The Monday Report

This story features MYER HOLDINGS LIMITED. For more info SHARE ANALYSIS: MYR

By Greg Peel

Fed Sell-Off

There’s little point in trying to over-analyse the drop on Friday in the Australian market given Wall Street fell 2.5% on Friday night. But let’s make a comparison.

The Australian market loped along through almost the entire August result season doing very little on a net index basis. Only towards the end of the month did we see the market begin to fall, not because of earnings results but because of rising fears of a Fed rate hike in September.

As we entered September, US economic data releases began to look weak – the August jobs number being a case in point – hence markets relaxed a little on the assumption the Fed would not be hiking this month. But despite the weak data, Fedhead rhetoric continued to be hawkish. The feeling grew that weak data or not, the Fed was going to raise. Even if only to save face.

Australian yield stocks have been carrying a premium for some time now, not just because they are attractive to local investors but because they are attractive to foreign investors who otherwise are looking at zero to negative returns available on alternate investments. Australia’s comparatively high dividend yields are very attractive not only compared to US interest rates, but compared to US dividend yields. On Wall Street, 2% is considered an attractive return.

So whether or not anyone believed the Fed would raise, fear took hold. As a consequence, a trickle of selling on the Australian market has largely turned into a flood in September, and we can pretty much attribute the selling to Fed policy, which has implications not just for yield differentials but for commodity prices and beyond.

The ASX200 hit its recent peak on August 24. By Friday’s close it had fallen 4%. The S&P500 hit its recent peak – an all-time high – on August 15. Prior to Friday night’s session, it had fallen 0.4%.

Do you see where I’m going here?

Of Straws and Camels

On Friday night Boston Fed president Eric Rosengren joined the chorus of Fedheads suggesting the US economy was sufficiently in balance to imply gradual rate increases are appropriate. The Dow fell 394 points or 2.1%, the S&P fell 2.5% to 2127 and the Nasdaq fell 2.5%.

It was the first move in excess of 1% for the S&P500 since July 8. But we have had a procession of Fedheads coming out to make the same suggestion as Rosengren these past sessions with little impact, so why, all of a sudden, does Wall Street tank on one more similar comment?

One reason is that Rosengren has up to now been among the doves on the FOMC. And he has not said anything much of late. It is not insignificant for him to change his tune. But most likely Rosengren simply was the straw that broke the camel’s back. For the past month Wall Street has been saying they wouldn’t, would they? They might, could they? And even though there are still plenty of people insisting they won’t, well, maybe they just might.

Wall Street opened lower on Friday night and just kept on going, tracking a very straight line downwards to the close as more and more traders joined in. Many of those traders have only just come back from vacation. But there was no real panic.

There was no real panic because many have been expecting exactly this, whether it be triggered by a September rate rise or a December rate rise. The US indices have been sitting around all-time highs for no real reason other than central bank policy dictates there’s no alternative. Not only have traders been waiting for such a move, they’ve been looking forward to such a move.

At this stage Wall Street has fallen 2.5%. Not such a big deal. There could be more selling, but there are plenty of buyers lined up for just such an opportunity.

To underscore the fact Friday night was all about Fed policy speculation, the US dollar index rose 0.3% to 95.35, gold fell US$10.40 to US$1327.80/oz and the US ten-year bond yield rose 6 basis points to 1.67%.

From Australia’ perspective, the SPI Overnight closed down 79 or 1.5% points on Saturday morning. If accurate, that would take us down towards the next level of technical support for the ASX200 at 5250. It would not be surprising, given recent history, were we to see a much bigger capitulation day today – one of those panic 100 point drops we suffer every now and then.

But it would also not be surprising if we saw the buyers move in sooner rather than later. As I noted, the index has fallen 4% to now on Fed rate hike fears. The S&P500 had fallen 0.4%, and now has dropped 2.5%. Is Australia not already ahead of the game?

Commodities

Higher US rates implies a stronger US dollar and thus pressure on commodity prices.

On Friday night West Texas crude fell US$1.58 or 3.3% to US$45.73/bbl.

In London, lead dropped 1.5%, aluminium and zinc around 1% and copper around 0.5%. Nickel held its ground.

In typical independent fashion, iron ore rose US10c to US$57.50/t.

As noted, gold fell 0.8%.

The good news, on the other hand, is that the Aussie fell a solid 1.3% to US$0.7537.

The Week Ahead

Is the Fed data-dependent, as it claims to be, or not? Soft jobs, weak PMIs, low inflation – none of these in the past couple of weeks have silenced the chorus of hawkish Fedspeak. If it does actually remain data-dependent, then there will be a lot to consider towards the end of this week.

Thursday night brings industrial production, retail sales, business inventories, the PPI, the Empire State activity index and the Philadelphia Fed activity index. Friday night brings the CPI and consumer sentiment.

Friday night is also the quadruple witching equity derivative expiry.

The Bank of England will hold a policy meeting on Thursday night, but given its extensive easing at the last meeting and the fact the UK seemingly has shrugged off Brexit there is no change expected.

China will release industrial production, retail sales and fixed asset data tomorrow, ahead of public holidays on Thursday and Friday.

New Zealand will release its June quarter GDP on Thursday.

In Australia we’ll see NAB business confidence tomorrow, Westpac consumer confidence on Wednesday and the August jobs numbers on Thursday.

On Friday the changes to the components of S&P/ASX indices, announced earlier in the month, will become effective.

On the local stock front, we’re still working our way through the ex-dividends. On Thursday, earnings results are due from Myer ((MYR)) and OrotonGroup ((ORL)).

Rudi will appear on Sky Business on Tuesday, through Skype-link, to discuss broker calls around 11.15am. He'll be in the studio on Thursday, 12.30-2.30pm, and does the Skype-link again on Friday, probably around 11.05am.

On Wednesday evening he'll present to the Chatswood chapter of the Australian Investors Association, at the Chatswood Club at 11 Help St. Starts at 7.15pm.

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