Monthly Market Update
As at end August 2018
The US S&P 500 Index powered to another all-time high during August, finishing the month just off its record with a 3.3% return (in USD terms). In currency-adjusted terms, this was more spectacular with a 6.4% return due to significant broad based NZD weakness. In comparison, the MSCI EAFE Index that measures major developed markets such as Japan, UK and Europe but excludes the US returned -1.7% (in local currency terms).
The story of 2018 continues to be about the strength of the US economy, which has recently become very difficult to gauge. Leading indicators on the economy have weakened while forward earnings estimates for the S&P 500 companies have accelerated. The confidence in forecasting has undoubtedly been helped by the recent strong Q2 earnings season, where of those companies in the S&P 500 that reported their results, 84% and 72% exceeded their earnings and sales growth estimates respectively.
Investors resumed selling the emerging markets (EM) in August, as the rising US dollar and slowing in China placed pressure back on many EM economies.
Turkey, the EU’s fifth largest trade market, has suffered extensive loss of investor confidence with its stock market down 19.6% year-to-date and the Turkish Lira declining 42% against the USD. Argentina has also been hit hard on the same issues as Turkey, namely excessive borrowing in foreign currencies and sharply rising debt servicing costs.
NEW ZEALAND MARKET
Large caps dominate in August
The earning reporting season ended on a high for the New Zealand sharemarket as the S&P/NZX 50 Index returned 4.4% in August, the best monthly return since July 2016. Performance was dominated by significant movements in a few large cap stocks, such as a2 Milk (ATM), Ryman Healthcare (RYM) and Fisher & Paykel Healthcare (FPH), which were all up more than 10%.
ATM was in fact the best performing company in the index, up 20.7% after reported revenue and earnings met analyst’s strong growth estimates. The company also illustrated continuing growth of its infant formula market share in China. At the start of the month, ATM increased its stake in Synlait Milk (SML) by 8.2%. SML was up 17.7% for the month. The worst performing company was Sky TV (SKT) returning -20.7%. Even after a FY18 result that was roughly in line with expectations, the continued reduction in subscriber numbers, increasing competition from streaming options and higher content costs all negatively affect the structural outlook for SKT. Fletcher building (FBU) had another challenging month, returning -9.5% after reporting a net loss of $190m. Construction delays and cost blowouts on major projects continue to weigh on the short-term outlook for FBU while management continue working on a restructuring plan for the business.
Despite strong market performance, the ANZ Business Outlook survey showed the business confidence index falling again in August to a new 10 year low.
The main concern for firms is increasing costs, in particular labour costs. The survey also showed that net 5% of firms expect to reduce investment over the next 12 months and a similar proportion expect to defer employment decisions. The agriculture and construction sectors were the main negative contributors to these statistics.
Thrills and Spills
The Australian sharemarket performed in line with global peers as the S&P/ASX200 Index recorded a total return of 1.4%. This helped push the Index to new record highs. It was a busy month for corporate earnings announcements plus the sudden change of the Australian Prime Minister being the focal points of attention for market participants.
Overall, the Australian reporting season was mixed. Of the companies that released their results, slightly more managed to exceed market expectations than those that missed. Management guidance was generally more cautious and FY19 earnings growth expectations saw downward revisions. Cost escalation was a common theme of discussion but was not a major surprise given labour shortages across some sectors and rising energy and raw material prices.
Volatility spikes are a recurring event during reporting season and there was no difference this time with many stocks experiencing significant swings over the month. Australian politics intensified this further after a “leadership spill” was suddenly called by the ruling party, the Liberal Party of Australia. After a number of party meetings and votes, it was announced that the Prime Minister, Malcolm Turnbull, would resign and Scott Morrison would be sworn in as the 30th Prime Minister of Australia.
RBNZ moves the market
It was an interesting month for the New Zealand fixed interest market as bond yields fell significantly. The main driver of this was a change in OCR forecasts from the RBNZ. The RBNZ now expects its first interest hike to occur in 2020 rather than 2019 and continues to reemphasise that the next move could be up or down. It also released its Monetary Policy Statement which provided more detail on its change in forecasts, with particular attention on downside risks to economic activity in New Zealand and how the bank would react to this. The RBNZ has signalled that it would reduce the OCR by 1% under a scenario where economic growth is below its forecasts. What has surprised markets is that the RBNZ now appears to have a desire to respond quickly and substantially to any evidence of an economic slowdown and a reluctance to increase interest rates unless inflation is well above its expectations.
This has been good news for New Zealand bonds, particularly longer term government bonds. The S&P NZX Government Bond Index rose 1.3% and outperformed the S&P NZX Corporate Bond Index that rose 1.0%. The New Zealand 10 year government bond yield finished the month at 2.5%, which is not far away from its all-time low of 2.2% in August 2016. However, at that time the US 10 year government bond yield was 1.5% whereas it is now 2.9%. Historically, it is very uncommon for US interest rates to be higher than New Zealand and when this has occurred it has only been by a small amount and for a short period of time. This time around, the gap is relatively large and could prove to be persistent, as long as central banks in New Zealand and the US remain on divergent monetary policy paths.