The Global GFC recovery remains sluggish and patchy around the world with still no convincing solution to its root causes in sight.
But this is a new year (Happy New Year!), so what can we expect?
Last year was a mixed result for the global economy… the US did well but the EU sank further into its difficulties. The Ukrainian crisis proved more extensive than envisaged and against expectations, the German economy weakened substantially. Japan’s ‘Abenomics’ policy with its heavy reliance on monetary policy, ran into difficulties and the ‘dip’ was more severe than expected. Prevailing scepticism about China’s official growth figures continues and China’s growth kept on slowing. Here below are our top 10 themes to look for in 2015:
Slow and volatile economic growth in Australia
Most economists expect global economic growth to accelerate modestly but this may be a challenging year for our Australian economy. Commodity prices have been falling along with mining investment, while non-mining investment is limited. So, our weakening terms of trade, growing unemployment and consequent weak household income growth amid Government-induced budget tightening all conspire to raise the probability of recession here.
How far has Australia really come in lowering labour costs and improving productivity, as well as efficient use of capital? This should be a focus of attention. For now, the heavy lifting is being done by a narrow collection of industries.
Unconventional monetary policy globally has brought asset volatility down under intrinsic levels, changing the traditional link between financial and economic risk. This was clearly illustrated by positive market reaction to bad economic news, on the expectation of receiving more monetary stimulus. In this way, financial risk taking seems to have outpaced economic risk taking.
The US Federal Reserve (the Fed) has withdrawn its unconventional ‘easy money/QE’ policy and will try to raise interest rates (perhaps later this year). During this transition from a liquidity driven to a more growth driven world, bad news may return to being bad news and cause renewed market volatility.
FED to raise rates in late 2015
Most analysts and economists expect ‘the Fed’ to raise rates from historical lows in 2015 – perhaps in September/October. We think the Fed won’t want to risk disrupting the current modest US recovery, so the first interest rate hike will probably come with assurances of further future rate rises being only very gradual.
No rate rises in Australia
Views on Australian interest rates changed late last year from expecting rates to rise early this year to now expecting a 50/50 chance of a rate cut – bond market behaviour also suggests another RBA cut is expected. We expect rates will stay on hold this year and rise in 2016 but the chance of a rate cut is rising…
Even Lower Australian Dollar
With a strengthening US economy and US$, falling commodity prices and possibly lower interest rates here, our A$ can go lower yet. This would provide further stimulus, especially for companies trading in global markets (see point 8 below).
However, with Japan printing huge amounts of liquidity and the Chinese Reserves continuing looking for diversification, there is a question mark over the possibility for sustained artificial inflation of the AUD. It is feasible that Australia’s relatively high yields in both fixed income and equities will continue to support the AUD above what fundamental valuation models suggest as appropriate.
Low oil prices
Sustained low oil prices help stimulate activity. OPEC’s strategy (Organisation of Petroleum Exporting Countries; mostly Middle East/Venezuela) is to use low oil prices to inhibit further development of their US shale oil competition from higher cost conventional and unconventional exploration fields. See are article on Red Oil.
Prefer Active to Index Investing
Passive management mimics market movements to achieve roughly the same returns as an ‘Index’, whereas active management involves making judgements to act on market movement. Passive investing costs less because no skill is applied to decide whether a stock is a good investment.
We expect our A$ to remain low and perhaps trend lower… but we don’t expect as much a tailwind from it as we enjoyed last year. Overall, our stock market seems fairly priced but within this, resource stocks have been heavily discounted on lower commodity prices.
Though some sectors may add value, mining may to continue to suffer and energy stocks could battle in the early part of the year (all of which make up a large part of the ASX200 – “the index”). On average we expect modest capital gains in the index.
This again makes for a challenging investment climate, favouring maintaining a more defensive orientation and companies with global exposure. Is following the index the approach you’d feel best to pursue, or is a more active style more appealing?
Active doesn’t necessarily mean trading, it simply means taking an active tilt vs the index – i.e. a heavier weighting in certain stocks or sectors vs the index.
Company profits look most likely from global markets, rather than here at home. However, while the fundamentals continue to favour US$ exposures in our Australian Stock Market, caution is required as valuations are already high.
Other than favouring Australian companies with global exposure (particularly US), we also seek to invest in global companies. But approach this with caution as we also expect an increasing divergence in growth around the world as well as policy actions (The US Fed is likely to raise rates while BoJ and ECB are easing).
China’s growth to continue to slow, but not alarmingly so
For Australia, the effect of China’s weak property market on its slowing growth creates uncertainty. Longer term, the improving prospects from India may help us.
Europe’s Struggle Continues
The EU has a unified collection of countries with a common currency but not a common parliament. Europe’s politicians must begin building the political, banking and fiscal union the EU needs to thrive and the euro needs to survive. Easy to say but hard to achieve – for example, do German taxpayers really want to buy Greek Bonds while there’s a possibility of Greek debt default? Germany’s less energetic southern neighbours are debt-laden and deflation-prone, which makes for interesting politics ahead.
So, we expect slow growth conditions for many years to come. Equity market investing is becoming more difficult with weaker national income here from our slowing GDP. Our falling A$ should encourage more spending at home but apart from the US, global growth is weak and the slowing of China’s growth continues. This slow growth outlook encourages a skew towards defensive portfolio design. It seems best to focus on improving portfolio quality and growth while maintaining income – while having an eye for value, cheap pricing is not enough.
Disclaimer: All information in this article is intended to be general in nature for discussion purposes only. So you should not rely on it and seek personalised professional advice before making any decision.