Investment commentary - 31 December 2016

16/01/2017
Provided by Mercer. The information in this article does not necessarily reflect the views of the Trustee.

The market continued its positive form over December 2016 following the initial panic and rebound triggered by Republican candidate Donald Trump’s successful election victory in November.

Attention is now drawn to the impact of the President Elect’s possible policy initiatives, which have the potential for negative and positive market outcomes. Trump’s rhetoric from his campaign reflects a possible reversion to anti-immigration, protectionism and a weakening relationship with China, the effects of which could curb the current recovery pattern of the United States (US). On the positive side, Trump has promised higher spending on infrastructure, deregulation of the labour market and lower corporate taxes which could spur faster global growth from a resurgent American economy. So far markets have edged towards expansionary expectations. Equities and commodities have reflected this sentiment through the rebound over December, while bond markets have become more conservative as inflation risk rises.

As expected, the US Federal Reserve (Fed) hiked interest rates up 25 basis points (bps) in December, with markets having fully priced in the move. The expectation is now for three hikes instead of two in 2017. Gross domestic product (GDP) increased in the US across quarter three, while core consumer price index (CPI) was more subdued than previous months, with economic outlook remaining encouraging. The US unemployment rate rose over December; from 4.6% to 4.7%, following the significant drop in November from 4.9% to 4.6%.

In the Eurozone, political events were also at the forefront with Italian Prime Minister, Matteo Renzi, resigning following a failed referendum. The result was seen as further evidence of the populist movement sweeping global political events; however, in Austria this was counteracted by the election of Pro-Europe candidate Alexander Van der Bellen. Political elections will continue to dominate the climate in Europe for 2017 with elections in three major Eurozone economies, Germany, France and the Netherlands, still to go.

Significant developments

  • The Reserve Bank of Australia (RBA) decided to leave the cash rate unchanged in its December meeting, at 1.50%. RBA Governor, Philip Lowe, noted that some slowing in the domestic economy’s year-ended growth rate is likely, before it picks up again. The pace of global growth remains lower than average, however, labour market conditions appear to have improved over the past year. The rise in commodity prices this year has resulted in an increase in Australia’s terms of trade. The RBA judged that there were reasonable prospects for achieving sustainable growth with inflation returning to target over time, and hence it was appropriate to leave the rate unchanged.
  • Australian seasonally adjusted employment increased 39,100 in November, above expectations for a 17,500 rise while October was revised further upwards from 9,800 to 15,200. The unemployment rate rose to 5.7%, below market expectations for 5.6%. The participation rate increased to 64.6%, above the October figure of 64.4%. Part time jobs decreased by 200 while full time jobs increased by 39,300.
  • Australian building approvals increased 7.0% month-on-month (MoM) to be down 4.8% for the year to November, and below revised previous levels of -11.8% and -24.0% for respective periods ending October.
  • US Non-Farm Payrolls increased by 156,000 in December, though expectations were for 175,000. There was an upwards revision to 204,000 for the prior month. The unemployment rate increased to 4.7% after falling to 4.6% the previous month, while the participation rate remained at 62.7%.
  • The Institute for Supply Management (ISM) Manufacturing Index increased to 54.7 in December, above consensus for 53.8, and the 53.2 recorded in November. Petroleum & Coal Products and Primary Metals reported the largest growth while Plastics & Rubber Products and Furniture & Related Products were the most significant declines. The ISM Non-Manufacturing Index remained steady at 57.2 in December.  Mining and Retail Trade were the most significant contributors while Public Administration and Wholesale Trade were the largest detractors.
  • US GDP for Q3 2016 was estimated to have grown 3.5% quarter on quarter (QoQ) annualised, above expectations of 3.3%, and above the 1.4% growth recorded in Q2 2016.
  • US Headline consumer price index (CPI) decreased to 0.2% MoM and increased 1.7% YoY to November, in line with expectations and below the 0.4% MoM and above the 1.6% YoY movement in October. Core CPI increased to 0.2% MoM in line with expectations and remained steady at 2.1% YoY below expectations for 2.2% for the month.
  • The Caixin Manufacturing (PMI) in China increased to 51.9 in December 2016 from 50.9 in November, above expectations of 50.9.The 1% increase signalled the largest expansion since January 2013, showing optimistic improvement in operating conditions.
  • European Core CPI estimates increased to 0.9% over the year to December, above estimates for 0.8%. The unemployment rate fell to 9.8% in October, below expectations, while MoM CPI decreased from 0.2% to -0.1% in November.
  • The Eurozone composite PMI further increased to 54.4 in December, up from 53.9 in November. This output level signalled a 67-month high, led by continued growth across the big four nations, with Spain experiencing a six-month high. Overall, manufacturing led the way with production increasing at the quickest pace since April 2014.
  • Eurozone seasonally adjusted GDP was given a final estimate of 1.7% YoY and 0.3% QoQ for Q3.


Australian equities

The Australian equity market experienced strong growth over December, with the S&P/ASX 300 Accumulation Index increasing 4.3% for the month. There were positive returns across the majority of the market spectrum, with the best relative performer being the S&P/ASX 50 Accum, returning 4.5% for the month, while the worst performer was the S&P/ASX Small Ordinaries, increasing by 3.6% over the month. The best performing sectors were Utilities (+8.7%) and Real Estate (+6.7%). The weakest performing sectors were Telecom Services (+0.5%) and Healthcare (+0.9%). The largest positive contributors to the return of the index were CBA, ANZ and NAB, with absolute returns of 4.8%, 7.6% and 6.6% respectively. In contrast, the most significant detractors from performance were Sirtex Medical, Bellamy’s Australia and Transurban Group with absolute returns of -48.6%, -45.7% and -1.7% respectively.

Global equities

The broad MSCI World ex Australia Index was up 2.9% in hedged terms and 4.5% in unhedged terms over the month, as the Australian dollar depreciated against most major currencies over December. The strongest performing sectors were Telecom Services (+8.1%) and Utilities (6.5%), while Industrials (+2.9%) and Consumer Discretionary (+3.4%) were the worst performers. In Australian dollar terms, the Global Small Cap sector rose 4.5% while Emerging Markets increased 2.3% in unhedged Australian dollar terms.

Over December, the NASDAQ returned 1.1%, the S&P 500 Composite Index rose by 2.0% and the Dow Jones Industrial Average increased 3.4%, all in US dollar terms. Major European equity markets experienced positive returns as the FTSE 100 (UK) increased 5.4%, the DAX 30 (Germany) increased 7.9% while the CAC 40 (France) grew 6.4%. In Asia, the Indian BSE 500 was down 1.4%, the Hang Seng Index down 3.4%, the SSE Composite (China) down 4.5% while the Japanese TOPIX experienced another solid month with 3.5% growth over December.

Real Assets

The Real Assets sector experienced significant increases globally and domestically over December. The FTSE Global Core Infrastructure index returned 3.2%, and Global REITs returned 3.7% (both in Australian dollar hedged terms). Domestic REITs posted a return of 6.8% in December, while Australian Direct Property (NAV) returned 0.6% on a lagged basis.

Fixed interest

Global sovereign bonds were relatively flat over December for hedged Australian investors.  Ten-year bond yields rose for the US (+8bps to 2.45%) and Japan (+3bps to 0.05%) while Germany (-9bps to 0.11%) and the UK (-18bps to 1.24%) experienced decreasing yields. Two-year international bond yields saw mostly negative movements across the globe with the UK (-6bps to 0.08%), Germany’s (-3bps to -0.80%) and Japan’s (-2bps to -0.18%) yields decreasing while the US (+6bps to 1.17%) yields increased over December. Global Bond indices were positive for hedged investors, with the Barclays Capital Global Aggregate Bond Index rising 0.4% and the Citigroup World Government Bond (ex-Australia) Index also returning 0.3% over the month, both on a fully hedged basis.

Domestically, Australian 10-year bond yields rose 9bps to 2.76% while five-year (+8bps to 2.24%) and two-year (+7bps to 1.91%) bond yields also rose. As a result, Australian bond returns were weak for the month. The Australia Treasury Bond Index returned -0.2% and the Australian Composite Bond Index also returned -0.2% for the month.


Currency Markets

The Australian dollar experienced mostly negative movement over December, falling against a rising US dollar, finishing at US$0.724 with a decreased Trade Weighted Index of 63.9 on 31 December 2016. The Australian dollar depreciated against the US dollar (-2.0%), the Pound Sterling (-1.6%), and the Euro (-2.2%) but rose slightly against the Yen (+0.3%). On a trade-weighted basis, the local currency decreased 2.1% over the month.

Commodities

Commodity prices saw mixed movements over December, with gold decreasing marginally while iron ore and oil prices grew significantly. The S&P GSCI Commodity Total Return Index increased 6.8% for the month. Gold prices finished the month at US$1,157.49 per ounce for a 1.4% decrease over the period. The oil price increased significantly, by 13.2% to $56.71 per barrel. Iron ore prices rose again over the month, by 7.4% to US$80 per metric tonne. China’s strong manufacturing expansion and ensuing demand attributed much of the growth in iron ore pricing. While the oil price has begun to adapt to the Organisation of Petroleum Exporting Countries (OPEC) agreement to cut production to 32.5 million barrels per day, starting January 2017.


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