Out­look: Ryan Fels­man

Af­ter a year of near-record lo­cal re­turns, trade is­sues could spoil the party

Money Magazine Australia - - CONTENTS - Ryan Fels­man, se­nior econ­o­mist, Com­mSec.

The fi­nan­cial year has just con­cluded and Aussie share­mar­ket in­vestors have plenty to smile about. To­tal re­turns on the ASX All Or­di­nar­ies ac­cu­mu­la­tion in­dex, which in­cludes div­i­dends, surged by 13.7% over 2017-18, just short of record highs.

The per­for­mance of Aussie eq­ui­ties was the strong­est in four years, out­per­form­ing both res­i­den­tial prop­erty (up 2.7%) and gov­ern­ment bonds (up 3.1%). An in­vestor who em­ployed a di­ver­si­fied strat­egy across as­set classes would be well pleased with the per­for­mance over the past year. But will it con­tinue?

Cer­tainly, Aussie eco­nomic and fi­nan­cial met­rics re­main en­cour­ag­ing. Aus­tralia has un­der­ly­ing in­fla­tion be­low the Re­serve Bank’s 2%-3% tar­get band at 1.9%. Eco­nomic growth is lift­ing (at 3.1%) with quar­terly growth in the March quar­ter the fastest in six years. Busi­ness con­di­tions are just be­low 20-year highs. The cash rate re­mains at record lows. And un­em­ploy­ment is at a five-year low of 5.4%.

While hous­ing and in­fra­struc­ture ac­tiv­ity have driven the econ­omy over the past year, in the year ahead ex­ports and busi­ness in­vest­ment are ex­pected to play big­ger roles.

The Re­serve Bank ap­pears to be rel­a­tively com­fort­able with how the cur­rent re­bal­anc­ing of the hous­ing mar­ket, on the back of macro-pru­den­tial pol­icy, is play­ing out. And while prices are fall­ing, the de­clines need to be put into per­spec­tive given the very strong gains ex­pe­ri­enced since early 2012.

Over the com­ing year, more and more apart­ments will be com­pleted with more stock hit­ting the mar­ket. It has taken a lit­tle longer than ex­pected but sup­ply and de­mand for homes are likely to prove more bal­anced, re­strain­ing growth in prices.

Look­ing ahead, we think dwelling prices will con­tinue to drift lower. We ex­pect them to fall around 2.5% this year, with a sim­i­lar-sized fall next year as well. The de­clines are likely to be con­cen­trated in Syd­ney and Mel­bourne, and partly off­set by a pick-up else­where.

In­fla­tion re­mains subdued due to stil­l­low wages growth, which is only ex­pected to strengthen grad­u­ally. And in­tense su­per­mar­ket com­pe­ti­tion and sig­nif­i­cant on­line com­pe­ti­tion are squeez­ing re­tail­ers’ mar­gins. We see in­fla­tion even­tu­ally lift­ing to around 2%-2.5% cent by mid-2019. The Aussie dol­lar is fore­cast to trade in the mid to late 70s against the US dol­lar over most of the com­ing year.

Af­ter a pe­riod of ab­nor­mally low mar­ket volatil­ity due to ac­com­moda­tive cen­tral bank pol­icy sup­port, in­vestors are now ex­pe­ri­enc­ing more tur­bu­lence in fi­nan­cial mar­kets. As the year de­vel­ops, there will also be more de­bate about in­ter­est rates in the US and how close the fed­eral funds rate is to the “neu­tral” level.

As US rates ap­proach the “neu­tral” level, the green­back is ex­pected to start los­ing some of its strength, pro­vid­ing a boost to ex­ports and broader eco­nomic growth. How­ever, the “sugar hit” from the Trump ad­min­is­tra­tion’s $US1.5 tril­lion ($2 tril­lion) cor­po­rate tax cut is likely to fade into 2020.

Trade is­sues are likely to dom­i­nate over the com­ing year, driven by con­cerns in the US about “fair­ness”, par­tic­u­larly about in­tel­lec­tual prop­erty and auto pro­tec­tion­ism. While the di­rect im­pact of the al­ready im­ple­mented tar­iff mea­sures on global eco­nomic growth is likely to be mod­est for now, a fur­ther es­ca­la­tion may ad­versely im­pact busi­ness con­fi­dence, lift pro­ducer prices and tighten fi­nan­cial con­di­tions.

Elec­tions to watch in­clude the Aus­tralian fed­eral elec­tion, NSW and Vic­to­rian state elec­tions and the mid-term US elec­tions in Novem­ber. The Ital­ian bud­get poses a risk to mar­kets in Septem­ber, while dis­agree­ments in the Ger­man coali­tion gov­ern­ment may con­tinue.

Here in Aus­tralia, the low in­fla­tion and in­ter­est rate en­vi­ron­ment re­mains en­trenched for now, mean­ing that lower nom­i­nal in­vest­ment re­turns are also here to stay. This means in­vestors will need to re­main flex­i­ble and alert to the re­turns achieved across share­mar­ket sec­tors and across as­set classes to en­sure that their sav­ings are keep­ing pace with costof-liv­ing in­creases.

Fall­ing house prices need to be put into per­spec­tive given the very strong gains since early 2012

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