April started with a bang as investors cheered strong economic data. This month, we look at the strengthening Australian economy and what it means for investors.
April had a strong start with both equities and bonds rallying. For equities, it was a shift back to last year’s leaders of high quality and growth, with megacap tech stocks like Microsoft leading the charge as the S&P 500 rose 5.9% over the last four weeks. Domestically, it was a rebound in the tech and healthcare sectors that pushed the S&P/ASX 200 up over 4% in the same period.
Its also earnings season in the U.S. and trading update season domestically. Results so far have been encouraging, with strong earnings growth of around 30% expected for the S&P 500 as profits rebound from pandemic hit levels. Whilst still early days, results have so far been encouraging both in the U.S. and Australia, though the run-up in prices prior to earnings season has seen little, if any, reward for earnings beats.
Government bond yields were better behaved following the February and March tantrums, likely driven by rebalancing and short covering. The Aussie 10-year fell below 1.7% whilst the U.S. 10-year sat around 1.55%.
Gold rallied on the back of lower real yields, rising sharply back up close to the USD $1,800 mark. Cyclical commodities rose as well, with iron ore at USD $185, back near recent highs. Brent Crude prices are still hovering at USD $65 per barrel, whilst copper rose to USD $4.30.
All this drove the Australian Dollar back up to 77.5 U.S. cents.
Australia’s recovery continues to be ahead of expectations with employment figures well ahead of expectations again and the unemployment rate falling to 5.6%, alongside strong business confidence and consumer sentiment readings. Housing indicators have also surged ahead, sparking some concerns around a potential overheating of the sector.
Like Australia, the U.S. recovery is also blowing past estimates. With vaccination rates running above 3 million a day on average now, the economy is quickly reopening. Manufacturing and services activity indicators were above expectations once again, and the 916,000 jobs added was miles ahead of the 647,000 consensus expectation. Recent stimulus cheques are also flowing through with retail sales up 9.8% between February and March. Despite the strength of the economy, inflation remains muted for now, with investors cheering the goldilocks environment.
Meanwhile, Europe remains a mixed picture as it lags the U.S. in vaccination rates and lacks the virus containment success of Australia. In China as well, growth is starting to slow as the Chinese government starts to tighten liquidity support as the focus shifts back to managing credit and bubble risks. With China ahead of the rest of the world in the post-pandemic recovery, it is now shifting away from the sharp growth seen in the recovery phase.
Australian Economy – Harder, Better, Faster, Stronger?
Australia’s experience with COVID can be aptly summed up by Daft Punk. Australia’s lockdown was harder, resulting control of the virus was better, recovery has been faster, and now the economy looks stronger.
Source: AMP Capital
As the country and economy went into lockdown, consumption dropped steeply. With that, the saving ratio rose sharply. While the speed and magnitude of these moves were in-line with other recessions, there was one key difference. Disposable income usually falls in a recession due to lay-offs and salary cuts, but this time, income actually rose as policy makers acted quickly to slash interest rates to 0.1%, and enacted JobKeeper and other programs to safeguard incomes.
This was hugely successful in enabling a sharp rebound as the economy began to reopen. As a result of high savings from lower mortgage payments and lower consumption, pent-up demand was quickly released, fuelling the business recovery.
According to the monthly NAB survey, business conditions are better than they have ever been since 2010 and businesses know it, with confidence similarly high.
Source: March 2021 NAB Business Survey
This has flowed through to job ads and employment, as businesses gear up to meet the strong growth in demand. Employment growth over the past two months more than doubled consensus expectations, and though the unemployment rate of 5.6% is still higher than before the March lockdowns, the number of employed people is actually higher now.
As part of the virtuous circle, more jobs and employment has then fed back into consumer sentiment, with Aussies now almost as optimistic as during the great times of the mining boom.
So we now have a booming economy that will likely surpass pre-COVID levels sometime this year. An optimistic consumer that’s cashed up and businesses that are not skeptical and willing to ride the wave make this a strong positive feedback loop in the near-term. So what does this all mean for investors?
For now, we remain positive on cyclical exposures such as financials, consumer discretionary and materials. These are the sectors that have been, and will continue, to see upgrades to earnings estimates as the economy recovers. We would add industrials in the mix were it not for a large part of the S&P/ASX 200 Industrials sector being made up of more stable, annuity-like companies such as toll-road company Transurban, which likely will not benefit in similar fashion.
Though some of these cyclical sectors have already rallied strongly in the last six months since the vaccine news, earnings upgrades are likely to have further to run as both consumers and businesses continue to spend. Eventually, growth will slow as the savings rate falls to within its historical range and consumers start to tighten their purse strings, but that is likely still some time away and with interest rates at record lows, consumers may decide to have a lower savings rate than pre-COVID levels.
At this point in time, sentiment and valuations both look stretched so do not be surprised if there is a correction and higher volatility in the near-term. We would perceive a correction as healthy and see it as an opportunity to buy the dip as strong earnings growth addresses the valuation concerns whilst the correction in itself will correct investor sentiment.
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This month’s perspective highlights that market sentiment on all asset classes is constantly changing. It is important for us to quickly recognise any threats, to preserve your investment capital or to identify early investment opportunities to maximise any return advantages. At Partners Wealth Group we don’t get complacent with the current state of play and constantly monitor investments and your portfolios.
If this article has raised questions regarding your personal situation, please contact your Partners Wealth Group advisor directly or on 1800 333 143.