Economic Update August 2018
Within this month’s update, we share with you a snapshot of economic occurrences both nationally and from around the globe.
US continues to drive growth!
– The ‘old normal’ is back for the US
– Australian jobs show strength
– China economy still growing at 6.7% p.a.
We hope you find this month’s Economic Update as informative as always. If you have any feedback or would like to discuss any aspect of this report, please contact your Financial Adviser.
The Big Picture
The US economy and stock markets powered ahead in July. At the start of his presidency, Trump predicted 4% growth and many scoffed. Quarter two GDP growth just came in at 4.1%! It is now a reality.
Trump also worked out the next step of the trade deal with the European Commission. Albeit rather awkwardly, Trump had a major summit with Putin with more slated to come.
On the inflation front, the US posted a six and a half year high of 2.9% but the Federal Reserve (“Fed”) had already stated that it wouldn’t react too eagerly. That didn’t stop Trump berating the Fed for the hikes already committed. Presidents normally steer clear of commenting on monetary policy but Trump isn’t normal. He is concerned about the effect of the Fed on international trade.
Now that the US has come through ‘the new normal’ growth path that was a popular talking point at around 2008-2010 it is back to the ‘old normal’. That being said, prudent investors and their advisors need to start formulating plans to deal with the standard cyclical behaviour of markets.
There are no major known problems on the horizon but, if the US economy continues to grow rapidly – spurred on by Trump’s expansionary fiscal push – the Fed might be forced to cool the economy. If the Fed is too aggressive, it might hike rates too quickly and cause a recession. That’s how recessions usually start.
With the ‘neutral’ US interest rate at about 2.5%, and two more hikes expected this year, the Fed might well reach that neutral rate in mid-2019. At that time, we will be looking for any signs of emerging excessive monetary tightening.
Since this scenario suggests at least another 12 months growth in markets, it is far too early to be adopting a defensive investment strategy for typical equity investors. On the other hand, continuing a benign ‘hold’ strategy for too long could see some hard-won profits eroded.
It is not just the US that experienced a good month of economic data. Somewhat out of recent character, the Australian economy performed very well. Jobs data were unusually strong – turning the corner for a fading rally in full-time employment.
On top of jobs, inflation came in within the RBA’s target range of 2% to 3% but the RBA’s preferred statistical version of the inflation measure still fell just short at 1.9%. It seems highly unlikely that the RBA will hike rates in the current financial year. A cut is not out of the question if this nascent rally starts to fade.
The China economy grew at 6.7% which is well within the official range of expectations – although one notch down from the previous quarter.
The slightly below expectations inflation read in the UK put an August rate hike as being a little less likely. With the swirling political sentiment around the Brexit negotiations, no hike would be a good outcome.
The European Central Bank (ECB) kept rates on hold but reaffirmed the end to its bond-purchase policy from December.
But for anyone thinking our inflation is hard to swallow, spare a thought for Venezuelan citizens. The IMF just forecast its inflation to be one million percent this year! For us Aussies, that would mean next year, a litre of milk would cost us around $10,000!!!
Reporting season for the ASX 200 just got started. Company forward statements will be the key to gauging the strength of our market.
Asset Classes
Australian Equities
Our ASX 200 was up 1.4% over the course of July. A number of sectors performed particularly well – especially Telecommunications after a very bad 2018 financial year.
It is our belief that the market is only just a fraction over-priced and so a slightly better year for 2018 is still expected – compared to the long-run historical average.
August (and February) can bring surprises as companies report their full or half-year financial results. Normally there is a ‘confession season’ just prior to reporting for those companies likely to miss prior guidance. This time around, the season has been quiet. That is good news.
Foreign Equities
The US and world indexes have performed particularly strongly in July. We believe 2018 will be another good year for Wall Street. But, as we foreshadowed in our summary, now is the time to realise that normal conditions are back. It seems unlikely that a downturn or correction is likely anytime soon but we need to get our mindset back into gear.
Markets go through good and bad times (but good in the long-run). With the so-called quantitative easing from central banks around the world largely behind us we should not just assume markets will keep going up.
That is not to say that we are predicting a bear market or even a down turn – but we should dust off our notes on how to deal with markets that are turning. Complacent investors will, eventually, get burnt!
