As at 14 April 2010
Our investment analyst, Michael Clegg, reviews the latest developments in investment markets and the economy.
Global economic developments were mixed over March. Concerns about sovereign debt in countries such as Greece continued while the threat of Chinese asset bubbles gained greater awareness. In the US however, further evidence of an emerging economic recovery came in the form of improved consumer confidence, retail sales and industrial production.
In Australia, the Reserve Bank of Australia (RBA) raised the cash rate by 0.25% to 4.00% in early March and again in April to 4.25%. At its April meeting, RBA Governor Glenn Stevens noted that ‘with the risk of serious economic contraction in Australia having passed some time ago, the Board has been lessening the degree of monetary stimulus that was put in place when the outlook appeared to be much weaker’.
Notwithstanding the RBA’s ongoing monetary tightening, the local economic outlook remains strong in the short to medium term. Recent consumer confidence measures, gross domestic product revisions and house price data have all been positive.
Strong Australian dollar
The Australian dollar (AUD) gained around 2.5% over March against the US dollar (USD) and closed at 91.7 cents (at the end of March). The AUD also strengthened against the Euro and British Pound by 3.3% and 2.8% respectively. Key drivers of these gains can be attributed to the RBA’s monetary policy actions, the continuation of positive economic data and strengthening commodity prices.
However at times during the month, the USD had strengthened against the AUD as a result of positive US economic data. Additionally, there were rising concerns over monetary tightening by Asian cental banks with India and Malaysia both raising rates by 0.25%. A similar move by China would place further pressure on the AUD.
Despite the cash rate increases, the RBA noted that current interest rates are still below the average for most borrowers and that future rate rises should be anticipated.
Factoring in these future rises, the 90-day Bank Bill rate increased by 0.35% to 4.49% over March. After the April rate rise the futures market was factoring in a cash rate of approximately 5.5% by September 2011.
The 10-year bond yield rose from 5.44% to 5.78% over March. This means there is now a +1.95% difference in yield compared to the US 10-year bond, which is indicative of the relative health of the Australian economy. Generally, the yields on fixed-rate Australian bonds remain relatively attractive compared to overseas bonds.
The Australian sharemarket improves
Over March, investor sentiment turned increasingly positive. The S&P/ASX 100 Accumulation Index posted its strongest monthly gain (+5.65%) since September 2009. Some of the cyclical stocks were among the better performers and with most commodity prices rising, resource stocks outperformed. Some resource stocks also benefited from the iron ore and coking coal benchmark pricing system moving closer to being phased out. Increasingly, companies are starting to negotiate prices with suppliers on a regular basis (aligned with the current market conditions) rather than one-off annual negotiations. This is a major positive for low cost producers of iron ore and coking coal such as BHP and Rio Tinto.
Generally, corporate balance sheets appear to be in good shape. Companies have sought to reduce debt, manage expenditure more carefully and extend long-term debt funding lines. While still in the early stages of recovery, data from the recent reporting season indicated positive momentum in the latter part of 2009. There were some pockets of sales revenue growth returning, although much upside also came from excellent cost control and lower interest bills. It is this trend that is providing many companies with operating leverage to improve trading conditions and revenue growth, which is likely to accelerate in late 2010 and 2011.
While financial aftershocks (as a result of the global financial crisis) continue globally, it appears that the Australian economic recovery will gain further momentum in the short to medium term. This view is clearly also shared by the RBA.
The Australian economy is more advanced than many other developed economies and appears on track to have a strong year in terms of economic growth. Whether or not sharemarkets have a strong year will depend on how global risks materialise and how they affect the economic recovery. It is difficult to predict their impact, however holding shares within a diversified portfolio can help provide a better potential long-term result for investors. Also, long-term investors who have a high proportion of their portfolio in cash have a greater risk of underperforming, than those who diversify their investments across asset classes.
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If you have questions about our market update or your portfolio, contact your Private Client Adviser.