Australia | May 28 2014
By Mathan Somasundaram, Baillieu Holst Quant Strategy
Aussie market remained positive on the back of banks outperforming miners. China data seems to be flattening while US data continues to support recovery. We continue to worry about consumer sentiment on the back of local unemployment “tidal wave”, rising cost of living pressures and budget uncertainties while global risks continue to rise in China and Europe with markets hoping for stimulus from both regions.
Equities is the only game in town and Yield is the only thematic that needs attention given the low global growth and low global interest rate environment well into 2015. We turned positive in the short term on May 22nd with China data beating expectations, US data continuing to point towards sustainable recovery and domestic market pricing in low consumer sentiment and budget worries.
Budget – Commission of Audit (aka H&R Block) report has been proven to be nothing more than an overpaid fluff piece to justify a classic conservative budget. The budget lacks consistency, innovation, long term planning, trust and even coalition narrative. The two key policies of the government (i.e. direct action and PPL) were not included in the budget due to lack of detail. As we have been expecting pre budget, the structural long term cut backs are almost completely targeting middle to low income earners and foreign aid while corporates and the wealthy are untouched. The new revelations in the budget are health research fund and $80 billion of cuts in healthcare/education to state budgets. It is still murky on how the health fund gets to $20 billion in six years despite all the cuts, while the transfer of the education/health will force the state governments to come back to the table to raise GST.
Public are not surprised by the cuts but the disparity in the level of pain carried by the wealthy and corporate compared to the middle to low income will hurt the majority. The environment of real wages growing slower than cost of living (i.e. falling living standards) will accentuate the problem even more. We expect consumer sentiment to remain subdued till all the “horse trading” is finalised and some form of clarity returns to public policy making. The logic states that the government has chosen a much harder line than needed to bargain down to a middle ground, but in the meantime they have not missed a trick in nailing consumer sentiment. The clear big picture move is that the corporate debt that moved to government debt during GFC is being moved to public debt over time. The disparity in the distribution will force the middle to low income earners to have to borrow to maintain living standards and take on risk to drive credit growth.
Consumer sentiment – The fiscal outlook of the government, rising unemployment and rising cost of living pressures will continue to drive down consumer sentiment into 2015. The accumulated unemployment tidal wave from car industry, airline industry, telco industry, manufacturing industry, M&A job cuts, outsourcing to Emerging Markets, government job cuts and the ever shrinking mining industry cuts will create a vacuum for jobs into 2015…well before any infrastructure projects begin. The rising cost of living pressures in mortgage, food, energy, education and health to hit home further with real wages more likely to go backwards. We expect this to be negative initially to local cyclical stocks related to retail and property with financials, media and consumer service related stocks getting hurt in the medium term. Corporates currently looking at M&A to reduce costs further and delaying capex while enjoying solid balance sheets and improving cashflow through multiple years of cost cutting. Stocks with global exposure are the preferred industrial cyclical picks. We also expect substantial job cuts in Canberra and property prices in that area to pullback in 1-2 year time frame.
Higher Education Deregulation – We expect the college system below the elite universities to charge atleast private high school fees while universities to charge on average in the middle of private high school and US elite university fees. If you look through a four year engineering degree, a college graduate will come out with over $130,000 loan while an elite university graduate will come out with over $200,000 loan growing around 10year bond yield (i.e. 5%). This will cause a number of structural changes in the society (1) parents will chose to not send their kids to private schools in order to save the funds for university – we will have more pressure on public system (2) wealthy parents will be able to buy their kids a university degree while low income kids will be pushed to college degree – we will not get the smartest students coming through (3) university graduates will come out with substantial debt – we will price the future generations out of owning their own home for at least a decade (4) university graduates will leave Australia to avoid repaying the HECS – we lose the smartest candidates to other countries (5) transfer of debt from government to next generation via education – we risk further widening of the inequality gap as seen in US with student debt blow outs.
Currency Outlook: We maintain our view that AUDUSD will remain 87-94 cents in the short term and then track down to mid 80s. We need to see substantial US or China growth risk for currency to break the recent trading pattern…now 92.3 cents.
Aussie market closed up 0.28%. Turnover just above $3.8b. At the close, Asian markets were positive.
Macro Events tomorrow: Australia’s HIA new home sales for April and private capital expenditure; US annualised GDP for first quarter, initial jobs, continuing claims for May and pending home sales for April; Japan retail sales for April, and BOJ’s Shirai speech.
Points of interest: (1) Energy sector was positive with ROC, PDN and ERA up over 3% (2) Material stocks were positive with TFC up 5% (3) Mining was positive with ILU, OZL, SFR and TGS up over 5% (4) Gold stocks were negative with SBM and RSG down nearly 6% (5) Industrials were positive with ALQ and ANG up over 6% (6) Consumers were positive with WEB, SXL, MYR, VRL and ALL up over 3% (7) Staples and Healthcare were mainly flat while PBT up over 33% (8) Financials were positive with Banks holding up the index and QBE, MFG up over 2% (9) IT sector was positive with SLX, IRE and CPU up over 2%…still like IPP long term (10) Telco and Utilities were mainly flat with NXT and TEL up over 2%…TEL is the NZ version of TLS on the recovery path (11) Overall positive day on low volume similar to the last 2 days
LONG TERM MARKET CALL => Bull market to 6500 in 2 years on May 2013
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