Monthly Market Update
As at end June 2019
When the doves try
Global equity markets made a strong recovery this month, offsetting most of the heavy losses seen in May. The MSCI World (NZD) Index returned 3.4% in June and is now up 16.8% for the first half of the year. Across major markets, the US was the standout performer with the S&P 500 Index returning 7.0% and hitting new record highs. The Japanese and European markets lagged slightly, but still made good gains, with the Nikkei 225 and the STOXX 600 indices returning 3.5% and 4.5% respectively. Offshore returns were partially offset by the performance of the Kiwi dollar as it strengthened against most other major currencies.
The improved sentiment and strong performance seen across global equities was driven primarily by dovish rhetoric coming from the central banks. In recent months, investors have become increasingly anxious over how much of an impact tariffs and trade wars may have on global output. Alongside deteriorating global growth and persistently low inflation, this had led to a significant shift in consensus expectations towards further easing and interest rate cuts. During the month, major central banks such as the ECB and the US Fed seemingly converged to these expectations. They indicated that an accommodative policy adjustment might be an appropriate preemptive measure against these uncertainties, and also a way to help get inflation closer to their respective targets. Equity markets reacted favourably to this, along with news of China and the US reaching a truce and agreeing to recommence trade negotiations at the G20 summit.
NEW ZEALAND MARKETS
Strong cadence for Gentailers, Fletchers off-key
New Zealand has been one of the top performing developed markets in the world this year with the S&P/NZX 50 Index returning 19.2% in the first half. A declining interest rate environment has helped sustain investor appetite for equities in June as the Index returned 3.8%. The biggest beneficiaries were yield stocks, with Gentailers - Contact Energy (+8.6%), Genesis Energy (+11.6%), Meridian Energy (+12.0%) and Mercury NZ (+20.8%) all showing notably strong returns; and the latter being the top performer in the Index.
Fletcher Building was the biggest laggard, returning -7.6%. Most of this move came in the aftermath of Fletcher’s investor day in late June. The company announced a NZ$300m share buyback and reentry into the vertical construction market. These positives were overshadowed by underperformance and a weaker near-term outlook in their Australian business. The second worst performer was a2 Milk, which returned -7.2% on news that China is looking to increase local production of infant formula to reduce its reliance on imports. That announcement saw the share price decline 10.8% in a single day. Whilst the company’s growth prospects remain intact, this latest development alongside ongoing uncertainty about e-commerce regulations in China has weighed on sentiment.
No Replacement for Displacement
Notching up its sixth consecutive positive month, the S&P/ASX200 Index returned +3.7% for June, led by the Materials and Industrials sectors, which saw returns of 6.4% and 5.4% respectively. Consumer Discretionary was the only sector to buck the positive trend with a -1.5% return, weighed down by uneasiness over household spending.
Top performers were the disinfection technology company Nanosonics (+24.9%) which, despite no announcements, rode sentiment in the wake of conference and press attention; and mining services group Ausdrill (+24.6%) where reaffirmed NPAT guidance and a JV valuation gain overshadowed asset impairments flagged in the same announcement. Telecommunications provider Vocus returned -28.8% in a case of déjà vu after a second bidder (AGL) walked away after commencing due diligence.
Post-election, a mixed bag of macro data has not painted a clear picture of where Australia’s economy is headed. On the positive side, strong trade balances driven by bulk commodities are continuing to support GDP growth (running at 1.8% year-on-year), and the unemployment rate remained at 5.2% in May due to increased participation. On the negative side, April retail sales shrank 0.1% month-on-month (vs 0.2% growth expected) and housing credit growth was negative. Interestingly, the ‘accumulation of evidence’ cited to support the RBA’s first rate cut in almost three years (to 1.25%), was framed as being more about ability to run the engine harder (benign inflation pressures and spare capacity) and less about risk of the economy stalling.
How Lowe can you go?
The global bond market rally continued in June with government bond yields falling in most countries and reaching new lows. There is increasing consensus by analysts and economists for interest rate cuts across most countries and a growing expectation that additional stimulus may be required. Such is the case in Europe, where the ECB official rates are already zero, leaving balance sheet expansion via asset purchases as a likely tool for monetary stimulus. This is a fast turnaround in expectations considering that the ECB only concluded their balance sheet expansion program at the end of last year. A similar about-face has occurred across the Atlantic at the US Fed, which delivered an interest rate hike last December, but are now signalling possible interest rate cuts later in the year. This month the Fed released its updated economic projections which included the committee member estimates for the target federal funds rate. Of the 17 members, there are 7 forecasting a 0.50% reduction, and 1 forecasting a 0.25% reduction this year. When the last set of projections were released in March, no members were expecting a reduction in either 2019 or 2020.
Closer to home, the RBNZ left the OCR unchanged following their cut in May, but continues to signal that further cuts may be required. The RBA cut the cash rate at the start of the month, and at the time of writing had reduced it again to an all-time low of 1%. Both the RBNZ and RBA are focussing on the employment aspect of their dual mandates, justifying rate cuts as necessary in order to maintain full employment in the face of slowing domestic and global economic growth. Current market pricing is implying that both central banks reduce rates again this year. New Zealand bond markets followed international markets higher with the S&P/NZX Investment Grade Corporate Bond Index rising by 0.7%, and the S&P/NZX Government Bond Index by 1.0%.