Hedge Clippings | Friday 12 April, 2019

All eyes on the Federal Election. It's the economy, stupid!

I think we said at the start of the year, and maybe well back into last year as well, that in 2019 markets would be significantly dominated by geo-political issues. That's certainly been the case globally (Trump/China Trade Wars, and now Trump/EU, plus the extension of Brexit - all of which are going to dominate the global outlook for a good while yet), but now the Federal election has finally been called it is going to focus - or obscure - the local outlook.

Why this should suddenly focus investors' minds and attention is somewhat baffling. It has always been known roughly when it would be held, even if the exact date was not declared until this week. However, from the perspective of investors and fund managers it will require a decision: Will the outcome have any real impact on the local market and how fund managers manage their investors' money post May 18?

We would suggest it will, to varying degrees;
 

1. Business confidence is one, partly due to the potential for a wages push on a change of government. Consumer confidence is another, especially where it matters with those consumers with discretionary spending ability, along with taxation policy.

2. A change in government will hardly improve the current property slump given potential changes to negative gearing, perceived or otherwise, and remembering that property prices affect consumer confidence to a significant degree. Further falls will certainly improve housing affordability, but that only affects the relatively small proportion of buyers trying to enter the market, not the majority who are already in it.

3. Meanwhile, for those who have only recently purchased homes and/or are mortgaged to the hilt, they'll potentially see their equity evaporate. In addition, as they switch from honeymoon rates, or from interest-only to P&I, they'll be faced with increased repayments leading to further pressure on discretionary spending - and subsequently on both business and consumer confidence.

4. Ditto self-funded retirees, potentially hit by changes to the treatment of franking credits. Whilst they're not all the highest of discretionary spenders, the overall effect of the removal of franking credits will take its toll on the economy.

The only way to increase consumer spending will be increased wages, but refer back a few paragraphs to item #1 - business confidence - and we start to get into a circular argument…

We've previously said there's unlikely to be a further rate cut in Australia this year, but the RBA may have no alternative - and as we've also previously said, if the RBA needs to cut rates further from here, it will indicate there's a real problem with the economy.

For those who want to follow what the RBA's current thinking, today's release of their Financial Stability Review should provide a good place to start. You can find a link to the whole document here if you have the time and inclination, or use the following links to focus on Household and Business Finances and Housing Price Falls and Negative Equity.

Hedge Clippings | Friday 05 April, 2019

Impending election, RBA uncertainty and ASIC's sharpened teeth

Although we don't know the exact date yet, after this week's budget, and Bill Shorten's response, we're all set for a full scale "promise-athon" prior to the election. Apart from the usual handouts falling from the sky like confetti - or at least being promised that they'll fall from the sky - expect claim and counter claim around "they can't be trusted to run the economy" and "how can they manage the country if they can't manage their own party". And if it looks like it's getting really close (which at present, based on the polls, it's not) then we can expect some last minute scare tactics, even if this does entail dealing leniently with the truth.

However, the economy keeps rolling on - or maybe that should be grinding on, depending on which section of it one is most interested in. Our best estimate is that the RBA will keep rates on hold for the balance of the year, but if they should cut then it will be a clear sign the economy is in trouble. Factors which may influence the RBA's decision include the continuation or worsening of the property downturn (possibly due to post-election changes to negative gearing), or a contraction in consumer confidence, particularly among the self-funded retiree sector. Wages are likely to remain subdued (assuming there's not a Shorten/TWU led handout), as is inflation.

The concept of the yield inversion led recession may be topical or possible for the US economy, but the same correlation is not necessarily as strong in Australia, provided of course the US or China don't drag us down with them. Meanwhile, markets have undergone an extraordinary six months - the last quarter of 2018 saw falls of -13.52% and -8.24% for the S&P500 and the ASX200 respectively, while the first quarter of 2019 saw a reversal of +13.65% and +10.89%. Against that, fund managers in the AFM database found the going tough - particularly as no one was really expecting an overnight FED/Jerome Powell reversal from tightening to easing.

In previous Hedge Clippings we've described Brexit as a shambles. In keeping with this theme, we believe Mrs. May's advances this week can be most aptly described with use of the French saying "Plus ça change, plus c'est la même chose", although that may be rubbing salt into English wounds.

On the regulatory front, ASIC were given some welcome teeth in the final days of the current parliament, with product intervention powers over financial products equipping them with the power to intervene where there is a risk of significant consumer detriment. That's effective immediately, whilst design and distribution obligations will, according to ASIC's website, "bring accountability for issuers and distributors to design, market and distribute financial and credit products that meet consumer needs". Phased in over two years, this will require issuers to identify in advance the consumers for whom their products are appropriate and direct distribution to that target market.

On the surface that's good news, as long as it doesn't create more or excessive burden for quality products.