Investment update - August 2019

August was a volatile month for the global economy. Oscillating Sino-US trade tensions, Brexit brinkmanship and a looming potential German recession all contributed to market uncertainty. Attention in the coming months will focus on central bank policy and geopolitics, with sentiment increasingly suggesting that a further global downturn should current trends continue.

In Australia, attention centred on two key data releases; second quarter GDP and second quarter current account data. The former met expectations to post growth of 1.4% year-on-year; the weakest since the global financial crisis. It also meant that GDP per capita has contracted over the year. By contrast, the nation’s current account recorded its first quarterly surplus since 1975, supported by sustained commodities demand and a surge in the price of iron ore.

Residential property prices had a second straight month of gains, with prices supported by two straight RBA official cash rate cuts and expectations of two more cuts in the coming months. Market pricing currently expects an RBA rate cut by November, with a second early in the new year.

Trade tensions between China and the US continued to ebb and flow. US President Donald Trump started August by announcing an additional 10% tariff on US$300 billion of Chinese imports from September (albeit later deferring tariffs on half of affected goods until December), with the Chinese government returning fire with tariffs of 5% to 10% on US$75 billion of US imports. The US also plans to increase tariffs on a further $US250 billion of Chinese imports from 25% to 30% from 1 October.

However, trade talks between the two nations are now slated in the coming weeks, leading markets to hope for a return to détente.
Closer to home for China, tensions continued on the streets of Hong Kong, with local leader Carrie Lam capitulating to the demands of anti-government protestors to drop proposed extradition laws. Nonetheless, the protests continue, prompting growing concerns about how they will be defused.

The domestic US economy remained in relatively good health, with unemployment remaining at a very low 3.7% and inflation beating expectations to edge closer to the Federal Reserve’s 2% target. That said, manufacturing remained weak, with sentiment data falling into contractionary territory.

As the Brexit deadline of 31 October drew closer, newly-appointed Prime Minister Boris Johnson took the drastic action of proroguing British parliament for five weeks to mid-October. The move was intended to constrain Brexit deliberation and force the hand of anti-Brexit MPs. However, Johnson’s move seems to have backfired, prompting the resignations or defections of a number of Tories, and with 21 rebel Conservative MPs voting with the opposition to stop a no-deal Brexit and seek a three-month extension should no deal be reached. His party has lost its voting majority in the Commons and a general election in October now seems possible, albeit unlikely without confirmation that Brexit will be delayed if no deal can be struck in time. While Brexit fears pushed sentiment gauges down, inflation and employment remain healthy for now.

On the European continent, manufacturing sentiment remains weak, especially in Germany, with the country now in technical recession. Meanwhile, Italian political risk seems to have been mitigated, with the Five Star Movement’s coalition with the right-wing League replaced with another involving the centre-left, pro-EU and business-friendly Democratic Party.

Geopolitical tensions and a weakening economic backdrop saw a spike in equities markets volatility over August. The VIX Index, which measures forecast US equities volatility, reached its highest level since 3 January, while both local and global equities had negative performance. In emerging markets, Argentina attracted headlines for the wrong reasons; a primary election loss by the market-friendly incumbent President to a populist rival saw Argentine stocks plummet 48% in a single day in mid-August; the second-largest single-day drop of any market since 1950.

Fixed interest benefitted from a flight to safety, driving up prices and reducing yields. However, in an ominous sign, the spread between US 2-year and 10-year Treasury bonds, long considered a harbinger of looming recession, inverted for the first time since 2007- albeit the first time since the introduction of quantitative easing, which has pushed longer-date yields downwards.

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