Rudi’s View: Rate Cuts Equal Optimism

Always an independent thinker, Rudi has not shied away from making big out-of-consensus predictions that proved accurate later on. When Rio Tinto shares surged above $120 he wrote investors should sell. In mid-2008 he warned investors not to hold on to equities in oil producers. In August 2008 he predicted the largest sell-off in commodities stocks was about to follow. In 2009 he suggested Australian banks were an excellent buy. Between 2011 and 2015 Rudi consistently maintained investors were better off avoiding exposure to commodities and to commodities stocks. Post GFC, he dedicated his research to finding All-Weather Performers. See also "All-Weather Performers" on this website, as well as the Special Reports section.

Rudi's View | May 22 2024

In this week's Weekly Insights:

-Rate Cuts Equal Optimism
-All-Weather Model Portfolio
-Model Portfolios, Best Buys & Conviction Calls

By Rudi Filapek-Vandyck, Editor

Rate Cuts Equal Optimism

This might surprise a few readers, but the Australian share market is up more than 3% ex-dividends since the start of the calendar year.

Assuming the remaining six weeks or so don't include any major sell-downs or crises, the ASX looks en route to posting a double-digit return including dividends for the financial year ending on June 30th.

With another ten days or so to go, May's total return may well exceed March's 3.30%, all else remaining equal, with a new all-time record high seemingly within reach.

Yet, anecdotal evidence, including from the database of subscribers here at FNArena, suggests the mood among investors is a lot more sombre. Daily trading volumes on the local bourse are nothing to crow about.

All that talk about the Albanese government's latest budget poking the resident inflation bear is clearly weighing on people's minds, as does, probably, the rise in anecdotal evidence that higher-for-longer interest rates (bond yields) are creating a recession-like environment for the vulnerable parts in society.

The latter, by the way, is an international phenomenon, not just in Australia.

The neighbourhood in which I live and work has lost two restaurants in the space of two weeks. There are a number of empty commercial spaces that are not being filled with new tenants. It's rough out there if you happen to be on the wrong side or in the wrong place.

But such anecdotal observations have been around for more than twelve months now. The pace at which they enter the official statistics, both locally and in the USA, has been excruciatingly long-winded.

Meanwhile, the negative correlation between bond markets trying to guess the next move in central bank policy, as well as the timing of it, has injected a lot more volatility, and uncertainty, into equity markets.

Up one day, down the next. And then everyone has an opinion about inflation, the underlying statistics, government failures, corporate greed, and hapless central bankers.

It's far too easy to get lost inside the daily noise on social media. But also, why are markets so resilient when there's so much uncertainty and risk around?

Made In Australia: Inflation

Let's start with this month's big bugbear: the Chalmers budget that puts $300 in every household's pocket, spread out over the next four quarters. Surely that's inflationary and will keep the RBA on hold for much, much longer?

Hold on. That may look like the general conclusion, and certainly parts of the local media are doing their utmost to keep that message alive, but as per usual: details matter.

The government is actually not sending out any cheques like what happened during covid and the GFC. Lowering everyone's electricity bill by -$75 a quarter will push down official CPI readings in the coming quarters. On some calculations, official CPI numbers may well decline by up to -0.70%.

That's a big fall. And it will impact on general perception and sentiment. The crucial question is whether Chalmers & Co's statistical trickery won't come back like a boomerang and lift inflation elsewhere?

Some of the smarter economists in the country (Westpac, Barrenjoey) believe there remain valid reasons for this not necessarily to become the outcome. Plenty of books and economic surveys assure us people treat money differently in line with how they receive/perceive it.

No cheque in the mail might well translate into no additional spending. Plus the most needy are most likely to opt for basic necessities, where demand is far from super-charged, and probably will be further in decline by the time the government's support arrives. The wealthier recipients might not even notice, and not spend extra at all (or spend more overseas).

In summary: contrary to general sentiment, the government's goal of forcing Australia's official CPI numbers down by hook or crook might well succeed, irrespective of current skepticism. If/when it does, it will be a major positive and allow the RBA to start cutting the official cash rate. This can still happen later in the year.

(Of course, there's a whole lot more going on, but economies are always a confluence of multiple drivers and impacts, and I've simply picked the most obvious one.)

While bond yields falling and rising in the US are keeping equity investors on the edge of their seats, the irony is general sentiment is switching towards central bank rate cuts later in 2024. As one global macro report that entered my inbox this week summarised it: The Rate Cuts Are Coming!

The key remaining topics of debate, or so it appears, are when exactly and how severely exactly will be the impact on economic growth and corporate profits from the current higher-for-longer environment?

Some market watchers believe the ECB will move first. Canada might follow next. The Fed might not be ready until September.

No wonder traders are watching currency markets like a hawk. That's where the earliest impacts will take place. In FX, small moves can have outsized consequences.

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