admin

Economic Update – July 2016

The Big Picture

Brexit – or the referendum to decide Britain’s future in the EU – dominated news up until the vote on June 23rd and then swamped it. The polls were always close – and there were only two possible outcomes – ‘exit’ or ‘remain’. But for some reason, markets and the British people were stunned when the ‘exit’ vote got up.

If we allow for the 72% turnout (voting was not compulsory) ‘exit’ scored 37% of the vote, ‘remain’ 35% and the ‘no vote’ was 28% – so it was a close run race. But Boris Johnson – the lead MP for ‘Brexiting’ – looked a bit like a frightened rabbit when he won. Indeed, he has now dropped out of the race to be the next PM!

Current British PM, David Cameron, went into hiding after announcing he would stand down by October and the leader of the opposition, Jeremy Corbyn is in trouble with half of his shadow ministry resigning because they claim he didn’t lobby hard enough to ‘remain’. And then 80% of his party gave him a vote of no confidence – but he won’t stand down, yet. There are now rumours of replacing the Governor of the Bank of England because of his views on Europe. The England soccer coach got sacked a couple of days after Brexit because his team lost to Iceland in Euro 2016! Nobody seems to have won! But leadership issues are not confined to Britain.

There is a chance that Parliament, who must sanction the vote for an exit to be enacted, might not take that next step and Germany is even looking like it might try to woo Britain back in.

The main downside for Britain is that London might lose its status as a major financial centre. In time, Europeans, who now freely work in Britain, might have to go home and vice versa. But it will take years for the whole process to unravel – perhaps a decade.

In the meantime stock markets have taken big hits but our ASX 200 seems to have done relatively well. Losses have largely been erased.

Of course, at home, we not only have Brexit to deal with. We have our own election on July 2nd, a possible rate cut on July 5th and the US jobs report on July 8th.

The US Fed seems to have walked away from a rate hike anytime soon – as we have been predicting for months. One cut in December is a far cry from the Fed’s four this year that they predicted last December – but it makes sense to wait.

Brexit may play a role in the Fed’s thinking but the last jobs number of +38,000, when +160,000 was expected, demonstrates a hike now would not be prudent.

Our jobs data were quite well received but we still see some weakness in full-time employment. Yes, there were +17,900 new jobs, but all were part-time. There were zero new full-time jobs, making January the last increased trend in full-time jobs!

But there are some good points. The European Central Bank did raise its growth forecast for 2016 – from 1.3% to 1.4%, and the Spanish general election the Sunday after Brexit, resulted in an increased majority for the ruling People’s party. This has been taken as a statement of conservatism after Brexit. That is, there was no swing to more radical parties that might want to follow Britain out of the EU.

By the way, Brexit is nothing like Lehman Brothers and the GFC. It’s not even as bad as the Greek debt crisis. Maybe more like the Blues losing the State of Origin series again (for those south of the border)!

Asset Classes

Australian Equities

After three consecutive months of strong gains, the ASX 200 had a negative month in June largely owing to the ‘Brexit’ referendum.

The losses were largely across-the-board with only Property and Utilities – two very defensive sectors – making gains in June. Stocks with possible exposure to Britain were hit particularly hard. The likes of BT Funds Management, Clydesdale Bank (a NAB offshoot) and Macquarie Bank were savaged.

The financial year (FY16) that just ended finished up +0.6% when dividends are included. However, that doesn’t tell the whole story. In FY16, the Industrials, Consumer Discretionary, Health, Property and Utilities sectors were all up between +20% and +25%. It’s just that Energy (???21.7%) and Financials (???8.7%) were hit hard.

We have the market slightly underpriced and the fundamentals look strong for FY17. It’s just a case of what temporary shocks buffet us along the way.

Foreign Equities

Market carnage hit most countries. The German DAX lost over ???6% on the day following Brexit. But a couple of days later most markets rebounded. Wall Street finished flat on the month and the London FTSE was up +4.4%. The German DAX was down ???5.7% showing that Germany might miss Britain more than the other way round!

The VIX ‘fear index’ jumped up sharply following Brexit but it has already settled down to below average.

Bonds and Interest Rates

The RBA was on hold again in June at 1.75%. Brexit may have changed the RBA’s thinking but we believe either way, one or two cuts would help us a lot.

The US Fed removed the phrase, “in the coming months” regarding the next hike in its press releases. Almost everyone takes that to mean there will be no hike soon. We think December is the earliest.

Bond yields have fallen in post-Brexit times. The German government yields are now on average negative!

The Bank of England has flagged the possibility of increasing stimulus – either by a rate cut or asset purchases – in the remainder of this year.

Russia cut its prime rate from 11% to 10.5%. And Japanese PM, Shinzo Abe, has urged his central bank to do what it takes to get through this bout of volatility.

S&P cut its rating of UK government debt to AA (negative watch) from AAA. It also cut the EU debt to AA from AA???. But remember the US lost its AAA rating a few years ago with no lasting backlash.

Other Assets

Iron ore prices have been amazingly stable given the global events but oil prices took a bit of a hit after Brexit. However, prices have now more or less recovered. Of course, oil is a far more speculative market than iron ore.

Our dollar has moved around a lot in June finishing the month up +2.5% against the US dollar. Normally we focus on the $A against the $US but, with Brexit around, the $A against sterling moved up well over 10% in the day or two following.

Gold rose strongly over the month, up +8.8%.

Regional Analysis

Australia

News on the economy has taken a back seat while we try to work out what the political adversaries are offering us. A big ticket item is superannuation and both sides have been less than forthcoming about the details of what they are proposing. Serious analysis we have done shows that politicians and public servants will be much better off than those in the private sector – whichever side wins. Nests have been feathered!

In a disturbing run of labour force data, the unemployment rate has held at a moderate rate of 5.7% but that is because an increasing numbers of ‘workers’ are part-time rather than full-time. Of course it is better to have some sort of job – maybe 10 hours – than no job at all, but that is not the basis of a growing economy. Full-time employment has fallen in each of the last four months in trend terms!

China

For a change, China is off the radar. All the doomsayers are in hiding or gainfully employed following Europe instead. It is clear that all of the data from China is consistent with it being an economy we don’t have to worry about.

BHP just announced a +29% increase in expenditure on mining exploration – up to $900m for 2017. It is also rumoured that they are thinking of bidding for the second largest fertilizer mine in the world – which happens to be in Canada. Of course BHP had been cutting back in previous years but this is a very positive sign for the resources sector.

U.S.A

Watching Trump v Clinton, Turnbull v Shorten and ‘Exit v Remain’ it is clear that the political order has changed. We can’t imagine enough people being content after the November presidential elections that there won’t be another bout of volatility then, if not before.

But the fundamentals of the US economy are not bad. They are just not great.

Europe

Britain is still in the continent of Europe if not the EU – at least not soon. Britain’s economy is one of the stronger in the region but it is not clear what will unfold in coming months.

There has been talk that France might also want a referendum to see whether it should stay in the EU. Spain voted conservatively in its election this week just gone. Frankly it is too soon to form a confident view of the world order. But the chances are there is more bluster than substance.

Rest of the World

Iceland deservedly bundled England out of Euro 2016 (soccer competition like a world cup for Europe). England left Europe twice in a few days! But Brexit could mean a lot of European footballers in the prestigious English Premier League have to go back home and be replaced by English players. The EPL football might not be then as good but the national team might do better (they couldn’t do worse).

The main Turkey airport in Istanbul was the subject of a major terrorist attack. It has been argued that the fear of Turkey joining the EU with the free movement of people was a major factor in people voting for Brexit.

Breaking up is hard to do – the Brexit

By Ron Bewley*. Brought to you by Infocus

History and the vote

When Neil Sedaka had his 1962 hit “Breaking up is hard to do” it was only four years after the signing of the Treaty of Rome – from where the European Union (EU) was born. France strongly objected to Britain joining for many years which was the catalyst for many boys in secondary schools across England (including moi) to question why they had to learn French.

So with Brexit winning the referendum on Thursday, did Britain get what it wanted or needs? We thought the bookies would have got it right with a ‘Remain’ win. Even Boris Johnson (Tory MP and former Lord Mayor of London) and Nigel Farage (MP and Leader of the UKIP party) – the two most prominent “Brexiteers” – didn’t think they would make it on the morning of the referendum – but they did. With the vote at about 48% : 52% and a total casting vote of about 70% (voting is not compulsory in Britain), the people who didn’t vote came in a very close third in the race: 33.6% = 70% x 48% for ‘Remain’; 36.4 = 70% x 52% for ‘Brexit’; and 30% = 100% – 70% didn’t vote)!!

This was not a resounding victory but it was enough to start the exiting process.

Many of us were glued to the telly all day on that Friday, June 24th. Our reaction changed markedly as the results flowed in. Our first reaction was unrest because the consequences of leaving hadn’t really been discussed in the media. But we felt calmer as the day progressed. The shock subsided.

So why did Europe want Britain to stay as much as they implored? They must be getting a better deal than Britain! If they trade with Britain now, why wouldn’t they want British goods when they are ‘sans Europe’?

Changes ahead

Of course Britain may stop making Airbus wings in North Wales which then have to navigate canals, the River Dee, the Irish Sea and the English Channel and more canals to be delivered to Toulouse and stuck on the bodies of planes. But Britain won’t have to subsidise all of those small farmers any longer in France, Greece and elsewhere. Britain won’t have to pay for our euro MPs to live on the gravy train in Brussels. It is a nontrivial problem to solve and the answer is not known by anyone – yet!

The Bank of England and the European Central Bank have stated they will pour oil on any troubled financial waters. This is certainly not a Lehman Brothers or GFC type event. It is also clear that it will take up to two years for Britain just to exit Europe – it doesn’t change straight away. Indeed, the full transition to renegotiate trade deals could take up to a decade.

So what are the pros and cons? On the downside, the biggest risk is what will happen to London as a financial centre. That could be a big down-side and it could also affect Australian banks in their funding (yes – we borrow from the world and not the RBA for home loans so that’s why mortgage rates shouldn’t simply shadow the RBA rate).

But Britain will no longer be told how to regulate its economy by Europe. A Cornish pasty can once again be ‘crimped’ on the top and not just the side to be properly classified as a “Cornish” pasty. And they can again grow any variety of apples they want! They can even take control of the style of sausages they make and sell!

Continental Europeans freely working in Britain may have to go home. Economic refugees in Britain would not as easily get government benefits. Britain can regain control of its borders. People will have to show their passports to travel and get visas to work – just as young Australians do who work in Britain now and vice versa.

Australia has recently made important bilateral trade deals with the likes of China. It can now make some with Britain without having to convince the other 27 counties that the same rules should apply to them. For example, one deal with Europe was recently scuppered because the Italians didn’t like our proposed anti-dumping laws for their tinned tomatoes.

Domino effect

But who will be the next cab off the rank? Britain joined the then European Economic Community (EEC) when there were just a handful of countries “in Europe” – then some peripheral countries joined – then the far eastern, poorer European countries such as Bulgaria and Romania joined in 2007.

We don’t think Britain would ever have joined if there was a common currency and 27 other countries. The current EU is so different from its forerunners and is largely led by Germany – and to some extent France – and Brussels.

The EU has a common currency, the euro, across 19 of the 28 countries but no common fiscal policy. That is, unlike in Australia where Canberra controls much of taxing and spending across the separate states, 28 governments in the EU have no strict common goals. Hence, we got problems with Greece and its debt problems. Greece couldn’t devalue, as it used to without leaving the euro and the EU subsidies it gets.

Scotland is now talking about having a second bite at being a separate nation after Brexit. Scotland largely voted to ‘Remain’ in Europe – as did the south east of England – but the more working class north of England swamped the ‘Remain’ votes in the single aggregated British vote.

And there has been talk of a referendum to decide where, if anywhere, should be the border between the Republic of Ireland and Northern Ireland (in the UK).

Denmark and others who are not in the common currency but in the EU might be watching closely. If Britain starts to look better off, why wouldn’t they follow suit?

The EU morphed into a grab-bag of unlikely bedfellows. The initial reason for making the union was almost certainly to give Germany and France a voice on the world stage. But they needed to add some chums to make it seem like a real union. Shades of 1989 and the falling of the Berlin Wall are now so close.

Stock markets

Markets usually over-react and they probably have done so this time. It looks like there will be big buying opportunities ahead but not in our banks until we better know what will happen in that space.

We couldn’t help but notice that the falls on the ASX 200, the London FTSE and the S&P 500 on Friday were all around ???3.5%. But over the week the ASX 200 was only down ???1.0%. We got a bit ahead of ourselves in predicting a ‘Remain’ and then unravelling some positive momentum.

The London FTSE was actually up +2.0% for the week even after Friday’s big sell-off! The S&P 500 on Wall Street was down only ???1.6% for the week.

The Frankfurt Dax was only down ???0.8% for the week after tumbling over ???6% on Friday night.

With our SPI futures (an indicator of how the ASX 200 is likely to open on Monday as it is traded overnight) up +3 pts for Monday, it is possible order could quickly return to markets.

Football (soccer)

England lives to fight another day in the Euro 2016 football competition. England faces the mighty Iceland at 5am on Tuesday in the last 16. England has only played them once before and England won 6-1. But has Iceland improved or did the other teams just capitulate in the group stage matches? We hadn’t really thought of Iceland as being in Europe. Are they in the EU? No! And Australia entered Eurovision and we are certainly not in Europe.

But if England gets through, it will probably meet France in the quarters – and in the unlikely event England progresses to the semis, it then faces its arch-rival in football, Germany. For England to possibly face France and Germany only days after Brexit, the mettle of these footballers will surely be tested.

What to watch for

Simply watching the finance news on TV might not give you the information you really need. The media has a seeming predisposition to focus on bad news and draw a long bow when connecting some events.

The end of the financial year on June 30th usually brings with it some extra temporary volatility on our stock market as fund managers ‘window dress’ their portfolios to look as good as possible for reporting purposes.

Our general election on July 2nd could cause some volatility in its own right depending on how the voting goes. A hung parliament is the worst result. Our government – of whichever political flavour – needs the power to enact good economic policy.

The Reserve Bank of Australia deliberates on interest rate settings on July 5th. It might cut rates. It might change its interpretation of how the economy is travelling. So more volatility is possible!

On July 14th (Bastille Day!), our June Labour Force data will be released by the Australian Bureau of Statistics. The recent trend in full-time employment has been falling to the extent that changes in f/t employment have been negative for four consecutive months.

No one really seems to be talking about this – except us at Infocus for the last few months – so if we get another fall and it gets picked up? You’ve guessed it – more volatility.

And in August most listed companies on the stock exchange report their final or half-year results. Since companies must give guidance about changes in performance, many companies upgrade their prospects in July – the so-called ‘confession season’.

Conclusions

Even without Brexit we would expect a few weeks of heightened uncertainty in our markets. The fundamentals are quite strong – but not brilliant. We anticipate looking back on June and July later in the year as another blip but no more.

The UK Prime Minister has flagged he will leave office in a couple of months and Boris Johnson (aka BoJo), the enigmatic former Mayor of London with a hair style akin to Donald Trump, will probably succeed. He is a very smart, charismatic man (BoJo not Trump) who is likely to steer Britain through change as good as anyone could.

We need to watch for any of the big international banks, like Morgan Stanley and Deutsche, to see if they feel a need to relocate some of their offices, etc.

And at home, the only likely downside to the Brexit seems to be an impact of funding for our banks. Perhaps we can strengthen our relationship with Britain. That should not stop us continuing to have good relations with continental Europe.

Of course, dual citizens (Australian and Continental European) might be less able to go and work in Britain. But plenty of Americans holiday in Britain each year without being EU members.

So it’s time to take a deep breath, put the kettle on and have a cuppa to settle the nerves – just as they are probably doing across Britain right now.

*Ron Bewley(PhD,FASSA)– Director, Woodhall Investment Research

Important information

This information is the opinion of Infocus Securities Australia Pty Ltd ABN 47 097 797 049 AFSL and Australian Credit Licence No. 236523 trading as Infocus Wealth Management and may contain general advice that does not take into account the investment objectives, financial situation or needs of any person. Before making an investment decision, readers need to consider whether this information is appropriate to their circumstances.

Economic Update – February 2016

The Big Picture

The hope many of us felt for markets on New Year’s Eve dissipated in the first week. But January ended so strongly here, Wall Street and elsewhere. So what is going on?

It was largely an accidental coincidence of several things that separately may have had little impact. The economic questions were around China (its stock market, currency and economic growth); US economic growth; oil prices; and interest rate expectations. Each of those is worthy of much consideration but, on top of those issues a number of other events muddied the waters: North Korea’s nuclear testing; IS terrorism; Iran’s sanctions being cleared; Saudi Arabia and Iran over executions; and attacks on the embassy in Tehran.

And the elephant in the room was the length and stability of the multi-year bull-run on Wall Street. Some were expecting a correction just because they hadn’t had one for ages. With that sentiment, markets can easily overshoot when innocuous missiles are thrown at markets. Well they’ve now had that correction so we can move on!

Let’s start with China. Growth has been questioned in some quarters but China just announced not only a strong month for iron ore imports, but a record! RIO backed this up with Q4 iron ore shipments up 11%. Treasury Wines share price went through the roof when it reported its increased exports to China.

China growth will hopefully continue to fall gradually as they move from a government-funded infrastructure economy to more of a capitalist economy like ours. All developed countries have been through periods like China is now experiencing.

Of course their stock market being closed twice in one week because of sharp price movements didn’t help the uninitiated – but the explanation was so simple. The market was closed the first day ‘circuit breaker’ rules were introduced for the first time ever. Everyone admits that the rules were too sensitive and caused the market falls rather than helping market stability. Those rules were quickly shelved.

And the China currency? They are moving from being pegged to the US dollar to a system referencing a basket of the currencies of its major trading partners. The problem here was China not communicating its strategy well enough, rather than doing something people shouldn’t like.

US economic growth just came in at 2.4% for 2015 and +0.7% for Q4. Their unemployment rate is 5.0% which is just a tenth above what the Federal Reserve (Fed) considers full employment to be. Calls for a recession any time soon seem to be the results of underemployed analysts trying to establish a profile for themselves.

And oil? The real experts acknowledge that a sustainable price for oil is around $50 – $60 / barrel. Any higher and shale oil in the US will be back on stream; any lower and countries go bankrupt. But OPEC has been playing games with the US over shale oil and speculators have been exacerbating the situation.

When Brent oil got down to $26 in late January, some were calling for $10 of Brent oil – a fall of around a further  60%. In a few days Brent jumped up over +30%!

But the Fed has been caught out on interest rate hikes. They predicted four hikes during 2016 at their last press conference but markets are pricing in none or one. There is no rush.

For those of you coming back from a good long summer holiday – welcome back – you didn’t miss anything important on the markets – just froth and over-reaction!

Asset Classes

Australian Equities

The ASX 200 was down  5.5% in January after being up +2.5% in December. But this turbulence was not like that last August. Back then the market fell on statistics like the VIX fear index were, which was much worse than that in January. Resource stocks and Financials bore the brunt of the negativity in January but no sector improved by more than +1.0%.

Importantly, our indicators of potential long-run capital gains improved over the month. We have the market under-priced by about  6% so there could be some strong gains sometime soon.

Reporting season by listed companies is about to start. Since a number of downgrades have been reported in resources and retail stocks, much of the bad news is behind us.

Foreign Equities

Our market, although down, performed well compared with many of the big overseas markets. The world index was down  7.8%.

China’s “Shanghai Composite” index continued to lose ground as the heavy gearing encouraged by the government in late 2014 and in 2015 was unwound.

The China regulator brought in ‘circuit breakers’ that closed the market for 15 minutes if the index fell by  5% and closed it for the rest of the day if the index fell by  7%. These limits were far too tight for a volatile index like the Composite. The more stable US market only gets closed for the day if its index falls  20%.

Arguably, the introduction of the circuit breakers for the first time ever in January caused the shutdown on day one and the next. When the breakers were removed the market settled down.

Bonds and Interest Rates

Japan spiced up the cash market at the end of January by flagging negative interest rates, more monetary stimulus and a prediction of 2% inflation in two years after decades of deflation.

The Fed suggested last December that it might hike rates four times in 2016 (March, June, September and December) but the market doesn’t believe them. It seems more like one or none. There is no need to rush increases and the last thing anyone would want is for the Fed to hike rates and then be forced to reverse the decision in an untimely fashion.

At home the RBA did not meet in January. The odds of a cut this year are falling but one cut is still possible. Inflation did pop up a bit in the last read so the RBA might want to wait a few months to assess the situation before acting.

Other Assets

Iron ore and oil prices seemed to have stabilised – at least for the moment. There is talk of co-operation between Russia and OPEC over supply limits but, apparently, enacting such a move would be difficult for technical reasons. With Iran being allowed to export oil again after nuclear-related sanctions, there is downward pressure on oil prices. Brent oil was up +15% on the month!

Iron ore prices have been above and below $40 / tonne during January. Vale, the big Brazilian miner, is reportedly having difficulties with pricing and that might help Australian miners.

A number of other commodity prices bounced back at the end of January. Was January just the month we had to have to shake out the cobwebs?

Regional Analysis

Australia

Our jobs data remained strong – against market expectations. It is now over a year since unemployment peaked at 6.3%. Jobs growth continues to be solid.

We are fast approaching the budget and the government is, as is usual, airing some options to test market sentiment. Some are questioning our AAA rating. As we have been writing since the May 2014 budget, we do have a serious problem to tackle. We are not currently in trouble but we will be if we do not start doing the right thing soon.

China

China’s GDP growth for 2015 came in at +6.9% just short of the target +7%. China has announced that its target growth rate is now 6.5% to 7.0%. Its trade data were much, much better than expected.

The China Purchasing Managers Index (PMI) for manufacturing at 49.4 shows that the industry expects continuing strong growth but at a slightly lower rate (as the PMI is below 50). The PMI for services at 53.5 shows continuing expected strong growth but at a more rapid rate.

U.S.A.

Following the December rate hike – the first in nearly a decade, US jobs data came in particularly strongly. Unemployment is only 5.0% compared with the Fed’s estimate of full employment being 4.9%.

The latest GDP growth data did come in a bit softer than the quarter before but more or less on expectations.

The Presidential election, set for November, is hotting up. The usual smear campaigns are starting on both sides.

Europe

Sweden is considering sending a significant number of refugees back and others are seeking to claim expenses for settlement back from the ‘asylum seekers’.

Angela Merkel – the German leader – has suffered in popularity following her desire to take in an almost unlimited inflow, and has had her previously massive support cut to about 40%. She has now stated she expects most to return home when the troubles end. With the huge death toll in Damascus from bombings overnight, that end doesn’t like coming any time soon.

The ECB is still on the case regarding monetary policy. Europe is healing – but slowly.

Rest of the World

Japan lost its Treasurer in a scandal but that hasn’t stopped the policy machine from seeking new ways of supporting the economy.

New Zealand kept its rate on hold but it is considering further cuts.

Russia is hurting and is seemingly trying to gain support in oil prices. But, apparently, the nature of the frozen terrain in Siberia means that if they do cut back supply from there, it will be lost forever. As a result, this month’s meeting between OPEC and Russia is limited in what it might achieve – but, perhaps, talking is a useful start.

Nigeria has just sought a $US3.5bn international loan to support its budget while oil prices for its major export are depressed.

ASX 200 bounces back – so was cash the answer?

After ‘Black Monday’, the ASX 200 opened much lower but then rose 209 points during the day to close up +2.72% on Tuesday. Of course nobody can reasonably predict turnarounds like this with any precision but it is not unreasonable for analysts to attempt to distinguish bouts of short-run volatility from a long-run, secular decline. During times like those experienced in the last few weeks, some people question whether a fund, such as ones from the Alpha Funds Management suite, should have held a larger position in cash.

Cash held inside a managed fund should be distinguished from cash held directly in an investor’s say term deposit. The latter can be used for transactions without the costs of drawing down from a fund or, importantly, drawing down from a fund during a downturn. All investors should have some direct cash holding but the amount held depends upon the investor’s specific circumstances. In this note, we will focus on a cash holding within a managed fund. For simplicity, let’s nominate a 30% cash holding.

At the moment cash rates are so low that we can think of the cash rate over a month or so as being effectively zero. That assumption greatly simplifies the maths. If the non-cash part of a fund (let’s call it portfolio ‘A’) returns 2% (capital gains) over a month, ‘A’ combined with 30% cash would earn 0.7×2% = 1.4%. If portfolio ‘A’ combined with 30% cash earned ???2% over the month, the composite portfolio would earn ???1.4%. In other words, cash dampens the composite return towards zero. However, cash holdings also reduce distributions – and a fund that charges fees is implicitly charging for cash holdings.

If the 2% return example in the previous example was accompanied by an intervening short-term fall of say -10% and a bounce-back to still achieve the 2% return on the month, there is no gain or loss unless the fund traded in the dip, or the investor needed to draw-down funds. Assuming that the latter is accounted for by cash holdings outside of the fund, a significant cash holding such as 30% only benefits the investor if the fund invested heavily in the downturn! In other words, a fund with a significant cash holding in volatile times only gains when the investor agrees with a high degree of risk taking. Until the bounce-back has taken place, it is not known how deep the dip will be.

How many conservative or balanced investors would have been happy if they had known a large cash holding was about to be nearly fully invested on ‘Black Monday’ or Tuesday morning? Of course, if there is an expected secular decline in markets, a cash holding might later be drip-fed into riskier assets over a long period of time and therefore, with less risk than in short-run volatility bursts.

Since Alpha Funds Management believed that increased short-term volatility might accompany the actions of the Fed it was not appropriate to go significantly into cash (of course Alpha always holds a small amount of cash consistent with day-to-day management of funds). If, at some point, the Alpha team expects a secular decline in relevant markets, it has the facility to hold higher cash levels and it intends to do so as appropriate.

In a related matter, an advisor pointed out that the May Economic Update canvassed a ‘high’ of 6,400 before the end of 2015. Importantly, that May issue pointed out that the e-o-y forecast was 5,900 but the market was running ahead of the January 1 forecast. The updated e-o-y forecast was stated as 6,100 but, such is the extent of volatility, a ‘possible 6,400’ could not be ruled out as a temporary high – hence the exclamation mark after the 6,400 in the May update!

Followers of our webinar series will note that we published the high and low ASX 200 forecasts from time to time and specifically in the May webinar. The point of the webinar series is to give more information to advisers than we could reasonably expect to get through directly to our investors. We reproduce the May webinar chart below with exactly the same forecasts that we published in May and other months but with the ASX 200 updated to the close of Tuesday 25th August. We feel comfortable that these bounds and forecasts convey useful information to advisers.

In summary, substantial cash holdings to get through short-term periods of volatility is tantamount to encouraging risky trading by a fund manager. Alpha prefers to take long-term positions by choosing appropriate funds, weights and ’tilts’ – but, of course, Alpha reviews all holdings on a regular basis in team meetings and in annual reviews.

Box forecasts of the ASX 200 as at May 2015 but with updated index data

Box forecasts of the ASX 200 as at May 2015 but with updated index data

Box forecasts of the ASX 200

Notes: For each calendar year, the diagonal solid, coloured lines are the baseline forecasts. The upper and lower dotted lines (of the same colour) are the predicted highs and lows for some unspecified point during each year. These forecasts are not altered during the course of the year but updates are calculated and reported on over the year to show whether the original forecasts are still consistent with actual behaviour.

Yours faithfully,

Ron Bewley PhD, FASSA
Director
Woodhall Investment Research

Economic Update – May 2015

The Big Picture

The ASX 200 spent April toying with the idea of breaking through 6,000 – and breaking through is oh so different from staying above 6,000! We have now had five surges before retreating back to just under the elusive 6,000 figure and this has occurred within the last two months. But that isn’t a problem – it is normal market behaviour. We have the market priced at around 5,850 so we will likely get to 6,000 one day soon – and stay there come the second half of the year.

After iron ore and oil prices tumbled over 2014, there have been impressive bounce backs in both of these commodity prices. We have argued previously in this update that both prices were being manipulated by the big three miners for iron ore and OPEC for oil.

While the doomsayers were predicting the end of the world, iron ore prices surged from around $US47 per tonne mid-April to above $60 before a small end-of-month sell off. Brent oil (the world price) started April at $US54 per barrel and reached as high as $66.76 at the end of the month.

Naturally, these commodity price movements helped stocks in the resources sector of the ASX 200 but some high yield stocks came off a bit in price as some investors rebalanced their portfolios.

The big fall at the end of April (just after the fifth bounce below 6,000) of ???109 points in one day – only to be followed by a fall of ???49 points on the next/last day – certainly brought some investors to their senses. We would rather the market frequently have these ‘baby’ corrections rather than having blasted through 6,000 only to fall back to 5,000 because of a bursting bubble. After the big fall that occurred on the 29th April, the market finished 12 points below our previously-held estimate of fair value of 5,850 – just 60 points above where the index finished in April.

The Reserve Bank of Australia (RBA) kept rates on hold against the odds after its early April meeting. The market had priced in a 75% chance for the RBA to cut its rate by 0.25%. Naturally, the market immediately priced in the next cut for the May 5th meeting with equal gusto – but the change in direction for commodity prices in subsequent weeks have dampened expectations for a cut in the immediate future.

But most analysts seem to be calling for at least one more cut this year from the current 2.25%. However, 2% is seen as a psychological barrier for many making only one cut slightly more likely than two.

The Governor of the RBA, Glenn Stevens, gave a speech at the end of April pointing out that monetary policy – such as varying interest rates – has done just about all of the work it can for the economy. It now needs the government to create a particularly good budget in terms of creating confidence and growth.

The Governor also pointed out that retirees are worse off than those from a decade ago in terms of finding almost risk-free yields from which to generate a stable income (but many do have 10 extra years’ worth of compulsory super savings to help out!) . And he emphasised that this situation is likely to last for a long time. The importance of investors – in this low rate regime – discussing investment strategies with their advisors is becoming increasingly important. But we are not alone. Low rates are a global phenomenon.

Foreign Equities

It took 15 years, but the NASDAQ (the US ‘tech’ index) at last reached a new all-time high. Of course the dot-com boom and bust of 15 years ago was fuelled by some companies listing for the first time (known as IPOs) on the stock exchange with no earnings-to-date and not much of a business plan. Investing in nothing but a dream is what created that bubble.

A new bust on the NADAQ – or any other major international index – does not look likely any time soon because standard capital raising conditions have again become the norm – but markets often go sideways for a while after a significant new high is reached. The end???of???month sell???off on the NASDAQ is of no great concern. It’s called profit taking.

The S&P 500 – and other major markets around the world also reached new all-time highs in April. The recent earnings season in the US was quite good but the consensus seems to be that the next strong rally might not kick off until the second half of 2015. We see around 7% growth in the S&P 500 from the end of April to New Year’s Eve.

Bonds

It is never clear where the discussions between Greece and the banking authorities stand. But, as the Greece economy is only about 2% of the Eurozone economy, we do not expect any major fall-out to markets that affect us, no matter how the Greece situation ends – within reason of course. The very latest talks revealed that the Greece government is giving some ground.

Our 10-year bond yield stands at about 2.6% while the equivalent yield in the US is about 2.0%. But David Murray – former CEO of CBA and Chairman of the Future Fund – and Chairman of the recent Banking Inquiry, has just suggested that Australia could lose its AAA rating if it doesn’t manage its debt problems better. Goldman Sachs joined the chorus. Losing our AAA status would affect our yields and, importantly, have a detrimental impact on our big banks.

Interest Rates

The RBA did not cut rates in April. The inflation read of 2.3% pa released since that meeting, and the flat or improving labour market situation, are taking some of the pressure off the RBA to cut in May.

However, our economy continues to grow at below trend pace and it is very unusual for the RBA to only cut once. Changes in rates usually come at least in pairs, if not longer strings.

The government’s budget comes out after the next RBA meeting so there is a reasonable chance that the RBA will wait to interpret the possible impact of the new budget before it cuts again!

The US Fed has been in no rush to raise rates. We reiterate from last month that the current Fed rate range of 0% to 0.25% is not very different from 0.25% to 0.50% following one little hike, but markets would react negatively in the short run. The Fed’s minutes released in early April showed a split decision for a June cut and the labour market data released on Good Friday was so poor in comparison to the trend, that a June hike was almost ruled out of contention.

The Fed met again at the end of April and released yet another report. This time they removed any mention of a calendar date for a rate hike – supporting the pushing out of expectations for a hike. However, they do see the weak economic growth in the US at the start of 2015 as transitory with a pick up expected in the second half of 2015.

Other Assets

It does not follow that the recent rebound in oil and iron ore prices means that this is sustainable or prices will continue to rise. However, the particularly gloomy forecasters of a month or so ago seemed to have gone into hiding.

We believe it is unwise to simply extrapolate the April rally into rising commodity pricing but that does not stop us from being positioned to take some additional benefits from any further rally – should prices happen to rise further.

Regional Analysis

Australia

It was only one of many surveys in April but the weekly ANZ-Roy Morgan ‘economic outlook’ poll at the end of April jumped by +8.6% in a week to a creditable index value of 111.8. Of course it might turn out to be a statistical aberration but we cannot rule out that the government’s softening stance in budgetary measures is starting to boost optimism.

ANZ’s weekly consumer confidence index in the same survey release was below its average. Outlook and confidence measures are misaligned at the moment and variable. Could it be that confidence lags economic outlook, outlook ticked at the very end of the quarter? But Retail Sales were up +0.7% for the month! Another indicator of a late change in views after the budget stance increasingly softened.

Some interpreted the fall in our unemployment rate from 6.3% to 6.1% in the April release (for March) as a great sign of recovery. Equally the increase in jobs of +37,700 was particularly well received. But we agree with the Australian Bureau of Statistics (ABS) – and our past, frequent comments in these economic updates – which we should focus on the ABS published trend data rather than the volatile seasonally-adjusted headline data. The trend data have been flat for months. It is far too early to get excited and, equally, gloom should be set aside.

The inflation data came out and they may have looked a bit confusing to non-professionals. The RBA focuses on a measure that strips out the impact of certain volatile items such as oil prices. The ‘headline’ number was a low +1.3% but the RBA-preferred measure was +2.3% which is close to the middle of the RBA’s target range of 2% – 3%. So inflation is not currently a problem.

China

China’s Purchasing Managers’ Index (PMI) for manufacturing came in at 50.1 – the same as in the previous month. A number above 50 signals growing economic growth.

The new China economic growth figure came in at 7% in April, bang on the new target figure for the year. Some analysts were negative about this number because it was the lowest in 9 years.

It is well-known (or at least should be) that most companies and countries that start from a low base go through a period of rapidly growing growth rates to be followed, as the company or country starts to mature, by slowing growth rates to values like the current 3% economic growth (on average) rate experienced in the US, UK and Australian economies.

In terms of the ‘volumes of goods and services’ now being produced in China, 7% growth now is much, much bigger than 7% a decade ago because the China economy has more than doubled in size. One day, when the China economy has fully matured, it will probably grow at around 3% like other developed economies. Do we worry that the US and Australia only grows at around 3% pa on average? No!

U.S.A.

The US had a particularly poor nonfarm payrolls (jobs increase) figure at the start of April when it came in at +126,000 for March – or about half of an average month over 2014. But the unemployment rate remained steady at 5.5%.

Possibly, the particularly cold winter again temporarily impacted on jobs growth in March – or was it another statistical aberration? It was, however, encouraging that the hourly average wages figure ticked up by a moderate +0.3% from +0.1% the month before. The Fed focuses on wages growth because that is a better indicator of labour market pressure than just numbers of people in work.

US GDP growth in quarter one was a miserable +0.2% (annualised) after the +2.2% in the last quarter of 2014. Economists had expected a slowing – but only to +1.0%. The Federal Reserve stated that it believes this low result is transitory and strong growth will resume in the near future.

Europe

Consumer price inflation was only up +0.1% in Europe. Economic growth in the UK was up +0.3% for the quarter. Of course fears of Greece debt problems are muddying the waters.

Rest of World

Japan had its debt downgraded to A from A+ by the Fitch rating agency and that follows a recent downgrade by Moody’s. It seems that Japan and the world shrugged that downgrade off.

*Ron Bewley(PhD,FASSA)– Director, Woodhall Investment Research

Important information

This information is the opinion of Infocus Securities Australia Pty Ltd ABN 47 097 797 049 AFSL and Australian Credit Licence No. 236523 trading as Infocus Wealth Management and may contain general advice that does not take into account the investment objectives, financial situation or needs of any person. Before making an investment decision, readers need to consider whether this information is appropriate to their circumstances.  

Infocus launches Client Engagement tools

Infocus Wealth Management Ltd today announced the launch of its new client engagement software tool, Client Portal.

Infocus’ Client Portal allows clients of advisers in the Infocus group network to view their assets, liabilities and risk premiums under advice via a secure login.  Once logged in, clients can also view their advice documents, client service agreements and fee disclosure statements, as well as self-complete up to date information through Infocus’ online fact find that automatically populates and updates the client’s details in Infocus’ proprietary CRM.

“We’re really excited about launching this great functionality, which is exclusively available to advisers licensed under the Infocus and PATRON dealer groups”, says Infocus Managing Director Rod Bristow.  “All advice businesses have ‘legacy’ or ‘C & D’ clients.  Providing a way to engage with these clients cost effectively will lead to improved client engagement and reduced risk for advisers”, Bristow said.

Existing and new clients are issued with a login to the Client Portal.  Once logged in, clients can view all of the assets, liabilities and risk premiums they have under advice with their Infocus group adviser.  Data feeds for a wide range of products on the Infocus group APL provide up-to-date information for clients on the status of their wealth.

“There’s lots of talk about ‘robo-advice’ in the industry.  At Infocus we believe the emergence of direct to client solutions will no doubt be important, as we saw in stockbroking with the success of CommSec and E*Trade.  However, advice requires a more complex approach to engagement, particularly initially.  By providing tools to increase client engagement such as our Client Portal, advisers will be able to increase awareness and ultimately the numbers of clients receiving advice – which is a great outcome for advisers and their clients”, he said.

The Client Portal launch is part of an ongoing strategy of enhancing Infocus’ proprietary CRM, advice generation and practice management software, PlatformPlus.  The most recent software release also includes a ‘Dashboard’ of key metrics across client engagement, revenue and staff productivity, providing advisers with an instant snapshot of how their business is performing against plan.

“Infocus sees our role for advisers across our two dealer groups Infocus and PATRON as helping to grow revenue, increase efficiency and manage risk.  The Client Portal and Dashboard functionality released this week ticks all of these boxes”, Bristow said.

For more information please contact Rod Bristow on 1300 463 628.

Find an Adviser

Enter your postcode to find your closest adviser

Postcode