Investment Update and Forecast June/July 2018

Investment Update - June/July 2018 Generally, the month of May was consistent with the 2018 story of a global economy entering a mature stage characterised by market volatility, the gradual emergence of inflation, higher interest rates (primarily in the US) and a softening of global economic growth indicators. This cooling off period, which is usually accompanied with weaker equity markets, is likely to represent a healthy return to normal levels of growth as opposed to alarming signs of an economic deterioration. However, it is also likely to be true that the consistent and highly profitable financial markets are now behind us. Geopolitical issues in countries such as Italy, Turkey and Argentina also added new concerns for global markets over May. Global The OECD’s most recent general assessment of the global macro-economic environment predicts that expansion is set to persist over the next two years, with global GDP projected to rise by close to 4% in 2018 and 2019. Growth in developed countries is predicted to remain around 2.5% per cent per annum, helped by fiscal easing in many economies. It is also considered that GDP will strengthen to close to 5% growth among some developing countries. Although job growth is likely to ease in advanced economies, the OECD-wide unemployment rate is projected to fall to its lowest level since 1980, with labour shortages intensifying in some countries. Wage and price inflation are accordingly projected to rise, but only moderately, given the apparent muted impact of resource pressures on inflation in recent years and the scope left in some economies to strengthen labour force participation. US 10-year bond yields started strong in May and pushed through the psychologically important 3% barrier. However, the political upheaval in Italy toward the end of May caused U.S. Treasury yields to post their largest daily decline in nearly two years, and at the end of the month, traded well below 3%. The rally continued in oil markets early in May. The latest spur for price rises stems from American sanctions on Iran which drove Brent crude close to $80 a barrel, the highest level in four years and up by almost 50% from a year ago. However, later in the month prices dropped and traded at around $70 a barrel as supply concerns eased. The US While America and China continued negotiations, trade conflicts opened on new fronts. Japan, Russia and Turkey notified the World Trade Organisation that they would follow the lead taken by the EU and India in applying tariffs on American steel and aluminium in retaliation for the duties America recently imposed on such imports, unless those duties are reversed. Mr Trump, meanwhile, signalled a new battle with Europe and Japan by ordering the Commerce Department to look at imposing tariffs on imports of cars on the ground of national security, the same argument that lies behind the levies on steel and aluminium. However, so far tough talk by the White House to renegotiate trade relationships has ended up as incremental concessions. The US Federal Reserve’s (Fed) preferred inflation gauge, the change in the core Personal Consumption Expenditure Index, reached 1.9% at the end of March. This supports the expectation that the Fed will increase the Fed Funds Rate by a further 0.50%-0.75% in 2018, with further increases expected in 2019. The Fed continues to include the word “gradual” in its commentary regarding the expected future path of interest rates, so not to alarm markets. If the current level of job growth is maintained and the proportion of people participating in the labour market remains unchanged, then a 3.5% unemployment rate could be hit in a year’s time. In this scenario wage inflation is likely to be the biggest concern for the Fed. The UK Although the Bank of England left rates unchanged in March, two members of the MPC (Monetary Policy Committee) voted to increase rates suggesting a tightening bias existed for the UK. Europe Italy’s political turmoil unnerved markets. Italy had been without a government since its March election, which yielded a hung parliament with no party or coalition holding a majority.  The recent jolt to markets came after populists named Paolo Savona, an economist who thinks that Italy should quit the euro, as finance minister. President Sergio Mattarella vetoed Mr Savona and the populists threatened for a moment to impeach him and even hinted at a march on Rome. Amid talk of a political, constitutional and economic crisis, bond yields spiked and global stock markets shuddered. The yield on Italian sovereign bonds rose at a pace not seen since the euro-zone debt crisis. The ten-year bond yield rose to 3%, the highest level since 2014. Ignazio Visco, the governor of the Bank of Italy, warned the quarrelling politicians about the danger of “losing the irreplaceable asset of trust”. Emerging Markets Argentina faces pressure to hasten economic overhaul. President Marci’s efforts to curb inflation and jump-start the economy without shocking Argentina hasn’t gone as planned. Investors continue to question the Argentina central bank’s credibility as it cut interest rates in January to support growth despite inflation at 25%, well above target. They worried about the government’s ability to reduce expenses to plug the fiscal gap and enact regulatory changes intended to improve business competitiveness and cut red tape. Facing a currency crisis, Turkey’s central bank simplified its system of multiple interest rates. The one-week repo rate (the rate at which the central bank lends money to commercial banks in the event of any shortfall of funds) became its new benchmark, which it also doubled to 16.5%. The central bank’s governor met investors to offer reassurances that monetary policy would tighten further if inflation remains stubbornly high. The Turkish lira, which has taken a battering over concerns that the central bank’s independence is under threat from politicians wanting lower interest rates, rallied in response. Australia While Australia’s Reserve Bank and Treasury anticipate growth picking up to 3.25% over 2019 and 2020 many market commentators are predicting more conservative growth of around 2.5 – 2.7%. The sceptical commentators attempt to balance the growth story of strong non-residential construction, government investment and exports with reservations around slower residential construction and potentially weaker consumer spending.

Spratt Financial Services 09 307 8200 www.spratt.co.nz Jonathan Parsons, AFA, M.Mgmt, Dip. Fin Plng. 027 201 3470 jonathan.parsons@sprattfinancial.co.nz

Investment Update (September 2017)

We are of the view that the nine-year equity bull market is not yet over with global stocks posting modest gains amid healthy corporate earnings reports and improving outlooks. The momentum of the world’s three main economies (US, China and Europe) is positive, with growth lifting all nations through accelerating trade volumes. This positive momentum is likely through to 2018, although the outlook is not without risk. At current company valuations, the US equity market is susceptible to the Fed starting to raise the policy interest rate. 

Additionally, political risk has been an increasing feature of the investment landscape in the last 12 months. Recently, the election-weakened UK government is facing imminent and difficult Brexit negotiations, US President Trump coming under sustained investigative pressure from Congressional committees, and deterioration in relations with nuclear renegade states such as North Korea and Iran, create an environment in which markets could prove more vulnerable to negative news shocks.

United States

In late July, the Federal Reserve kept interest rates unchanged and said it expected to start winding down its massive holdings of bonds "relatively soon" in a sign of confidence in the US economy.

The Fed indicated the economy was growing moderately and job gains had been solid, but it noted that both overall inflation had declined and said it would "carefully monitor" price trends. Steady job creation in the economy has pushed the US unemployment rate to 4.3%, near a 16-year low.

China

The annual rate of Chinese GDP growth has been on a gradual upward trajectory over the past year, rising to 6.9% in the last quarter to June 2017. Tighter credit conditions imposed were expected to slow real estate investment. On the positive side retail sales and industrial production was up 11% and 7.6% respectively. This supports our contention over the last few years of extreme China angst that the authorities have the will and the means to support the economy when required.

Japan

Japan’s GDP second quarter figures showed that it has expanded for the sixth consecutive quarter, led by a strong rise in private consumption. This may be a positive for the Japan sharemarket but the BOJ pushed out any chance of rate rises for another 12 months (2019). This points to keeping monetary policy extremely accommodative for some time yet.

Europe

The region’s economy is expanding as year on year growth was up 2.1%, the highest level seen since 2011. Confidence indicators are positive and business sentiment is at levels not seen for a long time. Unemployment across the region is at a nine-year low of 9.1%, GDP growth is expected to be 2.1% for 2017 and inflation of 1.5%.

A lot of this positivity appears to be from a pickup in world trade. The Euro has been one of the best performing currencies over this period increasing against the USD and most of the main crosses.

It is expected that the ECB’s monetary policy will begin to ease, but this is not expected to start until 2018.

Australia

The outlook for Australia is moderate growth over the next one to two years, low inflation and an ‘on hold’ central bank, with the risks to growth still to the downside. The Australian economy managed to steer away from a negative GDP result in the March quarter thanks to a modest rise in consumer spending, higher business investment and a bounce back in inventories. Activity data in the second quarter has improved with retail sales spending and exports up, strong business conditions, but growth in 2017 is still likely to be about 2.0%.

Another positive is that the decline in resource sector spend will fade and momentum from other sectors outside of resources will support wage and employment growth in 2018.

The RBA left the cash rate unchanged at 1.50% in its August meeting with an indication they are in no hurry to move the cash rate from here, but the next move could be up.

New Zealand

The New Zealand economy has come through a relatively subdued six months. A series of one-off negatives impacting the final quarter of 2016 (dairy production) and the first quarter of 2017 (transport and construction) conspired to deliver below trend growth of 0.9% over the six months to March. Two consecutive quarters of low growth begs the question of where to from here? With financial conditions supportive, tourism booming and migration strong, we assume a modest rebound over the next few months to around the 0.7% per quarter we think underlying growth is running at. A key implication of the recent Monetary Policy Statement is that, if the economy struggles to reach this growth rate, the Official Cash Rate (OCR) may have to be cut further to deliver the demand pressures required to hit the RBNZ’s inflation target.

Summary

Earnings momentum is now positive for all major equity regions and we expect this to continue, supported by a solid economic backdrop. A normalising global economy should allow central banks to unwind their ultra-accommodative interest rate policies. We believe that long bond yields are set to rise further during 2017 and 2018.

Improving economic growth around the world will generally support equities and challenge bonds. That’s because this growth is more ‘traditional’ in nature, arising from better employment and demand, and thus allowing prices (and potentially profits) to rise.

For the remainder of 2017 we are not anticipating further significant upside in either Australasian or global share markets. Investors are aware of high valuations and may well move to protect the capital gains in their portfolios, rather than take on additional risk. An alternative scenario – market ‘euphoria’ in which investors simply become too complacent and push markets up into a climax marked by narrowing leadership and mounting volatility – remains a distinct risk, but it is still not our main case. This assessment could change if monetary policy normalization were to be interrupted and put on hold yet again, whether for economic or geopolitical reasons. Given the clarity with which the major central banks are now preparing markets ahead of policy moves and the robustness of the global expansion, any significant interruption seems unlikely.

Source: Select Wealth Management/JMIS NZ – This is not intended as specific investment advice and is for general information only – Please talk to your Authorised Financial Adviser for more information. While every effort has been made to ensure accuracy Select Wealth Management Limited, JMIS Limited, nor any person involved in this publication, accept any liability for any errors or omission.

Spratt Investment Services – Ross Wallace & Jonathan Parsons
Phone: 09 307 8200
Email: investments@spratt.co.nz

NZ Market and Interest Rates Update and Analysis

It's an age old question: What are interest rates going to do? The answer to this question influences decisions for investors and borrowers alike, mostly around the length of time to commit to in order to maximise income or minimise borrowing costs. While interest rates in the United States have started to move upwards, what is in store for New Zealand?

New Zealand's Official Cash Rate (OCR) currently sits at an historic low as our Reserve Bank has struggled to get inflation up into its 1-3% target range. However, the low interest rates have helped the local economy pick up strongly. This has been aided by significant migration into New Zealand. Yet the increase in migration, whilst giving a boost to the economy, has also supplied additional workers, helping to limit wage increases. Additionally, the resilient New Zealand dollar is helping to keep import prices from rising too fast. The result is that the Reserve Bank will want to ensure that inflation is not only seen in action but also likely to persist before contemplating raising interest rates. For these reasons, while a turn in interest rates is in order, the OCR is unlikely to actually begin rising until later in 2017 at the earliest, with some economists even suggesting not until 2019. When the OCR finally does begin to rise, it will be good news for savers and the increasing number of New Zealanders enjoying their retirement years. In the meantime, at least New Zealand's rates remain well above those in most other developed countries around the world.

Market Update

• The NZ central bank left rates on hold at 1.75 percent and while it indicated higher interest rates were possible in the future it's not planning to move any time soon, saying monetary policy will remain accomodative for a "considerable period."
• Investment funds have had quiet start to the year, seeming to still be on holiday with returns relatively flat during January. Funds' New Zealand share investments rose (and are up 20% over the past year), although the New Zealand Dollar was also up 5% which took the gloss off gains on overseas shares.
• Despite the new US President providing an ongoing series of news fodder, generally economic confidence around the world is starting 2017 on a high note. This is an encouraging sign in the year ahead for company earnings, one of the key drivers of shareholder returns.
  

Jonathan Parsons M.Mgt B.A(hons) Dip Bus (fin.plng)

jonathan.parsons@sprattfinancial.co.nz

09 306 7259 - 027 201 3470

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You need to have contributed a minimum of $1042.86 within the 12 months ending 30th June 2016 to qualify for the free Government top-up of $521.43 (member tax credits).

If you have over $50,000 in your Kiwisaver and are not getting professional advice then feel free to contact our professional investment adviser Jonathan Parsons for a no cost financial checkup. The coffee is on us.

Jonathan Parsons

jonathan.parsons@sprattfinancial.co.nz