Monthly economic update with MLC, March 2019

Funds Management

by Clive Tompkins

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MLC Senior Economist Bob Cunneen speaks to NAB Asset Management Portfolio Specialist Sinead Rafferty about global share market strength, Australian dollar weakness and the outlook for local interest rates.

Sinead Rafferty:
Welcome to this month’s economic update. I’m Sinead Rafferty, Portfolio Specialist at NAB Asset Management and today I’m joined by our Senior Economist, Bob Cunneen. Welcome Bob.

Bob Cunneen: Thanks Sinead.

Sinead Rafferty: Another solid month for global share markets in March. Can you tell us what were the drivers behind this?

Bob Cunneen: American share market up 1.5 per cent, Chinese share market up 2.4 per cent, so quite solid gains. The real driver of these strong performances, if you could put it that way, was hopes that there would be a resolution between America and China on the trade dispute. And secondly, confidence that the Federal Reserve, the American Central Bank would keep interest rates on hold. So from that point of view, share investors were comforted by the fact that the interest rate risk, wasn’t going to be substantial this year.

Sinead Rafferty: What about the Australian share market, it was flat for the month, bit of mixed bag performance across different sectors. Can you tell us what happened there?

Bob Cunneen: The Australian share market only made very modest gains, 0.7 per cent for March. Now what we saw was some competing forces in play. So the lower interest rate story in Australia helped the Australian listed property trusts or REITs, as they’re known. They were up about six per cent. It also helped the consumer staples industry, so you’re thinking about Woolworths Group Limited (ASX:WOW), Coles Group limited (ASX:COL), so they’re up close to four per cent. Against that, we had some weakness. Now the weakness was primarily in the energy sector, it was down four per cent. So it left the Australian share market with a very modest gain.

Sinead Rafferty: You mentioned interest rates there, the Australian 10-year bond yield got down to historical lows. Can you tell us what was behind that?

Bob Cunneen: If we looked at the Australian 10-year Government bond yields, so what the Government would borrow for the next decade. It’s got down below 1.8 per cent. Now to put that in perspective, the latest inflation figures for year to December, had inflation at 1.8 per cent. So notionally, you have investors buying Government bonds with getting little return on those bonds, even adjusting for inflation. So from that point of view, it’s an extraordinarily low yield.

Now what’s driving that is the view that the Australian economy is soft, falling house prices, falling car sales, residential building approvals are weakening. So the view is that the Reserve Bank will need to cut interest rates, in the next six to nine months. And that’s essentially driving the bond market at the moment.

Sinead Rafferty: What about the US bond market, we saw an inversion of the US yield curve in March, which many think is a signal of a recession and has been in the past. Can you tell us what your view is?

Bob Cunneen: When you have a yield curve inversion, it indicates that the longer-term bond yield is below the shorter-term interest rate. And that typically occurs when the economy is weakening, and indicates there’s a significant recession risk. But we need to be careful to say that when this yield curve inversion happens, it typically takes between 18 and 23 months before the recession actually occurs. So let’s just take it as a warning signal that a recession could loom on the horizon. But the precise timing, the causes and the actual catalyst for that recession are still unknown. So we just need to be more careful when that occurs.

Sinead Rafferty: So one to watch. What about economic data, we’ve seen mixed economic data out of global markets over the last couple of weeks. The labour market data is still strong, but sentiment and industrial production in many countries, looking pretty weak. What’s the view for interest rates on the back of that?

Bob Cunneen: What you can see in terms of the American Central Bank that they’re firmly on hold. So they’re not likely to change interest rates in the next six to nine months. A similar story out of the European Central Bank, because their concerned when they look at their manufacturing sector, it’s particularly weak. They can see that these global trade tensions have weighed on exports. So from their point of view, they’re not going to change interest rates.

China is actually cutting interest rates or providing more stimulus into the financial system by providing more cash. So what we can see from global central banks is they’ve become a little bit easier, a little bit more supportive on the global growth story. Now that’s encouraging and that’s one of the key reasons why global share markets have risen. But it takes some time before we see that stimulus in the system actually support economic growth. So we need to be patient on that story.

Sinead Rafferty: Thanks for your time Bob.

Bob Cunneen: Thank you Sinead.

Sinead Rafferty: And thank you for joining us.