The last quarter of 2018 saw poor performance from most markets around the globe. The S&P/ASX 200 (accumulation) index declined -0.12% for the December month and -8.24% for the December quarter respectively. The worst performing market for the year was the Chinese Shanghai Composite index which lost approximately 25%.
The investment landscape is slowly adjusting to rising US central bank rates, a weaker Eurozone and a slowing Chinese economy against a backdrop of market volatility and trade tensions. Investor sentiment has been mainly risk-off, particularly towards the end of the year as equities saw hefty declines and bond prices rose.
The Australian economy has contended with a falling property market (particularly in Sydney and Melbourne) with a fallout in the financial sector stemming from the Financial Services
Royal Commission, as well as a probable change in future government.
The December quarter also saw weakness within major European countries where political tensions contributed to sharp falls in both Italian and French business surveys. Furthermore, the slowdown in China has impacted the European manufacturing sector’s new export orders. Despite slowing growth, President Macron announced an end to the European Central Bank’s quantitative easing program.
Investors are now cognisant of the current extended bull market and the lateness in the economic cycle. Much of the growth in 2018 has been fuelled by tax cut boosts which is now starting to fade. The leverage in credit markets is an identifiable risk as non-financial corporate debt to GDP has risen to the highest level in over 70 years and liquidity is low.
The one bright spot is the labour market which is showing surprising strength and wage growth appears to have troughed. The ability for household incomes to rise faster than any increase in debt servicing costs will be crucial to appease household leverage worries and maintain the Reserve Bank of Australia’s (RBA’s) positive forecasts on growth and inflation.
Even with the upbeat tone of the RBA governor, the market is not pricing in a rate hike until the first quarter of 2020. Meanwhile, the Australian Prudential Regulation Authority is easing macroprudential rules and the cap on interest only lending by banks was removed from 1 January 2019. The provision of credit via banks to both households and businesses is key to offset new term weakness in the economy.
The investment outlook at this stage has expectations for ongoing volatility; most of the issues that plagued 2018 are expected to feature in 2019. However, there is no imminent risk of a global recession as there are no signs of a significant tapering off in growth, and this (along with relatively attractive valuations) calls for further upside in the equity markets at least for the short term.
Adapted from DMP Asset Management.