• New business investment rose by a less than expected 1.3 per cent in the December quarter. Manufacturing dominated investment plans with investment in the sector up by 7.0 per cent as opposed to mining investment which fell by 4.8 per cent in the December quarter.
• Businesses expect to invest $128.9 billion in the 2010/11 year up 3.6 per cent on the fourth estimate from the September quarter and slightly above the usual (decade average) upgrade of 2.2 per cent made by firms at this time of the year. Investment plans are up 16.2 per cent on the equivalent estimate made a year ago.
• The first estimate for business investment in 2011/12 is $132.7 billion, up 30.3 per cent on a year ago – marking the biggest percentage lift in first estimate investment plans on record.
• Average weekly earnings rose by 1.1 per cent in the three months to November after a small 0.6 per cent lift in the previous three months. Wages rose by 3.9 per cent over the year – in line with yesterday’s wage cost index, however the result marked the slowest annual growth in four years.
• Over the year male wages rose by 3.8 per cent while female wages rose by 4.5 per cent. The average wage stands at $66,264. The highest average wage can still be found in the mining sector, at $108,009 per year.

What does it all mean?

• The latest capital investment plans certainly paints a mixed picture of the domestic economic landscape. The sluggish 1.3 per cent lift in December quarter investment suggests that businesses remain cautious, investment plans are still not being committed to, and as such activity is likely to be subdued in the near term. However the longer term outlook is much more buoyant. In fact businesses expect to invest around $132 billion over 2011/12 – a record 30 per cent upgrade on the first estimate for 2010/11.
• Overall the results confirm the CommSec view that interest rates will lift in the second half of 2011 with the cash rate ending the year near 5.50 per cent. However it is likely that in the near term interest rates will remain on hold until there is confirmation that Corporate Australia will commit to the ramp up in future spending.

• The result is consistent with the Reserve Bank’s view that growth in the near term is likely to be subdued. No doubt the impact of the natural disasters will have a further detrimental impact on March quarter economic growth. Clearly the focus is the second half of the year and beyond. If the ramp up in investment plans does come to fruition, and given the rebuilding that will take place in flood damaged areas, further rate hikes will indeed be on the cards.
• There is a nice balance in the economy at present. Consumer spending is restrained while business spending is rising modestly. Inflation is under control, wage growth is benign. And according to the Reserve Bank, the job market is not overly tight at present. The Reserve Bank can stay on the interest rate sidelines for a few more months. It’s not nirvana but it is a Goldilocks scenario.
• Investment has been far from uniform, and in past quarters it has been the mining sector that has driven investment. However in the latest quarter investment spending has been largely dominated by the manufacturing sector – providing a degree of comfort given the sustained weakness in the sector.
• Over the coming year it is clear that Australia will be riding on the back of the mining sector. But the non-mining states are unlikely to feel the effects of the rise in incomes until the recovery is well and truly in full swing. No doubt as the recovery gains traction the mining states will be in the driver’s seat and continue to enjoy strong investment flows.
• It is important to highlight that while economic growth is expected to rebound in the second half of the year it is unlikely to be firing on all cylinders. Even the Reserve Bank believes that at present the labour market remains well supplied and that employment growth is likely to moderate to some degree. In fact the latest forecasts only have the unemployment rate dropping just half a per cent over the next two years. More importantly the lift in planned investment is encouraging for the economy as a whole, serving to boost productive capacity and therefore keep any potential inflationary pressures in check.
• According to the latest data average weekly earnings rose by almost 3.9 per cent over the year. Unfortunately this measure tends to be quite volatile and changes in the composition of the labour force – which was especially evident during the global financial crisis – can tend to skew the result. As such the best guide to wage pressures in the economy is the wage price index with the latest figures showing that wage growth is under control.
• The AWOTE data are also affected by compositional changes, such as the shift from full-time to part-time and movements across sectors. But the average weekly earnings data provides useful dollar estimates for wages.
• The latest data on wages highlights what the Reserve Bank has been stating for sometime – that the industrialisation of China and India will lead to major shifts in our economy. Wages in the mining sector are now more than double the earnings in food sectors like cafes and restaurants as well as across the retail sector. And the resources states of Western Australia, Northern Territory and Queensland are dominating in the pay stakes.
• The mining states have been major winners in the pay stakes over the past year, with Western Australia the undisputed leader. However coming up quickly is the Northern Territory. Wages in the ‘top end’ have been stunning, up 7.3 per cent over the past year – well ahead of its counterparts. The industrialisation of China, and in turn, India are paying dividends, and domestically the reallocation of resources in terms of labour to the mining states will only gain in traction over oming year.

What do the figures show?

• Business investment rose by 1.3 per cent after rising by 6.9 per cent in the December quarter. The September quarter result was revised up from the earlier-reported rise of 6.2 per cent. In annual terms investment was up 5.6 per cent on a year ago.
• Spending on buildings fell by 2.8 per cent in the quarter. Spending on equipment rose by 6.1 per cent after easing.

• Spending in the mining sector fell by 4.8 per cent in the December quarter, however investment rose by 7.0 per cent in the manufacturing sector and by 4.6 per cent in “other selected industries”.
• Investment fell in just one of the eight states and territories in the December quarter. The biggest increase was in ACT (up 56.7 per cent),  Northern Territory (up 31.8 per cent), South Australia (up 26.6 per cent), Tasmania (up 24.8 per cent), NSW (up 3.0 per cent), Queensland (up 2.7 per cent), and Victoria (up 2.0 per cent). Spending fell only in Western Australia (down 4.9 per cent).
• The overall deflator for investment goods fell by 0.5 per cent in the December quarter after rising by 0.7 per cent in the September quarter. The price of buildings and structures rose by 0.6 per cent in the quarter while the cost of equipment fell by 1.5 per cent.
• Over the year, the cost of investment goods fell by 1.0 per cent. The cost of buildings rose by 2.5 per cent over the year, while the cost of investment equipment fell by 4.8 per cent over the year.
• The fifth estimate of investment for 2010/11 was $128.9 billion, up 3.6 per cent on the fourth estimate and slightly above the usual (average) upgrade in the quarter of 2.2 per cent. Compared with a year earlier, the fifth estimate of investment was up 16.2 per cent on a year ago.
• The first estimate of investment for 2011/12 was $132.7 billion, up 30.3 per cent on a year ago.

Average weekly earnings

• Average weekly earnings rose by 1.1 per cent in the three months to November after a small 0.6 per cent lift in the previous three months. Wages rose by 3.9 per cent over the year – in line with yesterday’s wage cost index.
• Private sector wages rose 1.3 per cent in the quarter and by just 3.5 per cent over the year. Public sector wages rose by 0.8 per cent in the quarter and by 5.1 per cent over the year. Male wages rose 1.3 per cent in the quarter and by 3.8 per cent over the year. Female wages rose by 1.1 per cent in the quarter and by 4.5 per cent over the year.
• Wages rose most over the year in Transport postal and warehousing (up 10.3 per cent), Electricity, gas, water & waste services (up 9.1 per cent), Financial & insurance services (up 8.8 per cent). Wages were weakest over the past year in Rental Hiring and Real Estate Services (down 2.6 per cent), followed by Administrative and support services (up 1.3 per cent), and Retail trade (up 1.4 per cent).
• Across states & territories, we have calculated average annual wages as follows: NSW $66,565 (up 2.7 per cent over the year), Victoria $64,620 (up 4.5 per cent), Queensland $65,619 (up 4.1 per cent), South Australia $60,414 (up 4.0 per cent), Western Australia $73,148 (up 5.4 per cent), Tasmania $57,808 (up 5.5 per cent), Northern Territory $65,900 (up 7.3 per cent) and ACT $76,367 (up 4.3 per cent).
• The highest average wage can still be found in the mining sector, at $107,510 per year. Next highest is scientific & technical services ($79,612), finance & insurance services ($78,933), and information media & telecommunications ($77,110). The lowest average wage is obtained by workers in the accommodation and food services sector ($47,518), followed by retail trade ($48,422) and “other services” ($53,352).

What is the importance of the economic data?

Private New Capital Expenditure and Expected Expenditure is released quarterly by the Bureau of Statistics. The figures show actual and expected spending by businesses on tangible assets such as new buildings, machinery and office equipment. The figures are obtained after sampling 8,000 private business units.

The data on actual spending is broken-down at a state and industry level and estimates are represented in nominal and price-adjusted (volume) terms. The data on expected spending contains a mix of short and longerterm estimates. The short-term estimates may focus on periods just three months ahead while the longer-term estimates may look as far as 18 months into the future.

What are the implications for interest rates and investors?

• Interest rates will continue to rise as the recovery gains traction. However business and consumers will need a few months to adjust to the current economic conditions. Spending and activity needs to be firmly entrenched before interest rates are raised once again.

– Show quoted text –

• The general sense is that the profit-reporting season has so far proved very mixed. And the numbers back it up. Figures produced from Bloomberg show that there have been 19 positive EPS (earnings per share) surprises from the 61 ASX 200 companies that have reported so far with 25 negative surprises.
• CommSec has assessed the results of the 61 companies from the ASX 200 that have so far reported halfyear (HY) results and 10 companies that reported for the full year (FY) to December.
• Of the companies reporting half-year results, aggregate profits are up 41.4 per cent on a year ago with sales up 13.6 per cent, outpacing a 10.6 per cent lift in expenses. Of the small number of companies
  reporting profits for the 12 months to December, earnings are up 86.1 per cent on a year ago.

What do the figures show and what does it all mean?

• So far, the earnings season is almost a carbon copy of the last one. It has left analysts wanting more but the figures still show that Corporate Australia is in great shape.
• Focussing on the companies that have reported earnings for the six months to December, aggregate earnings are up a very healthy 41.4 per cent on a year ago. Sales have lifted almost 14 per cent, outpacing a near 11 per cent increase in cost of sales or expenses. Cash levels are up almost 51 per cent to $50 billion while earnings per share, on average, have risen by 17 per cent. And only 18 per cent of companies have reported lower earnings than a year ago.
• The other encouraging news for investors is that most companies have either increased or maintained dividends with only 16 per cent of companies reducing dividends compared with a year ago.
• So overall, there are good reasons to conclude that Corporate Australia is in solid shape. But figures from Bloomberg indicate that only 31 per cent of the ASX 200 companies that have reported results so far have beaten market expectations on EPS (that is, yielded positive “surprises”) with 41 percent of results under-shooting expectations (negative surprises) and 28 per cent of companies reporting earnings in line with expectations.
• Both basic materials and financials have been evenly divided with positive and negative surprises. Most disappointments have occurred in consumer goods, industrials and telecommunications with most positive surprises in the health care sector.
• The other concern for investors has been the generally cautious or downbeat profit outlook statements from listed companies. Clearly consumer-facing companies have expressed the greatest uncertainty about the next six months but even resources companies are worried about the potential for a hard landing in China as well as the ability to secure labour and resources to maintain production and progress with new projects.

Outlook:

• At the last profit-reporting season in late August 2010, we expressed caution about the year ahead. At that time we felt that the coming year would be more of the same – the economy getting back to “normal” growth with “normal” interest rates and “normal” profit growth. Clearly this is hardly the type of conditions that would prompt investors to take big bets on Australia. In August last year we forecast that the ASX 200/All Ordinaries would reach 5,400 by the end of 2011. We haven’t changed that call. Stocks are by no means cheap with the 16.07 historic price-earnings ratio above the long-term average of 15.5.

The nice surprises are going to come from the mining companies in line with higher commodity prices while the nasty surprises will most likely come from the retail sector. Companies leveraged to the US recovery such as News Corp and Westfield will be ones to keep an eye on as they should show continued bottom line improvements, according to CMC Markets’ Market Analyst Ben Le Brun.

His predictions and tips are summarized below:

Increased dividends for miners as emerging markets drive commodity prices

• Emerging markets and improved global economic conditions should continue driving commodities prices, leading to plenty of upside for mining companies. Fears continue about the impact of tighter monetary policy in China, but remember any tightening makes their growth more sustainable.
• Excitement is building around BHP and Rio Tinto as share buy backs and increased dividends look more likely. Investors love increased dividends and if this takes shape I expect further upside in both stocks.

Watch retailers for real revenue growth

• Danger looms for a few retailers and some have already issued profit warnings eg Woolworths. It is a case of whether fund managers have been pessimistic enough on stocks that have been sold down lately. Softer consumer spending is an ongoing issue, coupled with weaker than expected Christmas sales.
• Look at a company like JB Hi Fi. Although their earnings were average, the stock price rallied after their figures were announced, as it appeared analysts had over shot the mark in terms of pessimism.
• Look for revenue verses earnings per share when dissecting results as you need to be wary of improved operations through cost saving – it does nothing to increase sales, which is what the market really wants to see.
• It will be just as important to analyse futures earnings guidance and current market conditions as well as the headline figures – consumer spending in Australia is expected to remain soft.

Don’t forget flood damage

• Most of the damage from the QLD floods has been documented now and it is time for some companies to confess how badly it has hurt their bottom lines. Theoretically this should have already been priced in, although we will see whether it actually has. All eyes will be on companies such as Suncorp, whose results will put a tangible number on how the floods have actually impacted companies bottom lines.

Key points

• Australian shares have disappointingly underperformed traditional global shares over the last year on the back of monetary tightening, worries about a housing bubble, the strong $A and Chinese tightening.
• Many of these concerns should be largely factored in & we see better returns this year, but some linger so it is too early to say the relative underperformance is over.
• However, on a five year basis, the combination of higher dividends, better growth prospects, less structural constraints and franking credits for Australian based investors suggest investors should maintain a bias towards Australian shares.

Introduction

At the end of 2009 there was much optimism Australian shares would continue to outperform their counterparts in other developed countries. In particular Australia had come through the Global Financial Crisis in good shape without the structural constraints facing many other developed countries, the Australian economic outlook looked good and Australia was well keyed into high growth Asia.

However Australian shares have disappointed over the last year: returning just 1.6% in 2010 whereas global shares returned 10.4% in local currency terms. Global shares have reached new recovery highs whereas Australian shares are still below April high.

So what happened? What drove the underperformance? Is it just a short term setback in Australian shares or does it signal something more fundamental?

This note focuses on Australian shares relative to traditional global equity markets, as opposed to Asian and emerging markets where we generally expect underperformance by Australian shares.

Australia’s relative underperformance

Australia’s relative underperformance over the last year appears to reflect several factors:

• Rising interest rates at a time when interest rates were at or near zero in other developed countries and, in some instances, monetary conditions were still being eased. This led to concerns about the outlook for domestic cyclical sectors, notably retailing and housing, and bank credit growth. It also made bank term deposits look attractive compared to shares (unlike in the US where yields on term deposits are poor).
• There has also been concern internationally that Australian housing is in a bubble that is about to burst, with bad consequences for Australian banks.
• The strong Australian dollar has weighed on internationally exposed companies that don’t have a hedge in the form of high commodity prices.
• Concerns Chinese authorities will over tighten and crash the Chinese economy in an effort to beat inflation have also weighed on the Australian share market, given the degree to which many global investors now see Australia as being connected to China.
• These concerns have all been reinforced by earnings downgrades in Australia whereas earnings expectations have been upgraded globally – see next chart.

Source: Thomson Financial, AMP Capital Investors

This has all seen the price to forward earnings ratio for Australian shares fall from 15.3 times at the end of 2009 to 12.7 now, whereas that for global shares has fallen by a smaller amount (ie, from 14.1 times to 12.5 now).

In an absolute sense we see Australian shares rising this year as the global recovery continues. The PE contraction has left Australian shares reasonably attractive, profit growth locally should be solid and Australian companies have scope to re-leverage, reflecting high cash levels and low gearing – see the next chart.

Source: Reserve Bank of Australia, AMP Capital Investors

However, it is too early to say that the relative underperformance of Australian shares has run its course. Concerns about an imminent collapse in Australian house prices resulting in massive damage to Australian banks are overdone. The threat to domestic growth from the strong Australian dollar and rising interest rates should be largely factored in and in any case recent benign inflation data and the disruptive effects from the floods suggest that the RBA will be on hold out to mid year. However, concerns about Chinese, and, more generally Asian tightening may linger for a while yet. So, on balance, we see global and Australian shares having similar returns this year.

A longer term perspective

It is worth noting that despite Australian shares lacking the breadth and diversification of global shares, over the last 110 years Australian shares have had better real returns than most global share markets (Swedish shares being the exception). See the next chart.

Source: Global Financial Data, AMP Capital Investors

However, within this long run outperformance there have been lengthy periods of relative underperformance (such as in the 1970s due to relatively poor economic management in Australia) and the 1990s (the global tech boom) but also on a short term basis (say in 2003 in the first year of recovery from the tech wreck).

Source: Thomson Financial, AMP Capital Investors

While it’s too early to say the relative underperformance of the last year is over, there are several reasons to believe the longer term period of outperformance in Australian shares that started in 2000 will continue:

Firstly, Australian shares still pay higher dividend yields than mainstream global shares. The average dividend yield on Australian shares is 4% versus 2.6% for global shares. This is important because over long periods dividend payments constitute a significant component of the return an investor gets and so the higher the dividend yield the better (assuming it is not debt financed). Moreover, high dividend yields augur well for future returns, as they signal corporate confidence about future earnings and excessive retained earnings are often wasted.

Secondly, the Australian economy offers higher growth potential than the US, Europe and Japan. Australia has stronger population growth which is feeding through into much stronger labour force growth. Australian households have not seen the same deterioration in their net wealth as has occurred elsewhere, public sector debt is very low and Australia is heavily exposed to high growth Asia and strength in commodity prices. All of these considerations are likely to translate into higher growth in earnings for Australian companies over the medium term compared to earnings growth in traditional global share markets.

Reflecting the last two points, return projections (see below) based on current dividend yields and likely earnings growth tend to favour Australian shares. Over the medium term (say, five years), a good starting point to project likely returns is to add current dividend yields to likely long term nominal GDP growth as a proxy for earnings growth and hence capital gains from shares.

Australian shares with a five year pre tax return projection of 9.5% pa come out well ahead of traditional global shares with a return projection of 6.9%.

Finally, franking credits add over 1% to the post tax return from Australian shares for Australian investors. The higher dividend yield from Australian shares and franking credits mean Australian shares have a 2.9% pa return advantage over traditional global shares for Australian based investors.

Concluding comments

Australian shares have underperformed traditional global shares over the last year on the back of monetary tightening, worries about a housing bubble, the strong $A and Chinese tightening. While many of these should be largely factored in and we see better returns this year, some still linger (notably Chinese/Asian tightening) so it is too early to say that the period of relative underperformance is over.

However, on a strategic, or five year basis, the combination of higher dividends, better growth prospects, less structural constraints and franking credits for Australian based investors suggest investors should maintain a bias towards Australian shares over traditional global shares, although maybe not as big a bias as was warranted a decade ago.

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Key points

• Australian shares have disappointingly underperformed traditional global shares over the last year on the back of monetary tightening, worries about a housing bubble, the strong $A and Chinese tightening.
• Many of these concerns should be largely factored in & we see better returns this year, but some linger so it is too early to say the relative underperformance is over.
• However, on a five year basis, the combination of higher dividends, better growth prospects, less structural constraints and franking credits for Australian based investors suggest investors should maintain a bias towards Australian shares.

Introduction

At the end of 2009 there was much optimism Australian shares would continue to outperform their counterparts in other developed countries. In particular Australia had come through the Global Financial Crisis in good shape without the structural constraints facing many other developed countries, the Australian economic outlook looked good and Australia was well keyed into high growth Asia.

However Australian shares have disappointed over the last year: returning just 1.6% in 2010 whereas global shares returned 10.4% in local currency terms. Global shares have reached new recovery highs whereas Australian shares are still below April high.

So what happened? What drove the underperformance? Is it just a short term setback in Australian shares or does it signal something more fundamental?

This note focuses on Australian shares relative to traditional global equity markets, as opposed to Asian and emerging markets where we generally expect underperformance by Australian shares.

Australia’s relative underperformance

Australia’s relative underperformance over the last year appears to reflect several factors:

• Rising interest rates at a time when interest rates were at or near zero in other developed countries and, in some instances, monetary conditions were still being eased. This led to concerns about the outlook for domestic cyclical sectors, notably retailing and housing, and bank credit growth. It also made bank term deposits look attractive compared to shares (unlike in the US where yields on term deposits are poor).
• There has also been concern internationally that Australian housing is in a bubble that is about to burst, with bad consequences for Australian banks.
• The strong Australian dollar has weighed on internationally exposed companies that don’t have a hedge in the form of high commodity prices.
• Concerns Chinese authorities will over tighten and crash the Chinese economy in an effort to beat inflation have also weighed on the Australian share market, given the degree to which many global investors now see Australia as being connected to China.
• These concerns have all been reinforced by earnings downgrades in Australia whereas earnings expectations have been upgraded globally – see next chart.

Source: Thomson Financial, AMP Capital Investors

This has all seen the price to forward earnings ratio for Australian shares fall from 15.3 times at the end of 2009 to 12.7 now, whereas that for global shares has fallen by a smaller amount (ie, from 14.1 times to 12.5 now).

In an absolute sense we see Australian shares rising this year as the global recovery continues. The PE contraction has left Australian shares reasonably attractive, profit growth locally should be solid and Australian companies have scope to re-leverage, reflecting high cash levels and low gearing – see the next chart.

Source: Reserve Bank of Australia, AMP Capital Investors

However, it is too early to say that the relative underperformance of Australian shares has run its course. Concerns about an imminent collapse in Australian house prices resulting in massive damage to Australian banks are overdone. The threat to domestic growth from the strong Australian dollar and rising interest rates should be largely factored in and in any case recent benign inflation data and the disruptive effects from the floods suggest that the RBA will be on hold out to mid year. However, concerns about Chinese, and, more generally Asian tightening may linger for a while yet. So, on balance, we see global and Australian shares having similar returns this year.

A longer term perspective

It is worth noting that despite Australian shares lacking the breadth and diversification of global shares, over the last 110 years Australian shares have had better real returns than most global share markets (Swedish shares being the exception). See the next chart.

Source: Global Financial Data, AMP Capital Investors

However, within this long run outperformance there have been lengthy periods of relative underperformance (such as in the 1970s due to relatively poor economic management in Australia) and the 1990s (the global tech boom) but also on a short term basis (say in 2003 in the first year of recovery from the tech wreck).

Source: Thomson Financial, AMP Capital Investors

While it’s too early to say the relative underperformance of the last year is over, there are several reasons to believe the longer term period of outperformance in Australian shares that started in 2000 will continue:

Firstly, Australian shares still pay higher dividend yields than mainstream global shares. The average dividend yield on Australian shares is 4% versus 2.6% for global shares. This is important because over long periods dividend payments constitute a significant component of the return an investor gets and so the higher the dividend yield the better (assuming it is not debt financed). Moreover, high dividend yields augur well for future returns, as they signal corporate confidence about future earnings and excessive retained earnings are often wasted.

Secondly, the Australian economy offers higher growth potential than the US, Europe and Japan. Australia has stronger population growth which is feeding through into much stronger labour force growth. Australian households have not seen the same deterioration in their net wealth as has occurred elsewhere, public sector debt is very low and Australia is heavily exposed to high growth Asia and strength in commodity prices. All of these considerations are likely to translate into higher growth in earnings for Australian companies over the medium term compared to earnings growth in traditional global share markets.

Reflecting the last two points, return projections (see below) based on current dividend yields and likely earnings growth tend to favour Australian shares. Over the medium term (say, five years), a good starting point to project likely returns is to add current dividend yields to likely long term nominal GDP growth as a proxy for earnings growth and hence capital gains from shares.

Australian shares with a five year pre tax return projection of 9.5% pa come out well ahead of traditional global shares with a return projection of 6.9%.

Finally, franking credits add over 1% to the post tax return from Australian shares for Australian investors. The higher dividend yield from Australian shares and franking credits mean Australian shares have a 2.9% pa return advantage over traditional global shares for Australian based investors.

Concluding comments

Australian shares have underperformed traditional global shares over the last year on the back of monetary tightening, worries about a housing bubble, the strong $A and Chinese tightening. While many of these should be largely factored in and we see better returns this year, some still linger (notably Chinese/Asian tightening) so it is too early to say that the period of relative underperformance is over.

However, on a strategic, or five year basis, the combination of higher dividends, better growth prospects, less structural constraints and franking credits for Australian based investors suggest investors should maintain a bias towards Australian shares over traditional global shares, although maybe not as big a bias as was warranted a decade ago.

The post Why are Australian shares lagging? Will it continue? appeared first on AdviserVoice.

• Average weekly earnings rose by 0.4 per cent in the three months to August with private sector earnings up just 0.2 per cent and public sector wages up 1.5 per cent. Wages rose by 4.5 per cent over the year.
• Over the year male wages rose by 4.3 per cent while female wages rose by 5.0 per cent. The average wage stands at $65,457. The highest average wage can still be found in the mining sector, at $107,510 per year.
• Wages in the ACT ($75,936) remains well ahead of the other states and territories due its large public sector. However the clear surprise in wage growth has been the Northern Territory ($64,745), which has
  now elevated itself ahead Queensland ($64,407) and Victoria ($63,809) in the pay stakes.
• The ABARE Mineral and energy major projects publication has confirmed that the mining sector is once again ramping up investment. In the six month to October, 72 projects were at an advanced stage of
  development, totalling a record capital expenditure of $132.9 billion.

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What we are seeing at the moment are two very strong trends that are having opposing impacts on markets.  Low interest rates, low valuations and a lack of alternatives (as neither bonds nor property are seen as prospective) are key supports for equities and are helping to fuel brief periods of exuberance. However, the persistence of weak economic growth, fiscal deficits and high unemployment, are all contributing to subsequent despair and apathy which saps any market rally.

The result of such opposing forces is some unexpected outcomes.  Uniquely in a volatile market with a decidedly uncertain and negative bias, a number of small speculative companies are performing very strongly. Many small caps are at 52-week highs while quality blue chips languish at multi-year low valuations. Speculation in small caps is symptomatic of a low interest rate environment whilst at the same time investor disillusionment is keeping investors away from the big end of town. This market behaviour provides very little predictive value.

In addition to macro-economic uncertainty there have recently been attention-grabbing statements and sound bites from market commentators that seek to add insight but rather disclose a weakness of analysis.  Such statements only add to the confusion level for investors.  For example, following a 10 year period of flat equity markets, it is now often said that “buy and hold” is dead.

Bold, game-changing statements such as these are common after periods of above or below trend outcomes. Recall the tech boom of 1999-2000 and how investors scoffed at valuations and earnings. “Earnings don’t matter” they cried as they rushed to embrace the dotcom economy at all costs. That strength of conviction is back in force but this time in reverse. These days it’s “P/Es don’t matter” as the marginal buyer seems not to care about the long term given so much uncertainty.

Adopting this assumption fails to grasp the components of investment returns or, more specifically, that a share price is a function of valuation and earnings. Suggesting that stock prices will not rise over time is an explicit statement that earnings will stagnate or valuations will drift lower. But historical evidence is firmly against this assumption.

Over the past 10 years the average earnings growth of S&P 500 constituents was 3% per annum despite two severe recessions. It is prudent to assume that at least a similar rate of growth can be maintained over the next 10 years. With the addition of dividends, returns of 6-7% per annum are achievable in the medium term with no change in valuation.

On the valuation side, company earnings are currently valued very cheaply at around 12 times earnings. The reason share prices went nowhere over the past 10 years was exclusively due to valuations contracting from about 25 times earnings to close to 12 times today. The long term valuation range is between 10-25 times earnings with only brief periods above and below this range. Given corporate balance sheets are in great shape and investor sentiment is so poor, the risk to valuation is arguably to the upside. In this environment, rising valuations can easily lead to double digit returns even assuming weak earnings growth.

For these reasons, at Wingate we believe the bull case for equities has significant fundamental underpinnings. The negativity bubble engulfing investors has delivered this opportunity but investors need to get away from the immediate noise in the market and maintain their focus on fundamentals.

In addition, the strength of the Australian dollar, which for many reasons will likely revert lower over time, provides local investors an exceptionally strong currency. Using the strong currency to purchase international equities provides an additional investment benefit that is unavailable on domestic stocks.