For a more comprehensive round up of the week, listen to Stephen’s full report here.
Risk Assets were much stronger in February as a bounce higher in international oil prices was taken as a sign that prospects for global economic growth were not as weak as feared back in January. At the same time, several central banks showed that they were prepared to adopt easier policies aimed at providing some insurance to support economic growth. The Reserve Bank (RBA) was among this group and after leaving the cash rate unchanged for 18 months decided to cut by 25bps to a record low 2.25% in February. A less dire economic outlook and monetary policy support underpinned share buying around the world. European sharemarkets were especially strong with the Eurostoxx 50 index up by 7.4% in the month. Very strong gains were also recorded by Japan’s Nikkei, up 6.4%, Australia’s ASX 200, up 6.1%, and the US S&P 500, up 5.5%.
In part, the strength of risk assets in February reflected an international hunt by investors for yield. Australia was and remains very attractive in that regard. The Australian credit market enjoyed a very strong rally through February, offering some of the best yields, accounting for underlying credit risk, anywhere in the world. The relative attractiveness of the yield on Australian assets showed even in the Australian government bond market. The strong improvement in risk assets had a natural corollary that low-risk assets such as government bonds deteriorated. Australia’s 10-year bond yield, however, rose by only 1bp in February to 2.45%, whereas the US 10-year and 30-year Treasury yields rose respectively by 35bps and 37bps to 1.99% and 2.59%. The RBA’s cash rate cut early in February also played a part in subduing the lift in Australian bond yields.
On the economic data front, US Q4 GDP growth slowed even more on revision (to 2.1% annualised) than the preliminary reading indicated (2.6%, down from 5.0% in Q3 2014). US monthly economic readings released in February were a true mixed-bag with some weakened by the unusually prolonged cold and snowy weather over much of the country. While non-farm payrolls were still strong in January, up 257,000, they were not as strong as in December, +329,000 and November, +423,000. The unemployment rate after falling quite consistently through 2014 edged up in January to 5.7% from 5.6% in December 2014. The Federal Reserve showed signs that it may be starting to push out the first hike in its Funds rate to later in 2015 based on the discussion in the minutes of its January policy meeting and also in the semi-annual testimony of Fed Governor Yellen later in February.
In China, January data was limited to international trade readings, showing much weaker than expected exports, -3.3% y-o-y, and imports, -19.9% y-o-y, and inflation data showing the CPI rose by an unexpectedly low 0.8% y-o-y, well below the Peoples’ Bank of China’s (PBOC’s) 3.5% target. Manufacturing survey readings were a touch stronger than expected, but the impression overall is that China’s annual GDP growth may have slipped below 7% in Q1, too weak from the point of view of the authorities. The PBOC responded twice to the signs of economic softness in February, initially reducing banks’ reserve ratio requirements by between 50bps for the large city banks and 450bps for the China Agricultural Development Bank and then at the end of the month cutting its official interest rates by 25bps reducing the one-year lending rate to 5.35% and the one-year deposit rate to 2.50%.
In Europe, the preliminary reading of Q4 GDP was a touch stronger than expected at +0.3% q-o-q, +0.9% y-o-y but the European headline reading masks divergent performance among the big-four euro are countries with GDP in Germany and Spain lifting quite strongly by 0.7% q-o-q in each, but GDP up only 0.1% q-o-q in France and flat in Italy. Debt negotiations with Europe’s persistent problem economy, Greece, ended with a four months extension of support from creditors in return for Greece continuing with some of the austerity policies that the new Government promised to shelve before the recent election. Deflation remains a problem in several European countries and in the EU generally registered -0.6% y-o-y in January. The saving grace is that the European Central Bank is about to embark on asset purchases (QE) amounting to 60 billion euro every month through to at least September 2016.
In Australia, some monthly economic readings firmed a little over the past month. Among the strongest, housing finance commitments to owner-occupiers rose by 2.7% in December, house prices rose by 1.9% in Q4 and were up 6.8% y-o-y and consumer sentiment, according to the February Westpac-Melbourne Institute’s, jumped by 8.0% (although part influenced by the RBA’s rate cut announcement). On the softer side, employment fell in January by 12,200 and the unemployment rate jumped to a decade high of 6.4% from 6.1% in December. Wages growth in Q4 was only 0.6% q-o-q and annual wages growth was down to 2.5% y-o-y the weakest reading in the entire 20-year history of the wages survey. Q4 private new capital expenditure fell by 2.2% q-o-q, but worse news was contained in the survey of future capital expenditure with the first estimate of 2015-16 spending down 12.4% on estimate one for 2014-15 pointing to an extended very big drag on economic growth from falling mining investment spending and little discernible compensation from investment by non-mining businesses.
The RBA responded to the weaker-for-longer change in Australia’s economic outlook (formalized in its latest set of quarterly economic forecasts produced early in February) by cutting the cash rate in February and also indicating that more cuts may come. Our view is that another cash rate cut is imminent as the RBA follows up on the February cut. At a new record low 2.00% cash rate the RBA may pause for several months. If the economy fails to show consistent signs of improvement later in the year, more cash rate cuts are possible, but are probably only about a 30% chance of occurring at this point. More likely the stimulus to growth from low energy prices and easier monetary conditions in many countries early in 2015 will generate better global and Australian economic growth later in 2015. However, central banks are likely to view this improvement, if it occurs, quite cautiously and any move to lift the Australian cash rate in response to stronger economic conditions is unlikely before mid-2016 at earliest.