Weekly Reports | Aug 24 2018
Weekly Broker Wrap: drought; energy demand; consumer anxiety; property; and US elections.
-Severe east coast drought unlikely to impact on RBA policy
-Demand for major fossil fuels not likely to peak until 2030
-Consumer anxiety rises sharply
-Investors warming to the A-REIT sector
-International trade may shape US mid-term elections
By Eva Brocklehurst
Drought
NSW, southern Queensland and northern Victoria are in the grip of the most serious drought since 2002-03. Serious rainfall deficiencies along with above-average temperatures have led to rapid dehydration, with sub-soil moisture levels in NSW at the third lowest level on record. Drought typically means farm GDP falls -25-35%, taking around one percentage point off net GDP.
Given circumstances are more favourable in Western Australia, ANZ analysts suspect the impact of this drought will be slightly less, probably around -0.6 percentage points, although the risk is tilted to the downside. The analysts do not believe the drought will have much impact on the trajectory of employment and underlying inflation.
Moreover, some farmers do have buffers, with farm management deposits at high levels thanks to the strong rise in agricultural incomes through 2016-17. The analysts expect the Reserve Bank of Australia will probably look through the drag on growth from the drought and it is unlikely to impact policy.
Energy Demand
DBS Group Research expects global energy demand will increase at an average rate of 1.5% per annum out to 2030, on the back of global GDP growth of around 3.25%. Despite a shift towards renewables, the analysis suggests demand for the three main fossil fuels – coal, oil, and natural gas – will not peak until 2030.
Natural gas demand is expected to be around 33% above 2016 levels in 2030 while demand for coal and oil will grow more slowly. Natural gas is supported by the Chinese government as a fuel that burns cleaner than oil or coal. China is targeting an increase in the overall proportion of natural gas to 15% of energy consumption by 2030.
Natural gas production in the US has boomed thanks to technological breakthroughs, allowing it to become a net natural gas exporter, and its LNG exports are set to quintuple by 2019 from 2017 levels. The US then will become the world's third-largest natural gas exporter by 2020, behind Australia and Qatar.
Passenger transport accounts for around 20% of global oil consumption and the DBS Group analysis suggests the increase in sales of electric vehicles will affect around 6% of oil demand by 2030. Supply is expected to be the key determinant for oil prices in the medium to longer term. The analysts expect the 2018 Brent crude oil price to average between US$70-75/bbl and in 2019 around US$65-70/bbl
The analysis also suggests coal usage is yet to peak in Asia, as coal accounts for around 50% of the energy mix. Slow growth is expected out to 2030 with declining demand from Europe and flat demand from China offset by growing demand from India and Southeast Asia. DBS Group forecasts a benchmark price for energy coal of US$75/t in FY18-20 and US$70/t in FY21 and beyond.
China's power supply has been dominated by coal but the mix is changing to include more wind and solar power. The analysts expect from 2020 to 2030 non-hydro renewable energy will account for a 53% increase in China's power generation. Advances in technology are driving down the construction and operating costs of wind and solar farms and renewable energy may reach tariff parity with coal earlier than expected.
Consumer Anxiety
National Australia Bank's index of consumer anxiety rose sharply in the June quarter as concerns about the economy and household finances grew. Anxiety was highest in Western Australia and lowest in Tasmania. Consumers have indicated they are more concerned about their household financial position than at any time since late 2016.
Being unable to finance retirement remains the biggest worry followed by the ability to provide for their family's future and raise $2000 for an emergency. Hence, the measure of household spending behaviour reveals a consumer reluctant to spend on non-essentials with more expenditure on essential goods and services, particularly utilities.
Hardship is more prevalent amongst women and also rose for 30-49-year-olds. However, in the June quarter the measure fell notably for 18-29-year-olds, particularly men. Being unable to pay a bill was the most common cause of hardship, for around one in five consumers overall.
Property
Thinktank, in its quarterly market update, observes Australian real estate investment trusts (A-REITs) did well in FY18, climbing back from trading at a discount to book values.
A recognition that unit prices were trading at below net asset values has pushed up A-REIT prices as investors warmed to the sector. Commentators paid close attention to residential markets during the June quarter, amid a further levelling of the Sydney and Melbourne markets.
Macro prudential tightening by the Australian Prudential Regulatory Authority (APRA) has had its desired impact. So much so that the regulator has announced it will remove restrictions on authorised deposit-taking institutions (ADI) lending to investors.
Office markets, meanwhile, have improved, along with falling incentives, particularly so in Sydney. Vacancy rates remain high in Adelaide and Brisbane as these cities experience weaker demand for office space. Perth has improved slightly but vacancy rates for secondary properties remain high as tenants take advantage of favourable conditions to upgrade premises.
Thinktank notes the CBD office sector is strong in Sydney and continues to improve, with withdrawals playing a large role. In Melbourne higher levels of net absorption continue to keep the market strong on an improving trend. Both cities report low vacancy rates and some modest tightening of yields. The analysts note, even in weaker leasing markets, such as Brisbane, yields for prime properties have fallen.
In the retail A-REIT sector CBD yields continue to be stable in most capitals and yields are also not that much higher in regional centres. It remains to be seen whether the weakness in retail businesses will be reflected in retail property prices and the analysts suggest it may take an increase in interest rates to trigger a re-evaluation, although owners remain confident in their ability to replace vacating tenants.
In the industrial sector the analysts retain a positive view for Sydney as rents are tightening. Perth has an oversupply of available property relative to demand and is considered to be approaching the bottom of the market. Industrial rental levels across the country are stable, except in Perth, although yields continue to tighten everywhere.
US Elections
In November the US will vote on its legislative government, commonly known as the mid-terms. All 438 members of the House of Representatives and 35 of 100 Senate seats will be decided. ANZ analysts believe the race for the lower house is too close to call. There are around 115 seats that could be up for grabs and these would be enough to sway the majority of the house.
The Democrats face a battle in the Senate, the analysts observe. Of the 35 seats to be decided, 26 are currently held by Democrats and only nine by Republicans. The Democrats would have to successfully defend all 26 and win over two Republican seats in order to have a majority in the Senate.
The analysts suggest, for the Republicans, losing the House would hamper their ability to put forth new laws and engage in further reform on contentious policies. However, the Democrats would also be unable to implement new policy as the Senate is unlikely to approve motions. Meanwhile, even if both the House and Senate majorities change, the president will still hold veto power.
One issue that may shape the elections is international trade. The ANZ analysts suggest this is been a contentious issue under the Trump presidency. Aside from the blanket tariff on steel and aluminium, the president has unilaterally imposed tariffs on many Chinese imports.
China has reciprocated with its own tariffs, particularly damaging to US farmers. Reduced farm income is expected to weigh on consumption and confidence. On the import side, tariffs will raise domestic prices and erode purchasing power.
Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.