Regional outlook: Australia’s high yield stock market
  • Market outlook

Regional outlook: Australia’s high yield stock market

When it comes to the performance of the world’s major stock markets in 2019, Australia rules.

The S&P/ASX 200 index, used as a benchmark for Australian equity performance, edged towards another record high this week, approaching the A$6875.5 level that it previously hit in July.

This year’s advance, a 18.17% YTD return as of 21 November, hit the kind of levels not seen since the boom of 2007.

The Reserve Bank of Australia (RBA) reduced rates twice since June to an all-time-low of 1%, which have in turn driven bond yields to record lows, helping to keep the market buoyant.

The falling interest rate – which RBA is expected to cut by at least a further 0.25% by the end of next year – has prompted investors towards equities, resulting in high-yield favourites such as Woolworths [WOW], Australian conglomerate Wesfarmers [WES] and hearing implant specialists Cochlear [COH] to reach record highs in recent weeks.

Low-interest rates have attracted savers into the higher returns of the share market, Steven Daghlian, a market analyst at Commonwealth Bank’s stockbroking arm CommSec, told the New Daily. “One of the main reasons that markets have done so well, not only in Australia but in places like the US as well, is because interest rates are so low.”

“One of the main reasons that markets have done so well, not only in Australia but in places like the US as well, is because interest rates are so low” - CommSec market analyst Steven Daghlian

 

There are other factors: the surprise re-election of Prime Minister Scott Morrison’s coalition government in May kept the market bullish. The July ASX spike also included the surge in commodities, in particular, the price rally in the price of iron ore, of which Australia is the world’s largest exporter.

The precious metal has been trading above $120 per tonne this year – a level not seen since 2014 – thanks to China’s steel-intensive stimulus programme, boosting shares in companies such as Rio Tinto [RIO] and Fortescue [FMG].

But there’s uncertainty ahead. Commodities, which are known for being volatile, have fluctuated even more in recent weeks with the ebb and flow of US President Donald Trump and Chinese President Xi Jinping’s rhetoric over the US-China trade war.

The price of iron ore has plunged more than 30% since reaching that July high. On the day that Trump described the Chinese as “cheats” earlier this month, 1.1% fell off ASX commodities, its highest daily fall in a month.

30%

Amount iron ore price has plunged since July high

  

Bulls charging down under

The Schroders Global Investor Study 2019 found those with interests in Australian markets expect to make a 10.9% annual return over the next five years – but this is not realistic, the authors of the study claim.

“It's possible, but in an environment where we've got very difficult global economic conditions, we've got very low-interest rates and we've already had a pretty strong run in many markets, it's pretty difficult to see those sorts of numbers being achieved," observed Simon Doyle, head of fixed income and multi-asset at Schroders Australia.

“It's possible, but in an environment where we've got very difficult global economic conditions, we've got very low-interest rates and we've already had a pretty strong run in many markets, it's pretty difficult to see those sorts of numbers being achieved” - Schroders Australia's head of fixed income Simon Doyle

 

Historically, Australians have enjoyed a strong economy. Indeed, no other developed nation can match their 29-and-counting consecutive years of growth and the country enjoys the largest median wealth per adult of anywhere in the world.

But over the past three years, the economy has slowed to a snail’s pace – so much so that September’s 1.4% GDP growth was the most sluggish since the global financial crisis in 2008.

Wages growth has stagnated, retail spend is declining, Australians’ household debt is higher than everywhere else except Switzerland and after years of falling unemployment, last month’s jobless total rose to 5.3%.

Treasurer Josh Frydenberg tried putting a positive spin on the GDP figures. “The Australian economy continues to grow in the face of significant headwinds, both international and domestic”, he boldly said in response to September’s figures.

Frydenberg later rejected pressure from opposition parties, business and analysts to introduce a fiscal stimulus package. “Now is not the time to panic,” he stated.

But just five weeks later, after the IMF downgraded the economy’s growth to 1.7% – a full percentage point lower than 12 months ago and considerably lower than the RBA’s estimate – Morrison this week announced an A$3.8bn package to accelerate existing infrastructure spending fund.

“This will support the economy in two ways,” Morrison said in a statement, “by accelerating construction activity and supporting jobs in the near term, and by reaping longer run productivity gains sooner”.

The latest package is Morrison’s second stimulus package since re-election – in July he announced A$7.2bn in income tax cuts.

“This will support the economy in two ways - by accelerating construction activity and supporting jobs in the near term, and by reaping longer run productivity gains sooner” - Prime Minister Scott Morrison

 

The China connection

Australia’s benchmark index, meanwhile, is generally forecast to remain buoyant through 2020.

However, Australia is facing a number of headwinds outside its control. The continuing global slowdown, the progress – or otherwise – of Brexit and, most crucially of all, the effects of the Trump and Xi spat on China, Australia’s largest trading partner, will be the major factors impacting the country’s markets in the months ahead.

An agreement between Beijing and Washington would bolster Chinese construction projects and boost the price of iron ore. BHP [BHP], Rio Tinto and Fortescue have all invested in major projects in Western Australia’s Pilbara region.

A US-China deal would also boost Chinese consumers’ demand for premium Australian products, which could benefit such ASX stocks as A2 Milk Company [ATM] and Treasury Wine Estates [TWE].

But the economy isn’t just at the mercy of manmade challenges. Australia’s current drought and wildfires are expected to hit farm output – with the Agricultural Commodities September report forecasting a 5% decline in 2020 to $59bn – and food and fibre exports with it.

Shares in the country’s biggest fruit and vegetable producer Costa Group [CGC] have plummeted and with the heat of summer still to begin down under, food-related stocks face an uncertain few months.

On the other hand, a more certain scenario is the continued reduction of interest rates, which is likely to boost the ASX’s 86 listed real estate companies.

“The international challenges were a stark reminder of why we must stick to our economic plan,” Frydenberg told The Australian, with Morrison adding defiantly: “Notwithstanding these headwinds, our economy has continued to grow. That’s the dividend of responsible economic management.”

“The international challenges were a stark reminder of why we must stick to our economic plan. Notwithstanding these headwinds, our economy has continued to grow. That’s the dividend of responsible economic management” - Treasurer Josh Frydenberg

 

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