24 Jul 2018
2018 Financial Year in Review
The 2018 Financial Year was a very strong year from an asset price growth perspective with positive returns across all asset classes at times when we saw some of the lowest volatility levels on record.
All that changed in January/February, when we witnessed one of the heaviest market falls seen in some time, which interestingly enough was triggered by more positive than expected US economic news. Markets did recover thereafter in light of continued central bank support globally, along with a bumper US corporate earnings reporting season which was boosted by some of the largest US tax cuts seen in recent history. However, escalating trade wars and a much more hawkish US central bank with a new chair at the helm, saw markets struggle to repeat the asset price growth seen in the first half of the financial year, with export-led markets (Europe, Asia) taking a greater hit late in the year.
Synchronised global economic growth saw rising demand for inputs which pushed bulk commodity prices higher. Rising demand also put upward pressure on oil prices, but it was supply cuts which saw oil prices rocket higher in the financial higher. Both moves saw local resource stocks well supported on a combination of higher commodity prices, higher volumes, and low costs of production. On the flip side, the local financials sector came under intense pressure as the Royal Commission came to a head, along with rising concerns regarding the state of the residential housing market. US technology stocks along with Australian small resource companies were the places to be invested if you had a crystal ball and little regard for risk. The Aussie dollar pushed higher against the US dollar earlier in the period on higher commodity prices, before falling away, to end the period slightly lower on global support for the US dollar and a more positive US interest rate environment for currency traders.
The year saw a bit of a mixed bag on the economic front with supportive or improving global conditions versus anaemic and lacklustre conditions closer to home. The US economy went from strength to strength, with a labour market at/near full employment, US inflation finally starting to rise, higher house prices and consumer confidence, and business confidence which saw a near vertical rise after some of the largest tax cuts in US history. US Congress also pushed through a large fiscal spending program, which together with the tax cuts, resulted in some of the best US company earnings season’s witnessed for some time. A new, and somewhat more pragmatic, US Federal Reserve chair saw interest rates continue to push higher, but hikes remained well telegraphed and at a slow and measured pace. We also saw European economic data improving with lower unemployment, higher house prices, higher manufacturing and production data, higher levels of inflation, and easier bank lending conditions, as the European central bank maintained policy at emergency levels. However, much of this improvement quickly faded away as fears and the impact of trade wars took hold.
Chinese economic data remained strong, but growth across a range of indicators appears to be softening as China shifts its focus to the new economy. Whilst this shift is undoubtedly negative for the Australian economy over the longer term, some of short term impacts have been positive, particularly pertaining to a strong focus by the Chinese government on the environment. Closer to home, the Reserve Bank of Australia left rates unchanged at their lowest levels on record, with plenty of slack remaining in the labour market resulting in some of the lowest wages growth on record and no inflation concerns in sight. This put even greater pressure on a heavily indebted household sector, which together with rising household costs, saw worsening retail sales. In contrast, business conditions continued to improve, but waning sentiment and confidence kept a lid on business investment. The period ended with house price falls nationally as tighter lending conditions, and an oversupply in some regions, hit home.
The political backdrop did its best to derail most positives from both markets and economics. Locally, support swung back to the Coalition following their announcement that the budget would move back into surplus much faster than anyone expected (much to the detriment of economy), whilst the opposition vowed to unwind any tax cuts, remove negative gearing, and reassess capital gains tax discounts in the name of fairness. It also wasn’t all smooth sailing from a US government perspective, with plenty of internal wrangling over the revised healthcare bill, followed by a government shutdown after debt ceilings were reached, and then the messy and still ongoing issues pertaining to Russia’s involvement in President Trump’s election and the underlying investigation into it. The US also did their part on the foreign policy front, with significant sanctions on Russia (which saw other countries follow suit), the restarting of sanctions on Iran following President Trump’s unwillingness to ratify an Iran nuclear agreement, and the US and allies involvement in Syria.
Brexit got messier (no surprises there) whilst political turmoil in Spain, Italy, and Germany impacted support for European debt and equity markets. Our Asian neighbours also featured here with the Japanese Prime Minister winning an even greater majority to reassert his power, whilst the Chinese Premier’s clearing of the decks over recent years saw him announce himself as their supreme leader into perpetuity. We couldn’t forget to mention the farcical, and somewhat dangerous, political games between North Korea’s Kim Jong Un and President Trump, which saw the North Koreans fire a test missile over Japanese airspace, only to see Trump and Kim eventually become “friends”.
All this is without the mention of trade wars, in which continued escalation from here will see whole percentage points wiped off global economic growth and rising market volatility. No one wins a trade war in world that is so heavily inter-connected. Hopefully the players know this.
Looking forward twelve months, we expect market conditions to remain somewhat supported by continued easy central bank policy, but to a lesser extent than the recent past, and together with rising volatility, investors need to remain somewhat cautious in their approach whilst ensuring they remain selective, well diversified, and don’t stretch for levels of growth and income they may have become accustomed to in the past.
- Chris Lioutas
Chief Investment Officer