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Shane Oliver
Financial markets
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Shane Oliver is head of investment strategy at chief economist at AMP Capital.

Uncertain times

Monday, June 29, 2015

By Shane Oliver

The week ahead will involve significant uncertainty. A missed payment to the IMF on June 30 could be handled by the IMF allowing Greece to be in "arrears" until the outcome of the referendum is known.

The situation for Greek banks is rapidly worsening. So ideally the referendum needs to be held with the support of Greece's creditors – but so far this is unclear with Eurozone finance ministers telling Greece that its bailout program will expire on June 30. It’s also not quite clear what the Greeks will be voting on as the creditor offer will lapse. The continuing uncertainly will likely weigh heavily on Eurozone shares (which may give up their 4% gain of the last week and then some), the Euro and global shares generally.

Putting aside the risks around the week ahead, having a referendum is probably a good way forward for Greece as it will indicate whether the Greeks want to stay in the Euro or not. If the referendum is passed it will send a clear signal to the Greek Government to engage constructively with the rest of Europe to provide funding and then work with the creditors to put Greece's debt burden on a more sustainable footing. The latter was getting close last year but the election of Syriza threw a spanner in the works. However, a Yes vote would not provide immediate resolution though as it may mean that a new Government would have to be formed. A No vote would put Greece on the messy path to an exit from the Euro (or Grexit).

Finally, while uncertainties around Greece remain intense, leaving financial markets vulnerable, it’s worth reiterating the rest of Europe is in far better shape now to withstand a Grexit than was the case through the 2010-12 Eurozone crisis, so the fall out in financial markets should be limited. If Grexit is the way it goes, at some point it will provide a big relief rally for Eurozone shares as it will mean that the whole silly, nearly six year long debacle with Greece is finally over.

What to watch over the next week?

In the US, the main focus will be on June manufacturing and jobs data. Expect to see a 1% gain existing home sales (Monday), further gains in home prices and consumer confidence (Tuesday), a slight gain in the ISM manufacturing conditions index (Wednesday) to 53, another solid 225,000 gain in June payrolls and a fall in unemployment to 5.4% (both Friday). Perhaps the main focus will be on whether the average hourly earnings data shows another uptick in wages growth.

In the Eurozone, uncertainty will be intense regarding Greece ahead of its referendum. On the data front expect to see modest gains in economic confidence (Monday) consistent with gains already reported in business conditions PMIs for June. June data for inflation (Wednesday) and retail sales (Friday) will also be released.

In Japan, expect a slight fall back in May industrial production (Monday) and the Tankan business survey (Wednesday) to show a further improvement.

China’s manufacturing conditions PMI for June (Wednesday) will likely show a modest gain reflecting support from the monetary easing.

In Australia, expect to see further strength in new home sales and continued modest growth in credit (Tuesday), a rebound in home prices in June after a weak May and a 1% gain in building approvals (both Wednesday), a sharp improvement in the May trade deficit (Thursday) after the partly weather related blowout seen in April and a slight rise in May retail sales (Friday). On the credit front the main interest will be in whether the growth in lending to property investors slows below APRA’s 10% target.

Outlook for markets

Much depends on Greece in the short term with a Yes vote and an eventual deal likely to see a bounce in shares, but a No vote leading to more near term weakness.

Beyond this though the combination of seasonal weakness and uncertainties around bond yields and the Fed are likely to make for continued volatility in the short term.

But looking beyond near term risks, the conditions for an end to the cyclical bull market in shares are still not in place:  valuations against bonds remain good; economic growth is continuing at a not too cold but not too hot pace; and monetary conditions are set to remain easy. As such, share markets are likely to see another year of reasonable returns, despite current uncertainties.

It’s worth noting that we have seen similar bouts of uncertainty at some stage through most of the last few years, so in a big picture sense it’s nothing new.

Still low bond yields point to soft medium term returns from bonds, but it’s hard to get too bearish on bonds in a world of too much saving and spare capacity. Central banks won’t ratify a bond crash like in 1994, by raising interest rates aggressively.

The broad trend in the Australian dollar remains down as the Fed is likely to raise rates later this year whereas there is a 50/50 chance that the RBA will cut again and the long-term trend in commodity prices remains down. We expect a fall to $US0.70 by year end, and a probable overshoot into the $US0.60s in the years ahead.

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Volatility to continue, but bull market not over yet

Monday, June 22, 2015

By Shane Oliver

Chinese shares

Chinese shares have had another sharp pull back with the Shanghai composite having had a 13% fall from its June 12 high.  After rising 140% over 12 months and around 50% year to date, such volatility is to be expected as it has risen a bit too far too fast.

The easy gains are probably over and a period of correction would be healthy. However, it’s worth reiterating that the Shanghai composite index on an historic PE of 21 times is still below its long term average and should benefit as further monetary easing comes through.



Note that chart shows monthly data. Source: Thomson Reuters, AMP Capital

 

In fact with Chinese authorities wanting the share market to be strong but not manic, the latest share market correction means that it wouldn’t be surprising to see another PBOC rate cut or required reserve ratio reduction soon. 

The US

The Fed remains on track to hike later this year, but it’s looking more gradual. The message from the Fed’s latest meeting was relatively benign with growth and the jobs market looking stronger and a rate hike on track for later this year, but the hike remaining dependent on a further improvement in employment and confidence that inflation has bottomed. The Fed has also revised down its interest rate expectations (the so-called dot plot) reinforcing that rate hikes will be gradual. My base case remains that the first hike will be in September – but the risks are that a combination of slower growth, Greek related turmoil or a stronger US dollar could push this out to December. So far it feels like the experience with the taper in 2013, with investor nervousness ahead of the taper, but by the time it started it was already factored in.

What to watch over the next week?

In the US, expect to see a decent gain in existing home sales (Monday) but a fall in new home sales, a further gain in home prices, a continued trend improvement in durable goods orders and the Markit manufacturing conditions PMI remaining reasonable at around 54 (all due Tuesday) and continued benign core inflation according to the personal consumption deflator (Thursday). March quarter GDP growth (Wednesday) is also likely to be revised up to -0.3% annualised from -0.7%.

In Europe the focus will remain on whether there is a resolution on Greece. Meanwhile, expect the noise around Greece to have weighed on the Markit manufacturing and services conditions PMIs (Tuesday) but money supply and bank lending growth (Friday) are expected to show further improvement.

In Japan, the Markit manufacturing conditions PMI (Tuesday) and a range of economic data to be released Friday will be watched for confirmation that the Japanese economic recovery is on track. In terms of the latter, expect to see jobs data remaining strong and a rebound in household spending growth. Core inflation is expected to have remained only just above zero though highlighting why the Bank of Japan is still likely to be forced to undertake more monetary easing.

In China, the Markit manufacturing PMI (Tuesday) is expected to show a slight improvement from 49.2 to 49.4 for June consistent with other indicators.

In Australia, expect ABS data to show a solid 2.5% gain in March quarter home prices (Tuesday), driven largely by Sydney and Melbourne, consistent with private sector estimates that have already been released. Data for job vacancies and population will also be released.

Outlook for markets

The combination of seasonal weakness and uncertainties around bond yields, Greece and the Fed mean that the volatility/correction we are now seeing in share markets could have further to go in the short term. However, notwithstanding near term risks, the conditions for an end to the cyclical bull market in shares are still not in place:  valuations against bonds remain good; economic growth is continuing at a not too cold but not too hot pace; and monetary conditions are set to remain easy. As such, share markets are likely to see another year of reasonable returns, despite current uncertainties.

It’s worth noting that we have seen similar bouts of uncertainties at some stage through most of the last few years, so in a big picture sense its nothing new.

Australian shares ran too hard earlier this year and this set the market up for a correction that has been triggered by a combination of softer global markets, the back-up in bond yields weighing on high dividend payers and uncertainty around the Australian growth outlook. So far the market has had a correction of 8.5% and the resultant improvement in valuations and continued low rates and an eventual improvement in the growth outlook should set the scene for a renewed run up later this year, probably back up to around the 6000 level.

Still low bond yields point to soft medium term returns from bonds, but it’s hard to get too bearish on bonds in a world of too much saving and spare capacity. Central banks won’t ratify a bond crash like in 1994, by raising interest rates aggressively.

The broad trend in the Australian dollar remains down as the Fed is likely to raise rates later this year whereas there is a 50/50 chance that the RBA will cut again and the long-term trend in commodity prices remains down. We expect a fall to $US0.70 by year end, and a probable overshoot into the $US0.60s in the years ahead.

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The RBA's clear easing bias is back

Monday, June 15, 2015

By Shane Oliver

If there was any doubt that the RBA retains an easing bias it was laid to rest last week by Governor Glenn Steven's comment that "we remain open to the possibility of further easing" and that "the economy could do with some more demand growth". 

Of course there were numerous qualifications around this - in particular the risks around low interest rates - but the clear message is that another rate cut is under serious consideration. I think it’s now more about narrowing the interest rate gap between us and the zero rates in the US, Europe and Japan to make sure the Aussie dollar continues to come down, helping globally exposed sectors like tourism, higher education, manufacturing and agriculture combine with home construction and consumer spending to help fill the gap left by the end of the mining boom.  The Australian dollar probably needs to fall into the $US0.60s.

Whether there is another cut or not, Stevens pointed out that "it will be quite some time before we can think about interest rates going back up" so get used to low rates for a long time yet. (Sorry Mum!)

On Greece

While there have been some positive signs of progress with Angela Merkel saying “where there’s a will there’s a way”, with the IMF leaving Brussels and indicating there are still major differences, and EU leaders issuing ultimatums to Greece, the ball is now clearly in Greece’s court to accept what is on offer or face the consequences. 

To avoid defaulting at end June a deal needs to be agreed soon so it can pass various country parliaments (which will be another source of uncertainty) in time. The June 18 Eurozone finance ministers’ meeting is the next deadline to watch. 

The pressure on Greece is now immense as recent turmoil has helped plunge it back into recession, which has hit tax revenue and likely eliminated its primary (ie ex-interest payments) budget surplus. So even if it were to repudiate all its debts it will still have to undertake aggressive austerity. The problem for PM Alexis Tsipras is trying to get support for an agreement, which is acceptable to both Greece’s creditors and to the rest of Syriza. Our base case remains that a deal will be agreed but the risks are high. So Greece is likely to remain a source of volatility. 

But even if Greece does end up leaving the Euro, the threat of contagion to other peripheral countries is low compared to the 2010-12 period as they are now in better shape and the ECB is now providing stronger support.

What to watch over the next week?

In the US, the Fed will be the big focus in the week ahead. The recent improvement in US economic indicators have come too late, and the labour market improvement is not yet strong enough, to bring on a rate hike at Wednesday's Fed meeting, but the Fed is likely to signal that it remains on track to hike rates later this year, providing economic data continues to improve, giving confidence that inflation will rise back to target. 

On the data front, expect modest gains in industrial production and the NAHB home builders’ conditions index (both Monday) and a slight fall back in May housing starts and permits (Tuesday) after very strong gains in April. May CPI inflation data (Thursday) is expected to show a 0.5% monthly gain in headline inflation on the back of higher gasoline prices, but the annual rate is likely to remain at zero. Core inflation is likely to show a 0.2% monthly gain with the annual rate falling back to 1.7%.

In Europe the focus will remain on Greece, ahead of Thursday’s finance ministers’ meeting.

The minutes from the RBA's last Board meeting (Tuesday) will be looked at closely for guidance as to the extent of the RBA’s easing bias. Speeches by RBA officials Christopher Kent (Monday) and Guy Debelle (Tuesday) will also be watched for any clues regarding the outlook for interest rates. 

The Bank of Japan (Friday) is unlikely to make any additions to its quantitative easing program, although it may still need to do so in the months ahead in order to ensure it eventually meets its inflation target.

Outlook for markets

The combination of seasonal weakness and uncertainties around bond yields, Greece and the Fed mean that the next few months could remain volatile for shares. 

However, notwithstanding near term risks, the conditions for an end to the cyclical bull market in shares are still not in place:  valuations against bonds remain good; economic growth is continuing at a not too cold but not too hot pace; and monetary conditions are set to remain easy. 

My year-end target for the Australian ASX 200 index remains 6000. Australian shares ran too hard earlier this year and this set the market up for a correction that has been triggered by a combination of softer global markets, the back-up in bond yields weighing on high dividend payers and uncertainty around the Australian growth outlook. So far the market has had a correction of 8.5% and the resultant improvement in valuations and continued low rates, and an eventual improvement in the growth outlook should set the scene for a renewed run up later this year.

The broad trend in the Australian dollar remains down as the Fed is likely to raise rates later this year whereas there is a 50/50 chance that the RBA will cut again and the long term trend in commodity prices remains down. We expect a fall to $US0.70 by year end, and a probable overshoot into the $US0.60s in the years ahead. 

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Greek negotiations drag on

Tuesday, June 09, 2015

By Shane Oliver

Greek developments

Negotiations on a “reform for funding” deal for Greece are continuing to drag on with Greece rejecting an offer from its creditors and choosing to bundle up its June 5 IMF payment to be made with other IMF payments at the end of the month.

So the deadline has yet again been pushed out. Fortunately, negotiations look to be ongoing. Our base case remains that some sort of deal will be reached in time, but given the stresses within the Greek Government, and the need for any deal to be passed by various parliaments, it is a close call. So a missed payment later this month remains a high risk. Such a Graccident doesn't necessarily mean that a Grexit is inevitable but Greece will likely continue to be a source of volatility through June.

Whichever way it goes though, the threat of contagion to other peripheral countries is low compared to the 2010-12 period as they are in far better shape now and the ECB is buying bonds across Europe as part of its QE program.

Australian economic events and implications

Australian economic data last week was messy. The good news was that March quarter GDP growth was a stronger than expected 0.9% quarter on quarter. Against this though, annual economic growth is just 2.3%, domestic demand remains very weak and data for April looks to be off to a soft start with flat retail sales, a blow out in the trade deficit and a fall in building approvals.

The trade deficit blowout may be partly related to bad weather and a slump in the iron ore price to around $US45/tonne, whereas it’s now back over $US60/tonne and the fall in building approvals looks like normal volatility.

But Australian economic growth looks like remaining sub-par for a while yet as the investment outlook remains weak and the loss of national income due to lower commodity prices continues to impact. There is no reason to get too gloomy as the combination of low interest rates and a lower $A help rebalance the economy, but more help is likely to be required in the form of an even lower $A and possibly another interest rate cut.

While the RBA left interest rates on hold as expected and appears to retain a mild easing bias, it was disappointing to see that it did not reinstate a more explicit easing bias. Doing so may have helped push the $A lower. Given the still messy economic outlook another RBA rate cut is a 50/50 proposition, with the August RBA meeting the one to watch.

Finally, there is nothing new in the latest house price data from CoreLogic RP Data. While prices fell in May this looks like a regular seasonal pattern. More fundamentally, while Sydney remains strong, annual price gains are averaging around just 2% in the other capital cities. As such, Sydney should not be seen as limiting any further monetary easing if it’s deemed necessary for the rest of the Australian economy.
What to watch over the next week?

In the US, expect May retail sales (Thursday) to show a decent 1% bounce, a slight rise in consumer sentiment (Friday) and producer price inflation (also Friday) to show a gasoline driven bounce but remain benign on a core basis.
In Europe the main focus will remain on Greece and April industrial production (Friday) is expected to show a bounce.

In China, official economic data for May is expected to show signs of stabilisation in growth. Growth in exports and imports (Monday) is expected to improve slightly but remain negative, retail sales and industrial production are expected to pick up a bit, but investment may slow a bit further (all due Thursday) and credit and money supply growth should show a further improvement on the back of recent monetary easing.

In Australia, the NAB survey (Tuesday) will be watched to see whether the Budget had a positive impact on business confidence and it will be interesting to see whether consumer confidence (Wednesday) hangs on to its Budget related boost from last month. Meanwhile, April housing finance data (Tuesday) is likely to fall back a bit and jobs data (Thursday) is expected to be flat leaving unemployment stuck at 6.2%.

Outlook for markets

Given the combination of seasonal weakness and uncertainties around bond yields, Greece and the Fed the next few months could remain volatile for shares. However, notwithstanding near term risks, the conditions for an end to the cyclical bull market in shares are still not in place:  valuations against bonds remain good; economic growth is continuing at a not too cold but not too hot pace; and monetary conditions are set to remain easy. As such, share markets are likely to see another year of reasonable returns.

My year-end target for the Australian ASX 200 index remains 6000. The problem is that Australian shares ran too hard earlier this year and this set the market up for a correction that has been triggered by a combination of softer global markets, the back-up in bond yields weighing on high dividend payers and uncertainty around the Australian growth outlook. The correction will see value restored and this, plus continued low rates and an eventual improvement in the growth outlook, should set the scene for a renewed run up later this year.

Still low bond yields point to soft medium term returns from bonds, but it’s hard to get too bearish on bonds in a world of too much saving and spare capacity. Central banks won’t ratify a bond crash like in 1994, by raising interest rates aggressively.

The broad trend in the Australian dollar remains down as the Fed is likely to raise rates later this year whereas there is a 50/50 chance that the RBA will cut again and the long-term trend in commodity prices remains down. We expect a fall to $US0.70 by year end, and a probable overshoot into the $US0.60s in the years ahead.

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RBA not expected to cut...yet

Monday, June 01, 2015

By Shane Oliver

What to watch over the next week?

In the US, expect a slight improvement in the ISM manufacturing conditions index (Monday) to 52, continued strength in the services conditions ISM (Wednesday) and employment data (Friday) to show a 225,000 gain in May payrolls, unemployment unchanged at 5.4% and a slight pick-up in wages growth. Data for private income and spending, the private consumption deflator, construction spending and the trade balance will also be released. The April core private consumption deflator (Monday) is the one to watch to see if it follows the core CPI slightly higher.

In Europe the main focus will be on negotiations with Greece. On the data front, Eurozone inflation (Tuesday) is likely to show further signs of retreat from deflation at a headline level but with core inflation remaining too low at just 0.6% year on year. The ECB meets Wednesday and while it’s unlikely to make any changes to monetary policy, President Draghi’s comments on Greece could be of interest. Retail sales and unemployment data will also be released Wednesday.

China’s official manufacturing conditions PMI may show a slight gain consistent with the HSBC flash PMI that has already been released and the non-manufacturing PMI will also be released (both Monday).

In Australia, the Reserve Bank (Tuesday) is expected to leave interest rates on hold. Not enough has changed since the cut last month to trigger a move in the week ahead. The positive reception to the May Budget has likely been offset in the RBA’s mind by the further deterioration seen in the investment outlook from March quarter business investment survey. Based on the experience so far this year it would probably prefer to wait and see its next round of economic forecasts to determine whether there is a need for another cut. However, given the further deterioration in the capex outlook and to avoid another bounce in the $A the RBA is likely to reintroduce a stronger easing bias.

On the data front in Australia, expect March quarter GDP growth (Wednesday) to come in around 0.3% quarter on quarter with annual growth at a poor 1.7%. Dwelling construction and consumer spending are expected to just offset drags from investment and a flat trade contribution. Meanwhile, expect to see a further Sydney driven gain in home prices, a 2% pullback in building approvals (both Monday) and another 0.3% gain in retail sales (Thursday). The AIG’s manufacturing conditions PMIs are expected to remain subdued and trade data (Thursday) will also be released.

Outlook for markets

Given the uncertainties around the Fed and Greece, the next few months could remain volatile for shares. However, notwithstanding near term risks, the conditions for an end to the cyclical bull market in shares are still not in place:  valuations against bonds remain good; economic growth is continuing at a not too cold but not too hot pace; and monetary conditions are set to remain easy. As such, share markets are likely to see another year of reasonable returns. My year-end target for Australian shares remains 6000. It’s just that the market got ahead of itself with the surge earlier this year and it’s been working it off ever since.

Still low bond yields point to soft medium term returns from bonds, but it’s hard to get too bearish on bonds in a world of too much saving, spare capacity and deflation risk. Central banks won’t be ratifying a bond crash like in 1994.

The broad trend in the Australian dollar remains down as the Fed is still likely to raise rates later this year whereas there is now a 50/50 chance that the RBA will cut again and the long-term trend in commodity prices remains down. We expect a fall to $US0.70 by year end, and a probable overshoot into the $US0.60s in the years ahead.

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US GDP and Eurozone confidence

Monday, May 25, 2015

By Shane Oliver

What to watch over the next week?

In the US, March quarter GDP growth (Friday) may be revised down to -0.9% annualised from +0.2%. However, there is greater than normal confusion around this, as it appears that the Bureau of Economic Analysis’ seasonal adjustment process is understating March quarter GDP growth and a re-adjustment would put it around +1.8% annualised. As a result the BEA has indicated that it is looking into this. In other data, expect a slight improvement in underlying durable goods orders, continued strength in home prices, a rebound in new home sales (all due Tuesday), a further gain in pending home sales (Thursday) and a rise in consumer sentiment (Friday) should all help allay fears that the US economy has slowed too much.

Eurozone confidence data for May (Thursday) will be watched for evidence that the pick-up in Eurozone growth is being sustained. And of course, progress towards a “reform for funding deal” with Greece will be watched very closely given Greece is now close to crunch time.
In Japan, expect to see labour market indicators remain solid, a slight improvement in household spending and a bounce in industrial production, but inflation to fall back to only just above zero as the sales tax hike a year ago falls out of the annual inflation figures (all Friday).

In Australia, expect to see a 1% fall in both March quarter construction activity (Wednesday) and business capital expenditure (Thursday) driven by the ongoing slide in mining investment. The key thing to watch will be business investment plans for any signs of an improvement in the outlook for non-mining investment. Data for new home sales and private credit will also be released Friday. Clues on the interest rate outlook will be watched for with RBA officials Lowe and Edey both speaking.

Outlook for markets

Given the uncertainties around the bond sell off, the Fed and Greece the next few months could remain volatile for shares. However, notwithstanding near term risks, the conditions for an end to the cyclical bull market in shares are still not in place: valuations against bonds remain good; economic growth is continuing at a not too cold but not too hot pace; and monetary conditions are set to remain easy. As such, share markets are likely to see another year of reasonable returns. My year-end target for Australian shares remains 6000. It’s just that the market got ahead of itself with the surge earlier this year and it’s been working it off ever since.

Still low bond yields point to soft medium term returns from bonds, but it’s hard to get too bearish on bonds in a world of too much saving, spare capacity and deflation risk. Central banks won’t be ratifying a bond crash like in 1994.

Despite the risk of a further short term bounce in the $A – possibly up to the 200-day moving average around $US0.83 - the broad trend is likely to remain down as the Fed is still likely to raise rates later this year whereas the RBA retains a mild easing bias (which is likely to turn into an easing if the $A doesn’t soon head back down) and the long term trend in commodity prices remains down. We expect a fall to $US0.70 by year end, and a probable overshoot into the $US0.60s in the years ahead.

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What's happening at the Fed?

Monday, May 18, 2015

By Shane Oliver

What to watch over the next week?

In the US, the minutes from the Fed’s last meeting are likely to confirm that while it’s not in a hurry to raise interest rates the decision will nevertheless be dependent on the flow of data regarding the state of the US economy.

Meanwhile, on the data front, expect to see modest improvements in the NAHB home builders’ index (Monday), housing starts and permits (Tuesday), existing home sales (Thursday) and the Markit manufacturing conditions PMI (Friday). CPI inflation (Friday) is expected to remain low.

Eurozone business conditions PMIs (Thursday) are likely to show a modest rise after a slight pullback in April and progress on Greece will be watched for around the European leaders’ summit (Thursday).

Japanese March quarter GDP growth (Wednesday) is expected to be around 0.4% quarter on quarter, unchanged from the December quarter and the manufacturing PMI (Thursday) will hopefully show an improvement after a soft April reading. The Bank of Japan meets Friday but is unlikely to make any changes to monetary policy.

In China, the HSBC flash manufacturing conditions PMI (Thursday) is expected to show a modest improvement after weakness seen in April.

In Australia, the minutes from the RBA’s last meeting (Tuesday) will be watched for signs as to how strongly the Bank retains an easing bias. Meanwhile, the Westpac consumer confidence survey (Wednesday) is likely to show a positive reaction to the Federal Government’s Budget.

Outlook for markets

Given the uncertainties around the bond sell off, the Fed’s eventual move to tightening and Greece, the next few months could remain volatile for shares. However, notwithstanding near term risks, the conditions for an end to the cyclical bull market in shares are still not in place: valuations against bonds remain good; economic growth is continuing at a not too cold but not too hot pace; and monetary conditions are set to remain easy. As such, share markets are likely to see another year of reasonable returns. My year-end target for Australian shares remains 6000. It’s just that the market got ahead of itself with the surge earlier this year.

Still low bond yields point to soft medium term returns from bonds, but it’s hard to get too bearish on bonds in a world of too much saving, spare capacity and deflation risk. Central banks won’t be ratifying a bond crash like in 1994.

Despite the risk of a further short term bounce in the $A – possibly up to the 200 day moving average around $US0.83-84 - the broad trend is likely to remain down as the Fed is still likely to raise rates later this year whereas the RBA retains a mild easing bias (which is likely to turn into an easing if the $A doesn’t soon head back down) and the long term trend in commodity prices remains down. We expect a fall to $US0.70 by year end, and a probable overshoot into the $US0.60s in the years ahead.

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The lessons of the last Budget

Monday, May 11, 2015

By Shane Oliver

What to watch over the next week?

In the US, expect a 0.3% gain in retail sales (Wednesday) as the winter freeze recedes, an improvement in the New York regional manufacturing conditions index and industrial production (Friday) and another low reading for PPI (Thursday).

Eurozone March quarter GDP data (Wednesday) is expected to confirm that growth has picked up, probably to around 0.4% quarter on quarter, the strongest in four years. Spain is likely to be a star performer with March quarter growth. While Greece seems to have enough funding to last through May, the Eurozone finance ministers’ meeting (Monday) will be watched for signs of progress in reaching a deal with Greece.

Chinese economic activity data for April (Wednesday) is expected to show a slight improvement in momentum, particularly for industrial production and retail sales. Money supply and credit growth will also be watched for an improvement following recent monetary easing.

In Australia, the main focus will be Tuesday’s Budget. After the political failure of last year’s tough Budget, this year’s Budget is likely to be “dull” and “boring.” The bad news will be that lower than expected commodity prices and wages growth will have delivered another blow to revenue and a blow out in the budget deficit of around $8-$10 billion per annum, compared to the projections in the December Mid-Year Economic and Fiscal Outlook, and a further delay in the return to surplus to around 2021. After a 2014-15 budget deficit of $45 billion (or 2.8% of GDP) the deficit for 2015-16 is likely to be around $41 billion (2.4% of GDP), which is $10 billion worse than projected in December.

We are now looking at a 13-year run of budget deficits, which swamps the seven years seen in the 1990s and the five years in the 1980s. What’s worse is that this time around we haven’t even had a recession. The continuing delay in returning to surplus from a projection of 2012-13 in the 2012-13 Budget, to 2016-17 in the 2013-14 Budget, to 2019-20 in the 2014-15 Budget and now to around 2021-22 is cause for concern and begs the question whether we will ever get there. There are real reasons for concern here because demographic pressures on the Budget will start to build from early next decade and we now don’t have a lot of flexibility to provide stimulus should our luck turn against us and the economy really turn down.

The good news is that this year is likely to see a more politically measured approach from the Government so there is unlikely to be the big negative for confidence that last year’s fairness debate and Senate debacle proved to be. The Government is unlikely to fight the hit to revenue, but rather fund any additional spending by middle ground political measures – such as lowering the assets test for the pension, measures to combat tax avoidance by multinational companies, extending the GST to low value online imports and a bank deposit tax. “Spending” measures are likely to include more generous, but more targeted, child care payments, a small business tax cut and increased infrastructure funding.

On the data front in Australia, the NAB business survey for April (Monday) will be watched for further signs of improvement, expect another modest rise in housing finance (Tuesday) and wages growth (Wednesday) is expected to remain soft at around 2.5% year on year.

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What to watch over the next week

Monday, May 04, 2015

By Shane Oliver

In the US, expect April payroll employment (Friday) to bounce back with a gain of 225,000 new jobs after the weather-depressed result for March. Unemployment is expected to fall slightly to 5.4% (from 5.5%) and hourly wages growth is expected to pick up a bit. Expect the non-manufacturing conditions ISM to remain solid and the trade balance to deteriorate a bit (both Tuesday).

The UK election on Thursday could see the Cameron led Government being replaced by a Labour led coalition. Amongst other things this should head off the referendum on the UK’s membership of the EU, which is probably a good thing for the UK but ultimately of little consequence for the Eurozone.

In China, expect April export growth (Friday) to bounce back after a 15% fall over the year to March that looks to have been related to the Chinese New Year holiday related distortion. Inflation data (Saturday) for April is expected to show CPI inflation remaining low and producer prices still deflating.

In Australia, we expect the RBA (Tuesday) to act on its easing bias and cut the cash rate to 2% (from 2.25%), but it’s another very close call. The case for another cut remains strong: the outlook for business investment remains weak, commodity prices are softer than expected, the $A remains too high and is at risk of rebounding further and inflation is benign.

However, the RBA may continue to fret about housing leverage and Sydney home price gains and the bounce in the iron ore price over the last few weeks has eased the pressure on the RBA a bit. So while our base case is for a cut, another month on hold would not be surprising. Meanwhile, the RBA’s Statement on Monetary Policy (Friday) is likely to contain further downgrades to the growth outlook, mainly in response to the soft outlook for business investment.

On the data front in Australia, expect to see a 1% gain in building approvals (Monday), a slight improvement in the trade deficit (both Tuesday), a modest gain in March retail sales but solid real retail sales growth for the March quarter (Wednesday) and flat employment for April (Thursday) after two very strong months which should see the unemployment rate rise to 6.2%.

Outlook for markets

As we come into May I get kind of nervous given the old saying “sell in May and go away, buy again on St Leger Day’. The seasonal pattern for shares points to a tougher patch in the May-October period and uncertainty around the Fed could well be a trigger to a correction.



Source: Bloomberg, AMP Capital

However, notwithstanding near term risks, the cyclical bull market in shares likely has to further to go as:  valuations, particularly against bonds, are good; economic growth is continuing; and monetary policy is set to remain easy with further easing in Europe, Japan, China and Australia and only a gradual tightening in the US. As such, share markets are likely to see another year of reasonable returns. My year-end target for Australian shares is 6000.

Low bond yields point to soft medium term returns from sovereign bonds, but it’s hard to get too bearish on bonds in a world of too much saving, spare capacity and deflation risk.

Despite the risk of a further short term bounce in the $A the broad trend is likely to remain down as the Fed is likely to raise rates later this year whereas the RBA remains on track to cut and the long term trend in commodity prices remains down.

We expect a fall to $US0.70 by year end, and a probable overshoot into the $US0.60s in the years ahead

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The Fed is the focus

Monday, April 27, 2015

By Shane Oliver

What to watch over the next week?

In the US, expect the Fed (Wednesday) to remain relatively dovish and in no hurry to raise interest rates. The Fed and Chair Yellen have already signalled that no hike is likely in April so the focus will be on any signals in the post meeting statement as to how close a rate hike is.

While some Fed officials still lean towards a June move, the majority are seeing September or later as the timeframe for a lift off. Sure recent inflation readings suggest it may be bottoming, but the mixed run of economic data combined with the dampening impact of the rise in the $US over the last year, indicate that there is no reason for the Fed to hurry. In fact, a move as early as June could be very damaging for US and hence global growth. My base case for Fed lift off is September but the risks are skewed later.

March quarter US GDP growth of around 1% annualised (Wednesday), albeit partly weather related, is likely to highlight why the Fed is in no hurry. In terms of other data, expect a further rise in home prices (Tuesday), a slight gain for consumer confidence, but a slight fall in pending home sales (both Wednesday), a benign reading for the core consumer price deflator inflation measure, a further increase in employment cost growth (both Thursday) and a slight improvement in the ISM manufacturing conditions index (Friday).

In Europe, the focus will be on progress towards an agreement regarding Greek funding with the risk of a "Graccident" (a payment default) rising as we go into May. Eurozone inflation (Thursday) is likely to rise, with energy prices confirming that deflation threats are receding, but remain well below target. Expect a slight fall in confidence indicators (Wednesday) consistent with the slight fall in April PMIs already released.

The Bank of Japan (Thursday) is expected to leave monetary policy unchanged but pressure for further easing remains. On the data front, expect to see a rebound in industrial production and okay labour market data, but mixed readings for household spending and inflation, excluding the impact of the sales tax hike running well below target (all Friday).

China's official manufacturing conditions PMI (Friday) may soften a bit just below the 50 level, consistent with the HSBC flash PMI already released.

In Australia, a speech by RBA Governor Glenn Steven's (Tuesday) will be watched for any clues regarding interest rates following the release of March quarter inflation data. On the data front, expect another moderate gain in March private credit data (Thursday), but the focus will be on whether housing investor credit continues to show signs of reduced momentum. Meanwhile, expect another mainly Sydney driven gain in RP Data home prices for March, continued weakness in the AIG's manufacturing conditions PMI and benign producer prices for the March quarter (all Friday).

Outlook for markets

We remain of the view that shares are likely to see a decent correction at some point this year. A Greek default is a potential near term driver and anticipation of the Fed’s first interest rate hike could be a potential trigger later in the year.

However, the trend in shares is likely to remain up as:  valuations, particularly against bonds, are good; economic growth is continuing; and monetary policy is set to remain easy with further easing in Europe, Japan, China and Australia and only a gradual tightening in the US. As such, share markets are likely to see another year of reasonable returns. Eurozone, Japanese and North Asian shares are likely to outperform US and Australian shares.

Low bond yields point to soft medium term returns from sovereign bonds, but it’s hard to get too bearish on bonds in a world of too much saving, spare capacity and deflation risk.

The trend in the $A is likely to remain down as the Fed is still likely to raise rates this year whereas the RBA remains on track to cut and the long term trend in commodity prices remains down. We expect a fall to $US0.70 this year, and a probable overshoot into the $US0.60s in the years ahead.

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