Risk assets were mixed-strength again in September starting the month mostly on a weaker footing amid concern about whether the US Federal Reserve might deliver an earlier-than–expected rate hike in September and then paring losses or even pushing in to positive territory as the Fed’s policy meeting passed without a rate change. Just before the US Fed’s meeting the Bank of Japan’s policy meeting announced a minor twist to its asset purchase program aimed at trying to steepen Japan’s bond yield curve. Both central bank meetings briefly supported the lower-for-longer interest rate views and reversed the beginnings of a pronounced lift in bond yields early in September that at the time undermined investor sentiment in equity markets too. Among major share markets the best gain during the month came from the British FTSE 100, up by 1.1%, while Japan’s Nikkei suffered the biggest fall, -2.6%, partly reflecting disappointment that the Bank of Japan did not act more aggressively than it did at its policy meeting. The US S&P 500 fell slightly over the month, -0.1%, while Australia’s ASX 200 managed a small gain, +0.1%.
Australian credit was softer early in September, but regained lost ground later in the month to finish almost unchanged. Credit continued to be much less volatile in movement than the Australian share market. Government bond markets saw relatively big yield movements at times in the month, initially selling off quite sharply on concerns that the US Fed might be about to tighten policy and that other central banks, such as the European Central Bank, were starting to question how much more they could do to try and prime growth. In the event the US Fed’s policy meeting turned in to another example of tough talk in advance, but another delay in acting at the meeting, albeit with more tough talk in statements accompanying the decision about potential rate hikes if US economic data stay strong. The US 10-year bond yield was unchanged in September ending the month at 1.59%, but after touching 1.75% earlier in the month. The US 30-year treasury yield rose by 7bps to 2.32%. The Australian 10-year bond yield, in contrast to the unchanged US 10-year bond yield, rose by 8bps to 1.90%, but down from an early month high yield of 2.13%. One reason for the under-performance of Australian bonds relative to their US counterparts in September were signals in RBA speeches and commentaries that it is in no rush to change its current 1.50% cash rate.
Returning to the US economy it continues to present a picture of past soft GDP growth, 1.4% annualised in Q2, but the likelihood of stronger growth ahead. Some of the big drags on Q2 GDP growth such as falling inventories and housing investment are likely to reverse in Q3 pointing to growth lifting to around 3% annualised pace. Supporting the stronger US growth story, most monthly indicators of home building activity and new home sales have been strong while indicators of consumer sentiment and confidence are strengthening. Labour market indicators have mostly been quite firm too including wages growth which point to the possibility that inflation could lift a little in the US. The ranks of the members of the Fed’s policy committee seeing the need for a rate hike soon are still a minority, but a swelling minority. The fast approaching US presidential election is also likely to influence the US economic outlook, but deeper than usual political division in the US electorate plus two candidates carrying impediments in the eyes of many voters make it harder than usual to predict the election result with any confidence.
In China, the run of July and August economic readings so far seem consistent with GDP growth in Q3 slipping very slightly to around 6.6% y-o-y from 6.7% reported in both Q1 and Q2. China’s August economic readings were all a touch firmer than expected tempering the impact of disappointingly soft readings in July. The most encouraging data was the lift in retail sales up to 10.6% y-o-y in August from 10.0% in July, a sign that the rebalancing of economic drivers of growth in China are rebalancing as the authorities would like. Less promising is excessive growth in house prices in China, 9.2% y-o-y in August. While higher house prices may promote a lift in residential property construction briefly supporting economic growth it also risks making worse problems relating to social stability and poor bank lending practices. The policies needed to maintain relatively strong near-term growth in China and the policies needed to promote economic reform and better longer-term growth are often at odds, straining internal political relationships at national and regional levels of the ruling communist party.
In Europe, GDP growth seems stuck in a low groove around the 1.6% y-o-y mark recorded in Q2. Perhaps the most significant sign of steady but low European growth is that the unemployment rate that steadily fell through 2015 and in the early months of 2016 has stalled at 10.1% over the past three monthly readings including the latest for August. The European Central Bank is also sending signals that it has done as much as it can on its own to support growth and needs assistance from less restrictive European budgetary policies. The chances are still very limited of European Governments pursuing more expansionary budgetary policies. The attention of governing politicians in Europe is heavily focused on issues relating to borders and free flow of labour plus making Britain’s exit from the EU a no gain to Britain process. The first step of formal divorce proceedings have now been announced by British Prime Minister Theresa May to occur by end-March 2017. The announcement weakened further the British Pound and indicated that Brexit impact on financial markets still has a long way to run.
The Australian economy is showing signs of reasonable past economic growth but fading economic strength in Q3 and Q4 2016. The signs are that inflation still remains very low, reinforced by another very low wages growth reading for Q2, up only 0.5% q-o-q, 2.1% y-o-y still at the record low level reading for the twenty-year survey. Signs of softness in economic growth in Q3 are showing in fading growth in retail trade. In July, retail trade was flat, after rising only 0.1% in June and 0.2% in May. Housing activity is still buoyant in parts but with increasing evidence of over-supply in parts of the new home unit market threatening a sharp downward correction in housing not too far ahead. Business investment spending continues to fall, down by 5.4% q-o-q in real terms in Q2 after falling 5.2% in Q1. Employment, while growing modestly, is confined to growth in part-time jobs. Growth in paid hours worked in 2016 so far has stalled and that combined with record low wages growth is placing a vice-like grip on growth in household disposable income and spending. The RBA is more inclined to wait and see whether signs of strength in Australian growth in the first half of 2016 persist. The RBA is also of a view that the big headwinds that have negatively impacted Australian growth over the past two years may be starting to abate. These signals from the RBA imply it may take some time to convince the RBA that the economic growth is moderating. We see these signs of weaker growth developing, but probably over the next six months or so. We do not see the RBA responding with easier monetary policy until May or June next year, a change from our earlier view that the next cash rate cut could occur in November this year.