Key dan­gers that led to a hefty pull­back


AUS­TRALIA’S share mar­ket lost al­most 5 per cent of its value this week as in­vestors fol­lowed their coun­ter­parts in the US and dumped stocks.

An­a­lysts say share­hold­ers were rat­tled by three key is­sues: the po­ten­tial for faster rate rises in the US, the wors­en­ing China and US trade war and the threat of tougher gov­ern­ment reg­u­la­tion for the big Amer­i­can tech­nol­ogy com­pa­nies.

Ris­ing in­ter­est rates push up yields, or re­turns, on bonds — broadly IOUs is­sued by gov­ern­ments and com­pa­nies — and can make such in­vest­ments more at­trac­tive than shares.

The trade war with China, mean­while, threat­ens the prof­its of US com­pa­nies ex­port­ing to that mar­ket, and tougher reg­u­la­tions for tech com­pa­nies are rais­ing doubts about the out­look for their ear­ings and the true value of their shares.

In a dou­ble whammy for com­pa­nies and the share­mar­ket, higher in­ter­est rates also mean busi­nesses are forced to pay more for their debt, re­duc­ing their prof­its.

The mar­ket volatil­ity this week should not come as a sur­prise, ac­cord­ing to AMP Cap­i­tal chief econ­o­mist Shane Oliver. The con­di­tions that are help­ing win more in­vestors over to bonds have been build­ing for more than a month, he said.

“Al­though our Re­serve Bank has in­ter­est rates on hold and Aus­tralia is not in a trade war with China, Aus­tralian in­vestors worry that im­pacts on the US will af­fect the global econ­omy and could mean less de­mand for our ex­ports gen­er­ally,” Dr Oliver said.

The US mar­ket is down about 7 per cent from its Septem­ber high, while Aus­tralian shares have also fallen 7 per cent since their Au­gust high — a level that was still shy of the record lev­els hit late in 2007.

How­ever, the Amer­i­can econ­omy is grow­ing strongly, which is the rea­son the US Fed­eral Re­serve has threat­ened to in­crease in­ter­est rates at a faster pace.

Ac­cord­ing to fi­nan­cial re­search house Dig­i­tal Fi­nance An­a­lyt­ics, tax cuts in the US have helped boost con­sumer spend­ing and in­fla­tion, al­though de­mand in that na­tion’s hous­ing mar­ket is slip­ping again.

“You could think about this as one foot on the ac­cel­er­a­tor and one foot on the brake at the same time,” Dig­i­tal Fi­nance prin­ci­pal Martin North said.

“The mar­ket thinks this will crimp the earn­ings po­si­tion for many cor­po­rates and rep­re­sents a higher risk — there­fore lower re­turns.

“I think the fear in­dex will re­main el­e­vated for some time, in­di­cat­ing more un­cer­tainty ahead.”

In­vestSmart strate­gist Evan Lu­cas said re­al­ity had caught up with US in­vestors this week.

Most in­vestors had cal­cu­lated that in­ter­est rates might go up in the short term but they did not think the Fed would keep rates high in the long term, he said.

As a re­sult, yields on twoyear US gov­ern­ment bonds had jumped, but not so yields on bench­mark 10-year bonds.

“What traders were ba­si­cally say­ing was that we can see that rates will go up in the short term but over the decade we ac­tu­ally think the Fed is wrong … and rates will come down,” Mr Lu­cas said.

“All of that came to a head — the US bond mar­ket snapped out of its dis­be­lief.

“Money will start get­ting more ex­pen­sive.”

Martin North

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