The Australian equity market (ASX 200), ended the quarter in the red (-1.1%). Higher than expected year-on-year core inflation readings flowing through from the March quarter attributed to the weak performance whilst market anxiety also increased at the thought of a possible rate hike - a long way away from the cuts that had been priced in earlier in the year and in late 2023.
The Australian equity market (ASX 200), ended the quarter in the red (-1.1%). Higher than expected year-on-year core inflation readings flowing through from the March quarter attributed to the weak performance whilst market anxiety also increased at the thought of a possible rate hike - a long way away from the cuts that had been priced in earlier in the year and in late 2023.
Information Technology returned +2.9% for the quarter but was the standout performer for the year returning +28.4%, as the global A.I. craze continues to send prices soaring. Utilities was the surprise packet. As growth and quality style investments dominated the financial year, this defensive sector bucked the trend returning +13.3% for the quarter, assisted by the markets realisation of the insatiable energy demands on A.I. computing.
Further sector level returns were led by Financials +4.1% for the quarter and soaring +29.2% for the year which was led by the Banks +28.0%. The Energy (-6.8%) sector, which saw commodity price weakness, with earnings under pressure for oil and gas companies, and Real Estate (-6.0%) with the threat of more rate increases, were the laggards for the quarter.
Small companies underperformed larger companies, with the former negatively affected by rate rise predictions by some, and weakening economic data.
In Australian dollar terms, it was a mixed bag for major indices; the broader global equity market (MSCI All Countries World AUD) gained +0.3%, Eurozone equities (STOXX Europe 600) lost (-2.0%), as political uncertainty gripped France and the scope of multiple rate cuts was limited by stubborn inflation. UK equities (FTSE 100) hit all-time highs during the quarter and returned +1.4% as the country steadily moved out of recession and recorded positive GDP growth; Japan equities (Nikkei 225) after a stellar March quarter, suffered a hefty loss of (-9.8%), mostly due to continued weakness in the Yen which hit a fresh 38-year low versus the US dollar. And the rest of Asia returned a solid +4.7% driven once again by a soaring Taiwan market and a rebound in China.
In USD terms, the S&P 500 returned +4.2% for the quarter hitting a new high on June 17. It closed off the financial year with a very impressive +24.0%. The tech heavy Nasdaq delivered an even better result. Not surprisingly, returns were fuelled by the phenomena that is AI; returns of the top ten holdings (which include the Magnificent 7), constitute 52% of the entire market cap of the index (the Nasdaq contains over 3,100 companies). In 2024, Microsoft +20.4%, Nvidia +150.3% and Meta +46.7% are the top three performers so far this calendar year.
Emerging market equities finished ahead of developed peers in Q2 outperforming for the first quarter since 2020. Softer U.S. economic data helped ease concerns about the timing of US interest rate cuts and an improving China helped provide further support. The Chinese government's commitment to provide its initiatives to bolster the real estate sector - which continues to deleverage - had a positive impact on Chinese stock markets however the consumer remains stymied by low levels of confidence.
The Emerging Markets returned +2.6% helped mostly by strong returns in Asia +5.0% and Europe +6.5%, which benefited from broader EU optimism and improving broader economic indicators. The rebounding of China certainly helped - considering its sizable weight within the index - after months of underperformance; the Chinese market returned +4.6%, and Indian equities continued to play their part fuelled by strong economic growth and recent political outcomes which were seen as a positive by equity markets. Latin America (-14.7%), held back EM performance, with economic and credit quality concerns adding to central bank hawkishness surrounding the likely path of future interest rate cuts. Political instability also weighed heavily on equities throughout the broader region.
After a strong start to the year, both Australian and Global Listed Real Estate struggled during the quarter. The continuing rise in real bond yields, particularly in Australia, continues to hurt the sector with investors paying attention to weakening economic conditions and an uncertain earnings profile ahead.
Domestic listed property lost (-5.6%) for the quarter, giving away almost half of the March quarter gain. This affected the one-year return, +24.7%, only slightly as the previous two quarterly returns combined for +36.6%, providing somewhat of a safety net for the sector.
Global listed property followed the same path as the domestic market after April’s losses. After stronger than expected US economic data flowed through post the March quarter, the sector sold off as market expectations of interest rate cuts by the Fed in 2024 diminished. Negative sentiment continues to be problematic within the major underlying sectors. Office continues to face headwinds as a result of a resilient ‘working from home’ trend, whilst Retail remains somewhat buoyed by a resilient consumer base.
The global benchmark fell (-3.7%) for the quarter whilst the hedged equivalent was cushioned somewhat by an appreciating AUD, falling (-1.6%).
The infrastructure sector again fell victim to aggregate rising real bond yields in the quarter and continued uncertainty surrounding monetary policy easing. Profit taking and redeploying cash into broader global equities (risk-on) also continues to hurt the sector as the anticipation of rate cuts makes the broader market more appealing. This has been exacerbated by AI exuberance which shows no signs of slowing.
Global infrastructure fell (-1.3%) for the quarter, (+4.9%) for the year, whilst the hedged equivalent aided by the rising AUD posted a moderate quarterly return of +1.5% and a yearly return of +5.3%.
Much like equities, the June quarter for the bond market included plenty of ups and downs mixed in with high levels of volatility and uncertainty.
The surge in bond yields at the start of the quarter, off the back of higher-than-expected inflation numbers and general economic metrics coupled with continuing high levels of volatility are causing bond markets to chase their tails and raising the level of risk and uncertainty. May and June however were much more settled as rate cuts expectations became clearer.
The U.S. 10-year Treasury, after hitting a high of 4.70% in April, ended the quarter at 4.39% rising a moderate 17 basis points during the quarter. A more conducive market environment driven by the emergence of softer labour market conditions and encouraging news on inflation, in the latter stages of the quarter, helped put the brakes on this modest yield rally.
Regarding the 10-Year Australian Treasury yield, with the real threat of the RBA raising the official cash rate, yields ran hard in April, rising by 60 basis points; then stabilised, and retracted to end the quarter at 4.36%, an increase of 36 basis points.
Australian treasury bonds fell (-0.77%) for the quarter, slightly underperforming Global Treasury bonds (-0.41%). The yield spread between the sensitive part of the curve, i.e. 2-year and the 10-year, remains negative, reflecting higher rate expectations (in Australia). Both yield curves however remain inverted, a leading indicator of recession.
Credit market spreads, both investment grade and high yield, remain fairly tight, as corporate earnings remain positive and default rates, at this stage, remain contained. Global credit experienced a small fall (-0.16%) in AUD, whilst the Australian corporate market fell (-0.84%).
During the quarter, the Federal Open Market Committee (FOMC) left rates unchanged (5.25%-5.5%), stretching to seven meetings, and maintaining a 23-year high, whilst the RBA, also remained steady for the quarter, leaving the cash rate on hold at 4.35%, however mixed messages were communicated which made markets even more uncertain and cautious. The European Central Bank (ECB) lowered its three key interest rates by 25 basis points in June, marking a shift from nine months of stable rates after inflation declined by more than 2.5% since September 2023. The Bank of England also maintained the Bank Rate at 5.25% during the quarter however it seems only a matter of time before it cuts; the People's Bank of China (PBoC) kept lending rates unchanged during the quarter after slashing key rates in February.
Most major currencies depreciated slightly against the US dollar during the quarter, political uncertainty in France and the UK; and the Bank of Japan (BoJ) stalling on policy tightening amongst some of the reasons. However, intra-quarter movement was quite volatile. The Yen has come under renewed pressure after the BoJ’s decision to hold off on reducing bond-buying stimulus until its July meeting. In April the Yen touched a 34-year low of 160.245 USD, leading to Japanese authorities spending roughly 9.8 trillion Yen to support the currency.
The AUD fell to an intra-quarter low of 0.6413 against the USD, before rallying in the ensuing weeks to end the quarter at 0.6651. The Australian dollar ended up rising +2.1% over the quarter against the USD.
A contrasting and polarising June quarter raised more questions than answers, but there were some fleeting glimpses of markets behaving more rationally. Here’s hoping for more of these glimpses.
Following exceptionally strong December and March quarters, particularly for equity markets, the June quarter was one dominated by stalling progress on the inflation fighting front, the first real obvious signs of weakening economic data, and rising political and geopolitical risks, with a sprinkling of significant election results, a Japanese Yen in free-fall, and the first interest rate cuts in major economies.
It was a poor start to the quarter for markets, with real concerns that the downward trajectory in inflation had stalled, resulting in market expectations for rate cuts being pushed out even further (i.e. late 2024 or more likely 2025). This was an interesting, and somewhat crazy contrast, to what kicked off the rally in markets in the fourth quarter of 2023 – i.e. predictions for six to seven rate cuts in 2024! Labour markets remained too tight, particularly in Australia and the USA, with services inflation doing most of the damage. Australian house prices continued to rise under the pressure of supply constraints and mass immigration, whilst US retail sales came in ahead of expectations as animal (consumer) spirits rose.
How quickly fortunes (sentiment) can change, particularly in the post-covid period, with the middle of the quarter painting a completely different picture. Real signs of economic weakness suddenly appeared with Australian retail sales going from bad to worse, a pretty significant drop-off in US new jobs data (which has been spurious at best during and in the post-covid period), weaker consumer sentiment & confidence, and Chinese economic data which disappointed and in some cases appeared to be weakening again. This is when we saw those fleeting glimpses that bad economic news was bad for markets. We know that sounds somewhat simple and logical, but markets have largely been operating on the basis that bad news was good for markets under the guise that their saviour (central bankers with their money printers) would swoop in and save the day. That dynamic prevailed effectively since the GFC where inflation remained tame and actually under-shot versus central bank targets but doesn’t work so well coming off inflation peaks of 8/9% and where falling inflation had begun to stall.
To top it off, Australian inflation significantly disappointed, with the monthly indicator actually ticking up, confirming concerns that the March quarter print wasn’t an anomaly. There were even calls for both the US and Australian central banks, particularly the latter, to consider further rate hikes, with pressure on keeping a lid on the inflation genie.
There was a fairly swift pivot in sentiment and rhetoric in the weeks that followed with US inflation meeting expectations (i.e. no upside surprises), US jobs data showing further signs of weakening, and the first interest rate cuts in developed economies (Canada, Europe), with the US Federal Reserve also flagging their expectations for just one rate cut this year but with some dovish undertones (the all-important central bank wordsmithing). As markets do these days, investors took this as a sign to one-up the US Fed with market expectations implying two US rate cuts for the year, with the first likely in September. Also, an interesting read-through on the Canadian and European central bank rate cuts, with the former trying to stave off recession in the Canadian economy whilst the latter seemed to be front-running concerns of a European economic drop-off in the period ahead with inflation within target.
Adding to the merry-go-round period described above, investors took proper notice of rising political and geopolitical risks. On the political front, we had UK elections which went as expected (i.e. landslide win for Labour), a shock snap election called by French President Macron following very poor showing for the left-wing parties in the European parliamentary elections, and Indian Prime Minister Modi winning another term but with a smaller majority meaning passage of his pro-business policy remit might be harder ahead. The French elections require some explaining in that the “far-right” party won the first round, but then lost the important second round to the “far left” party following deal-making between this party and President Macron’s “centre-left” party to ensure he remained in power. Markets clearly didn’t like the first-round results but seem to revel on the news of a likely hung parliament. We also had both the US and Europe levying further tariffs on Chinese goods; and plenty of foreign diplomacy with US visiting China / China visiting Europe / China visiting Australia.
Other considerations in the quarter included some instability in currency markets with the Japanese Yen in freefall, though the Australian dollar did push higher against the US dollar (impacting unhedged global asset exposures) but not against other currencies. We also had the Australian Federal Budget, with little to no surprises, but the front-ending of their spending program along with well flagged revised tax cuts didn’t help the RBA’s cause.
In summary, a very narrow number of winners in the quarter. Highlights included Chinese equities assisting broader Asian / emerging markets, UK equities within a weak European equity backdrop, US technology trouncing broader US equities, small companies underperforming large companies on weaker economic concerns, and property/infrastructure and bonds hit by rising bond yields (falling prices) as rate cut expectations were pushed out.
Our outlook isn’t overly changed but remains somewhat different from consensus (i.e. the broader market), which presents both risk and opportunity. We continue to think the market is underestimating the likely characteristics of a “soft-landing”, where we expect weaker economic conditions ahead but aren’t necessarily in the recession camp. We also think the equity market is too narrowly focused on a small number of winners, increasingly only benefiting anything A.I. related whilst treating this thematic as somewhat immune from the economic backdrop. History shows that nothing is immune to the economic backdrop.
This goes somewhat to explaining our more cautious tone and stance in portfolios. We still want to be participating in markets, but we’re very conscious of the risks surrounding inflated expectations and overcrowded trades. A broadening of market winners would be a welcome reprieve, a boon for truly active managers, given our preference for fundamentally focused/grounded long-term investment approaches.
A new generation of just over 5 million Australians – born between 1965 and 1980 – are approaching their retirement years.
As we have reached the end of another financial year, we wanted to send a reminder about income distributions.
The Australian equity market (as measured by the S&P/ASX 200) started the year off much like the previous finished, although most of the steam had been taken out of the rally with January producing a solid +1.20% return. February was much more muted with the uncertainty of an imminent reporting season hanging over the market however with better-than-expected results, coupled with softer-than-expected domestic inflation data, March provided some highlights as Australian shares hit new record highs. The quarter ended on a high with March producing +3.27% closing the quarter off with an attractive +5.53%.