Economic And Market Summary

Since the middle of July, share markets have experienced heightened volatility reflecting the spreading contagion of the European sovereign debt crisis and a sharp slowdown in leading economic growth indicators. Equity markets extended their losses in August, with most markets experiencing material declines. In local currency terms, the US S&P 500 Index and the broader MSCI World Price Index were down 5.7% and 7.0% respectively.  While the Australian equity market also declined, it outperformed relative to the major overseas markets, with the S&P/ASX 200 Index down 2.9%.

European sovereign debt issues were a key focus of markets during the month. Despite numerous bailout packages announced over the last several months, concerns remain about debt levels in countries such as Greece, Ireland, Portugal, Spain and Italy. Bond yields for these nations have continued to rise as investors seek higher returns to compensate for the risk of losses resulting from a potential debt restructure or government default. The European economy has also continued to slow, particularly in the heavily indebted periphery. This partly reflects the impact of harsh austerity measures.

Sovereign debt issues and the health of the European banking system are interlinked, as a large proportion of European sovereign debt is held by European banks. As such, many European financial institutions are facing increasing levels of stress and the cost of insuring these companies against default has risen to levels higher than at the peak of the Global Financial Crisis. Many European banks have seen their share prices fall significantly, which contributed to the underperformance of European equity markets during the month. The German DAX was down over 19% while the French CAC decreased by more than 11% during August.

The US economy continues to struggle with persistent high unemployment and poor consumer and small business confidence. Confidence has been affected by the dysfunctional political environment as well as the uncertain global economic outlook. Leading economic indicators continued to point to an increasing chance that the US economy could experience a material slowdown or a recession. For example, the August Philadelphia Federal Reserve manufacturing survey recorded its worst result since March 2009, with levels of manufacturing activity consistent with a recession.  That said, the closely watched ISM manufacturing and services indices remained at levels suggesting low, but positive growth.
While economic conditions appear to be worsening, policymakers have limited policy options to further stimulate the economy, and this has weighed on market confidence. Interest rates in the US remain close to zero, limiting the US Federal Reserve’s ability to stimulate the economy through monetary policy. During the month, the US Federal Reserve committed to keeping interest rates steady until 2013, signalling to markets that the low interest rate environment will persist for some time. Several prominent Republicans have been critical of the Federal Reserve’s actions and the hostile political environment has also constrained the US government’s ability to provide further fiscal stimulus (through reduced taxes or increased spending). Any measures which would increase the size of the deficit face fierce resistance from the opposition party Republican controlled Congress.

Emerging market economies continue to face inflationary pressures, however policymakers in a number of countries have been proactive in taking measures to cool their economies and reduce inflation. These measures have also seen growth in the emerging market economies continue to decelerate somewhat. In China, the most recent consumer price inflation figure came in at 6.2% for the year to August, still high, but in line with market expectations. 

The Australian economy continues to have a positive outlook overall, relative to the rest of the developed world. While the mining sector has benefited from continuing strong demand from emerging markets, other sectors of the economy have been impacted by higher interest rates and the high Australian dollar. Increased global uncertainty has also impacted business and consumer sentiment. For example, the Australian Industry Group’s August survey of the construction industry showed activity at its lowest level in two and a half years. The unemployment rate showed a small, but unexpected, increase in August (reaching 5.3%), driven by a loss of full time jobs. 

Fixed interest markets rallied during August due to the increase in investor risk aversion. During the month, US 10 year treasury yields fell to levels lower than those experienced at the height of the Global Financial Crisis, reflecting strong inflows into the asset class. Despite concerns about the US deficit and debt levels, investors continue to view US treasuries as a safe haven. Global fixed income outperformed Australian fixed income over the month, however, Australian fixed income continues to outperform over the 12 months to end August. The Australian dollar declined by 2.6% versus the US dollar during the month, largely reflecting an increase in investor risk aversion.

Source: Access Capital Advisers Pty Ltd.

This article provides general information only and may not be relied on as legal or financial advice.

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