December Market Update
Markets have reacted favourably to the prospect of a ‘phase one’ trade deal between the US and China, which would involve a roll-back of tariffs.
Positive developments on the trade front would come at the right time for the US economy, which has suffered from a deterioration in business confidence and investment.
The UK will head to the polls on 12 December with polls showing a Conservative lead, but polls have previously underestimated Labour support.
The Chinese economy slowed to a 6.0% annual growth rate in the September quarter, prompting the central bank to cut the short-term lending rate.
The Australian economy grew at an annual pace of 1.7% in the September quarter, recording the weakest consumer spending since the GFC
Economic data is mixed. Indicators such as manufacturing PMIs have been trending down, while housing has been strong in the US and has improved in Australia. Consumers are also holding up well, especially in the US. Geopolitics remains an unknown factor, with trade talks continually shifting, while further quantitative easing is still a possibility.
Federal Reserve Chairman Jerome Powell reiterated his view that interest rates are probably on hold after three straight reductions, while signalling that the Fed could resume cutting if the growth outlook falters. Markets are now factoring in only one further cut in the Fed funds rate, implying a rate of 1.4% by mid-2020 and 1.3% by end-2020. The apparent easing of trade tensions between the US and China—with the prospect of a so-called ‘phase one’ deal that would involve a roll-back on existing tariffs—has added to market confidence. It comes just in time, as further deterioration in business confidence would further constrain business investment and hiring. GDP growth has already slowed from 3.1% p.a. early in 2019 to 1.9% in the September quarter. The latest GDPNow projection has GDP growth for the December quarter at 2.0%. Payroll data for November showed the labour market remains strong, bouncing back from a lacklustre October. This brings the average gain in non-farm payrolls to 173,000 through 2019, which is still down on the average of 223,000 in 2018. While some slowdown should be expected given the expansion is now 10 years old, the jobs data will be closely scrutinised for any signals that the downturn in growth and business confidence is flowing through to investment and hiring plans.
Recent PMI data suggest that GDP was rising at a 0.1% rate at the start of the December quarter, but likely with a weakening trend. Growth remains soft in Europe while Germany narrowly avoided a technical recession in the September quarter, growing 0.1% after contracting 0.2% in the March quarter. German growth is being sustained by the service sector, offsetting the deep recession in manufacturing. The German government revised down its growth forecast for 2020 to 1.0% from 1.5% but left its 2019 forecast at 0.5%. German industrial production declined by 5.3% over the year to September after peaking at more than 7.0% in 2017-18. The UK economy grew by 0.3% in the September quarter after contracting by 0.2% previously. Over the year, UK GDP grew by 1.0%, the slowest rate of growth since the first quarter of 2010. On the political front, Prime Minister Johnson finally secured a new Brexit deal with the EU, which involves a customs border in the Irish Sea—something many unionists were determined to avoid. The parliament agreed to a general election on 12 December, with the Conservatives promising to enact Brexit by 31 January 2020, while Labour is promising a second referendum on a Brexit deal. A hung parliament would enable alliances to be formed, although both major parties are struggling to find natural allies.
There is no clear evidence that the Chinese economy has stabilised. While credit growth appears to have lifted, indictors of consumer spending, investment and production appear to be slowing. In the September quarter the Chinese economy slowed to just 6%, the slowest annual pace in almost 30 years and growth for the current quarter could be lower. Indeed, there are signs that the authorities are becoming increasingly concerned with the slowdown in growth. Up until recently, Beijing’s policy response has been limited to measures such as tax reforms and changes to local government bond issuance. There have been a series of cuts to the bank reserve requirement ratio, effectively freeing up borrowing capacity. In November, China’s central bank cut its short-term lending rate for the first time in four years, signalling the start of a new easing cycle—a sign that the trade war was starting to hurt businesses. It suggests the authorities are beginning to place more priority on growth rather than financial stability. However, by no means can the current stimulus be compared with the 2008-09 and 2015-16 stimulus packages. Accordingly, any lift in growth is expected to be marginal. The authorities are keen to avoid a further lift in debt levels, unsustainable property investment and rising risks to bank balance sheets.
Japan’s economy grew faster in the September quarter than originally estimated, recording annualised GDP growth of 1.8%, revised upwards from 0.2%. Despite falling exports, local demand has kept the economy in expansion mode, however there are concerns that the rise in the consumption tax rate in October may have resulted in buying decisions being brought forward. Indeed, retail sales over the year to September spiked to over 9.0% compared to 2.0% over the year to August, while data for the first two weeks of October showed supermarket turnover fall back. In early December the Japanese government announced a ¥26 trillion (US$239 billion) stimulus package to support the global slowdown and precarious domestic conditions. The package will centre on infrastructure, including repairs and rebuilding following a string of natural disasters, as well as measures to promote cashless payments. Meanwhile in India, hopes of a stimulus-led recovery have fallen flat, with annual GDP growth falling to 4.5% for the second fiscal quarter (covering July–September), marking the slowest pace since 2013. Exposure to bad loans, especially among the state-run lenders, remains a serious challenge and a handbrake on growth. The government may be forced to push the fiscal levers further, which would extend the deficit beyond the targeted 3.3% of GDP.
The Reserve Bank kept the cash rate at a record low 0.75% in early November, as widely expected and offered guidance that a December rate cut was unlikely owing to some slight improvements in the domestic economy as well as the global trade picture. It seems the RBA is pleased with the response of the housing sector to the rate cuts although there is little evidence elsewhere of a response to date. Global risks may have eased with the trade truce but have not completely disappeared. Essentially the RBA believes the economy is coming out of a soft patch and that growth is likely to improve slightly as a result of low interest rates, tax cuts, infrastructure spending and an upswing in house prices. Unemployment is likely to remain above the full employment rate of 4.5% while inflation is expected to pick up only gradually. However, the RBA this time last year was projecting GDP to grow by 3.2% in the 12 months to June 2019. It ended up being less than half that at just 1.4%. The September quarter wages data showed that growth slowed to 2.2%, with public sector wages growth outpacing the private sector at 2.5%. With wages growth low, almost half of the tax cuts still to flow through, and households more intent on paying down debt, it is no surprise that retail spending remains weak.
The information in this Market Update is current as at 12/12/2019 and is prepared by Lonsec Research Pty Ltd ABN 11 151 658 561 AFSL 421445 on behalf of National Australia Bank and its subsidiaries. Any advice in this Market Update has been prepared without taking account of your objectives, financial situation or needs. Before making any decisions based on the content of this document, the reader must consider whether it is personally appropriate in light of his or her financial circumstances or should seek independent financial advice on its appropriateness. Past performance is not a reliable indicator of future performance. Before acquiring a financial product, you should obtain and read the corresponding Product Disclosure Statement (PDS) and consider the contents of the PDS before making a decision about whether to acquire the product.