under control, as does employment, however, weaker property prices have begun impacting the economy, with reports of mortgage delinquencies and cancelled settlements growing. In our view the RBA is likely moving too fast in cutting rates once again, leaving very little room to move should the economy weaken further.
  • ASIC continues to push harder with penalties for vertically integrated financial advice businesses claiming to be independent, with industry super the latest caught in the net. HOST PLUS received a $12,600 fine for claiming it’s financial advice was independent in recorded telephone calls; we ask will members be paying for this?
  • The ACCC’s decision to block the merger between TPG Telecom and Vodafone was derided by the financial sector and saw TPG’s share price fall heavily. The ACCC seems to be believe that TPG will recommence the construction of their 4G and 5G networks as a standalone entity even after this was cancelled earlier in 2019. The decision is expected to be appealed, as was that of QR National, which ensures Telstra remains in the box seat for growth as its competitors focus remains elsewhere.
  • It was reported during the month that APRA and the RBA are considering alternate strategies to revive the struggling lending market and spurring the major banks to open their wallets for borrowers once again. We understand the RBA/APRA are considering reducing the 7.25% benchmark rate which banks are required to use to determine the serviceability of the loans they provide. At this stage it is believed a 0.5% reduction to 6.75% is likely, given the muted outlook for interest rates around the world, which could potentially release 5% more capital to all borrowers.
  • The economic news around the world was mixed, with Australian unemployment increasing to 5.2%, from 5.0%; however the major drive was an increase in those looking for work by 0.2%. US Core Inflation remained steady at 2.1% whilst housing starts recovered growing 5.7% month on month suggesting consumer sentiment is improving. Neither was enough to see monetary policy move, with both the US Federal Reserve and RBA on hold. Things are also looking up in Europe, where inflation hit 1.7%, GDP growth was revised to a positive 0.4% reading as Germany and Italy returned to growth and Spain pushed ahead following their election.
  • The US-China trade war continued to escalate with the US proceeding with an increase in tariffs to 25% for some $200bn worth of imported Chinese goods. The banning of Huawei began filtering into the country’s largest Tech stocks with the likes of Google no longer willing to operate on its platform or utilise its products. As expected, the trade war is actually hurting US businesses, with farmers in particular being hit by weaker exports, resulting in a recent aid package being announced. Like most, we don’t believe the US President’s tweets are particularly helpful to markets, but agree that much needed pressure is being placed on China’s history in relation to intellectual property and foreign competitors. Tariffs and subsidies are of course not uncommon, it is when they are one sided that it becomes an issue.
  • We aren’t sure about you, but whilst we value some of the input provided by the likes of Invest Smart and Intelligent Investor, it seems the product pushing has moved to another level in the post Royal Commission world. We must have counted three invitations from Alan Kohler regarding an investment in a new ‘Ethical ETF’. Interestingly the Paul Clitheroe-backed Invest Smart recently purchased Kohler’s Constant Investor business, and are now launching any number of in-house investment opportunities. As always, we suggest proceeding with caution.
  • UK PM Theresa May stepped down, after putting years of effort into finalizing Britain’s exit from the EU. Her timing to take over the leadership couldn’t have been worse with her own party playing hard ball on any level of negotiations with the EU and basically costing her career. Boris Johnson, the likely replacement is pro-Brexit, however, it is still to be seen whether any agreement can be made before the Halloween deadline.