Investment commentary - 31 August 2016

16/09/2016
Provided by Mercer. The information in this article does not necessarily reflect the views of the Trustee.
The Australian construction industry continues to soften with several major projects across Western Australia nearing completion, providing a major headwind to Australian economic growth.

Data released by the Australian Bureau of Statistics (ABS) indicated that Australia’s economy grew by 0.5% over the June quarter, down on the 1% of growth experienced over the March quarter. Annual 2015-2016 financial year growth was 3.3%. The S&P/ASX 300 declined 1.6% over the month to be up 6.0% so far in 2016. Australian small caps saw a similar fate, also returning -1.6% after a strong Q2 and July to be up 14.3% for the year to date. Australian Real Estate Investment Trusts (A-REITs) returned -2.7% for August.

The S&P 500 continues to trend higher with consumer spending rising for the fourth consecutive month, pointing to a pick-up in the economic growth in the United States (US) and giving a strong case for the Federal Reserve to raise interest rates in September. Elsewhere, emerging markets continued their rebound following the poor run from May 2015 to February 2016, delivering 3.6% over August for the sixth consecutive positive monthly return. Russia, Brazil and Turkey were among the best performing emerging markets despite their economic and political woes. Chinese economic data disappointed as stimulus wears off, fuelling further signs of a softening of the economy.

European Union economic confidence fell by more than expected and weak inflation figures continue to put pressure on the quantitative easing policies of the European Central Bank (ECB). The Bank of England cut interest rates for the first time in seven years to 0.25% and expanded its own quantitative easing program. However a weaker Sterling is starting to filter through to overseas demand, promoting British exports to reach two-year highs.

SIGNIFICANT DEVELOPMENTS
 
  • The Reserve Bank of Australia (RBA) decided to leave the cash rate unchanged in its September meeting, at 1.50%.  RBA Governor, Glenn Stevens, reiterated in his release that Australian growth is continuing despite a large decline in business investment. The source of growth points to areas of domestic demand and exports. Inflation remains quite low and is expected to remain so while the conditions of subdued growth in labour costs and low cost pressures elsewhere in the world persist. Support from lower interest rates on domestic demand and a lower exchange rate has helped the trade sector. He noted supervisory measures along with a number of lenders also taking a more cautious attitude to lending in certain segments have strengthened lending standards in the housing market. A new development is the predicted increase in supply of apartments over the next couple of years, predominately in eastern capital cities, which could put downward pressure on real estate prices. This wary but optimistic stance is consistent with previous recent statements.
     
  • Australian seasonally adjusted employment rose 26,200 in July, above expectations for 10,000 while June employment was revised up from 7,900 to 10,800. The unemployment rate dropped to 5.7%, below market expectations. The participation rate remained flat at 64.90%, in line with expectations. Part time jobs increased by 71,600 while full time jobs decreased 45,400. In trend terms employment increased by 11,800 while the unemployment rate was flat at 5.7% and the participation rate remained steady at 64.8%
     
  • Australian Retail Sales were unchanged month on month (MoM) in seasonally adjusted terms over July, behind expectations for 0.3%, following a 0.1% increase in June. The strongest gains were in Cafes, restaurants and takeaway food services (+0.5%) and the weakest was Department stores (-0.9%). In trend terms, retail sales rose 2.7% year on year (YoY), down from 3.1% over the year to June.
     
  • US Non-Farm Payrolls increased by 151,000 in August, below expectations for 180,000 while there was an upwards revision of 20,000 to the prior months employment. The unemployment rate remained at 4.9%, above expectations of a drop to 4.8%, while the participation rate remained at 62.8%. Wages decreased 0.1% MoM and lowered to 2.4% YoY, from 0.3% and 2.6% over the month and year, respectively to August.
     
  • The Institute for Supply Management (ISM) Manufacturing Index decreased to 49.4 in August, below consensus for 52.0, and 52.6 in August.  Printing & Related Support Activities, Non-metallic Mineral Products and Computer & Electronic Products reported the largest growth while Electrical Equipment, Appliances & Components and Apparel were the most significant declines. The ISM Non-Manufacturing Index decreased to 51.4 in August from 55.5 in July, and below expectations for 54.9.  Utilities, Real Estate, and Rental & Leasing were the most significant contributors while Other Services, Mining and Agriculture were the largest detractors.
     
  • The estimate of Q2 2016 US gross domestic product (GDP) was projected to have grown 1.1% quarter on quarter (QoQ) annualised, in line with expectations, and below 1.6% growth recorded in Q1 2016.
     
  • US Headline consumer price index (CPI) dropped to 0.0% MoM and 0.8% YoY to July, in line with expectations for 0.0% MoM but below expectations of 0.9% YoY. Core CPI dropped to 0.1% MoM below expectations and dropped to 2.2% YoY below expectations of 2.3% for the month.
     
  • The China Caixin Manufacturing purchasing managers’ index (PMI) printed 50.0 in August, below expectations for 50.1 and the 50.6 reading in July. Production and total new orders increased at slower rates, while export sales continued to decline. Meanwhile, the official PMI rose to 50.4 in August, above expectations of 49.8.
     
  • Chinese GDP remained at 6.7% YoY to Q2, above expectations for 6.6% and holding at 6.7% recorded over the year to Q1. However, QoQ seasonally adjusted grew 1.8% QoQ, above expectations for 1.6% and the prior 1.2%.
     
  • European Core CPI estimates held steady at 0.9% over the year to August, from 0.9% in July, in line with estimates for 0.8%. The unemployment rate remained at 10.1% in August, above expectations.
     
  • The Eurozone composite PMI decreased to 52.9 in August, down from 53.3 in July.


AUSTRALIAN EQUITIES

The Australian equity market weakened over August, with the S&P/ASX 300 Accumulation Index returning -1.6% for the month. There were negative returns across the market cap spectrum, with the weakest relative performer being the ASX 50, returning -1.8% for the month. The best performing sectors were Information Technology (+4.6%) and Energy (+2.4%). The weakest performing sectors were Telecom Services (-6.5%) and Utilities (-5.7%). The largest positive contributors to the return of the index were ANZ, BHP and NAB, with absolute returns of 4.7%, 5.0% and 3.7% respectively. In contrast, the most significant detractors from performance were Telstra, CBA and Westpac with absolute returns of -8.4%, -4.4% and -4.7% respectively.
 

GLOBAL EQUITIES

The broad MSCI World ex Australia Index was up 0.6% in hedged terms and 1.3% in unhedged terms over the month, while the Australian dollar depreciated against most major currencies over August. The strongest performing sectors were Financials (+4.4%) and Information Technology (+3.0%), while Utilities (-4.0%) and Healthcare (-3.1%) were the worst performers. In Australian dollar terms, the Global Small Cap sector rose 1.3% while Emerging Markets returned 3.6% in unhedged A$ terms.

Over August, the NASDAQ returned 1.0%, the S&P 500 Composite Index returned 0.1% and the Dow Jones Industrial Average returned 0.3%, all in US$ terms. European markets experienced strong returns, with the FTSE 100 (UK) up 1.7%, DAX 30 (Germany) up 2.5% and the CAC 40 (France) flat over the month. In Asia, the Indian BSE 500 was up 2.1%, the Hang Seng Index 5.2%, the SSE Composite (China) 3.6% and the Japanese TOPIX up 0.5%.
 

REAL ASSETS

The Real Assets sector saw mostly negative returns over the month. The FTSE Global Core Infrastructure index returned -2.1%, and Global REITs also returned -2.1% (both in Australian dollar hedged terms). Domestic REITs posted a return of -2.7 % in August, while Australian Direct Property (NAV) returned 0.4% on a lagged basis.
 

FIXED INTEREST

Global sovereign bonds were mixed over August for hedged Australian investors. Ten-year bond yields rose for Germany (+5bps to -0.13%), and the US (+11bps to 1.57%) while the UK (-5bps to 0.64%) experienced a fall. Japan ten-year bond yields rose 11bps to -0.06%. Two-year international bond yields saw rises across the market with the UK rising (+4bps to 0.15%), the US (+13bps to 0.79%), Japan (+5bps to -0.19%) and Germany (+1bps to -0.62%) all increasing yields. Global Bond indices were subdued for hedged investors, with the Barclays Capital Global Aggregate Bond Index returning 0.1% and the Citigroup World Government Bond (ex-Australia) Index returning -0.2% over the month, both on a fully hedged basis.

Domestically, Australian 10-year bond yields fell 5bps to 1.83% while five-year (-3bps to 1.54%) and two-year (-9bps to 1.45%) bond yields also fell. As a result, Australian bond returns were positive for the month. Australia Treasury Bond Index returned 0.3% while the Australian Composite Bond Index returned 0.4% for the month.
 

CURRENCY MARKETS

The Australian dollar fell against most currencies over August, finishing at US$0.752 with a Trade Weighted Index of 63.2 on 31 August 2016. The Australian dollar depreciated against the US dollar (-1.1%), the Euro (-0.7%), the Yen (-0.6%) and continued its appreciation against the Pound Sterling (+0.6%). On a trade-weighted basis, the local currency decreased 0.2% over the month.
 

COMMODITIES

In commodities, the S&P GSCI Commodity Total Return Index rose 2.9% for the month. Gold prices finished the month at US$1,307.93 per ounce for a 3.1% drop over the period. The oil price rose over August, by 10.5% to $46.88 per barrel. Iron ore prices also dropped over the month, by 1.7% to US$59.5 per metric tonne.
 
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