Labour market conditions had remained subdued: RBA Board

The September RBA Board Minutes look a little dated. The RBA Board meeting preceded the recent data batch which showed that the Australian economy is travelling along better than what the RBA has assumed in its growth forecasts. And the recent slide in the AUD, if maintained, means that the RBA is likely to upgrade its growth and inflation forecasts.

The Minutes are “neutral” in their outlook for monetary policy, as they have been this year. But concerns change over time. One way to assess the evolution in the Board’s thinking on considerations for policy is to look at what has changed in the narrative from the previous month’s minutes.  And on that score, the Bank has some growing concerns around house price growth. The Minutes note that, “policy also needed to be cognisant of the risks to future growth that could accompany a large further build‑up in asset prices, particularly if that was associated with an increase in leverage.”  Indeed, a decent chunk of the Minutes are attempts to jawbone the housing market.

Stevens just recently stressed that the RBA has done as much as they can in creating a backdrop that should support economic growth¹.  Stevens all but ruled out any further rate cuts by stating that “further inflating an already elevated level of house prices seems an unwise route (to reduce unemployment)”.  House price data for August showed that prices surged again in Sydney and Melbourne over the month. And the most recent loan data showed that investor loans are around their highest share on record of total loans.

On the labour market, the Board stated that “labour market conditions had remained subdued” and that “forecasts of a period of below‑trend growth in economic activity meant that it would be some time before the unemployment rate declined consistently”. The most recent jobs figures (published after the September meeting) recorded a huge 121k spike in employment and a large 0.3ppt fall in the unemployment rate to 6.1%.  Cutting through the monthly noise shows that trend employment growth is running at 20k on a three‑month basis. Employment growth around this level is in line with a flat unemployment rate. And coupled with the positive leading indicators suggests that the RBA is, in our view, being overly pessimistic in its assessment of the jobs market. The risk is that the unemployment rate starts to decline ahead of the RBA’s expectations.

There was very little from the Bank on inflation given the SMP was published last month just after the QII CPI.  Nonetheless, we note that the softer AUD, if sustained, is likely to mean that inflation runs ahead of RBA forecasts (the latest RBA forecasts used an AUD worth 93 US cents).

The good economic data reads since the last RBA meeting, coupled with the slide in the AUD, has seen market pricing for a further rate cut wane substantially. We have been arguing for some time that market pricing was overstating downside risks to the growth and inflation outlooks. Our base case has the RBA on hold until Q1 2015 where we have pencilled in a rate hike.

———-

¹“The Economic Scene” – Glenn Stevens address to a CEDA Luncheon, Adelaide 3 September 2014

The post RBA Board Minutes – September 2014 appeared first on AdviserVoice.

• Share markets rose on mostly good economic data, continued solid earnings results in the US and an absence of additional bad news regarding either Ukraine or the Middle East. This saw Australian shares rise to their highest since June 2008. Bond yields rose but only slightly. Oil and metal prices rose too, but gold fell. The Australian dollar got a boost as Australian June quarter inflation data showing inflation at the top of the RBA’s target range was seen as curtailing the chance of another rate cut.
• The July round of business conditions PMIs provided confidence that the global recovery is on track with the US manufacturing PMI remaining strong at 56.3, the Eurozone composite PMI rising to its equal highest reading for the recovery and China’s HSBC PMI rising to 52 its highest in 18 months. Japan’s manufacturing PMI disappointed though falling back to 50.8. The overall, impression is of continued solid global growth, but not so strong as to invite generalised inflation worries or rate hikes.
• The Chinese share market was perhaps the most interesting over the last week with the continuing run of good economic news resulting in a technical break higher. We have seen a few false breaks in Chinese shares before so it’s premature to get too excited, but with China A shares amongst the world’s cheapest and economic indicators looking better, we continue to see significant medium term return potential from Chinese shares.
• Victory for business friendly Joko Widodo in the Indonesian election is a great outcome for Indonesia, but he lacks the winning margin Modi attained in India and a challenge to the results by the defeated candidate former General Subianto Prabowo, will pro-long political uncertainty. So the outcome does not warrant the sort of re-rating of the Indonesian share market that Indian shares have seen. At least not yet.
• RBA Governor Glenn Stevens provided a reminder of just how important the global policy response to the GFC was in heading off a re-run of the Great Depression. Thankfully policy makers had learned the lessons of the 1930s well and weren’t to be distracted by the disciples of Austrian economics who advocated a do nothing approach. Steven’s also rightly points out that the search for yield and risk taking is “the whole point” to quantitative easing. While this has yet to flow on to risk taking by US businesses, ie investment, with Governor Stevens suggesting this owes much to subdued confidence, I think there are enough indicators to provide confidence it will. This includes the rising trend in US durable goods orders and its strengthening jobs market.
• Comments that Australian home owners with a mortgage will struggle if mortgage rates rise are a bit overblown. We heard similar warnings at the bottom of the last rate cycle in 2009 but didn’t see major problems through the 2009-10 tightening cycle. There are several reasons to expect the same when rates eventually start moving up again. First, just as Australians have sped up principle repayments as rates have come down they will likely slow them as rates go up. In fact debt interest payments are at a ten year low. Second, the household debt to income ratio has been basically flat since the GFC so it’s not the case that Australians have been rapidly taking on more debt. Third, interest rates won’t rise unless household income is also on the rise and this will provide some offset to higher interest rates. Finally, I agree that the rise in household debt ratios over the last twenty years has left households a lot more sensitive to higher interest rates. But this is not new and it explains why the peak in the cycle for interest rates has been trending down. The RBA is well aware of the issue and knows that it doesn’t need to raise rates as much as in times past to have the same impact. So just as the 2010 cash rate peak of 4.75% was below the 2008 peak of 7.25%, the next peak will likely be lower again. Maybe around 4%. At this stage it’s still a bit academic though as the first rate hike is still a way off. But for those home buyers looking for another opportunity to lock in low mortgage rates, the cut in five year fixed rate mortgages to below 5% by major banks on the back of reduced borrowing costs and competitive pressure is good news.

Major global economic events and implications

• US data was mostly good. New home sales disappointed but existing home sales rose solidly, house prices continue to rise, the Markit manufacturing PMI remains strong, jobless claims fell to their lowest since early 2006 and core inflation remained benign at 1.9%. The US economy is on the mend, but the benign inflation result gives the Fed breathing space on interest rates.
• Meanwhile, June quarter earnings remain solid. So far 45% of S&P 500 companies have reported with 77% beating on profits and 66% beating on sales.
• Eurozone July PMIs rose and beat expectations. Services conditions were particularly strong and pushed the composite PMI to its equal strongest for the recovery so far, a level consistent with 1.5% annual growth.
• The slight fall in Japan’s July PMI was disappointing. Meanwhile inflation data remains positive, even allowing for the impact of the sales tax hike.
• The further rise in China’s HSBC manufacturing conditions PMI in July backs up the rise already reported in MNI’s business confidence indicator in telling us that growth has continued to improve. No hard landing here!

Australian economic events and implications

• In Australia, the news that inflation has risen to 3% caused some consternation that there might be a rate hike around the corner. But while inflation at the top of the target range makes it harder for the RBA to cut interest rates again – not that they wanted to anyway – it doesn’t point to a rate hike. First, the rise in the annual rate of inflation reflected strong inflation during the second half of last year, but it has since slowed. Second, outside of housing costs, much of the rise in inflation owes to government decisions. Higher interest rates won’t stop this. Third, inflation is set to fall with the removal of the carbon tax and continuing very low wages growth. Fourth, underlying inflation at 2.8% is basically in line with the RBA’s forecast of 2.75%. And finally, a rate hike will only push the $A even higher. So rates are likely to remain on hold.
• Meanwhile, there was good news on the economy with the weekly Roy Morgan consumer confidence survey rising to pre-Budget levels and a rise in skilled vacancies in June. The former suggests the hit to confidence from the Budget has faded and the latter adds to evidence that forward looking labour market indicators are improving.

What to watch over the next week?

• In the US, the focus will be on the Fed (Wednesday) which is expected to taper its monthly asset purchases by another $US10bn taking them to $US25bn a month, consistent with continued solid economic data. However, most interest will likely be on the tone of the Fed’s post meeting statement which is likely to acknowledge the improvement in the economy but leave the impression the first rate hike is still some time away. My best guess for the first rate hike remains mid next year, but this doesn’t mean financial markets won’t start to worry about it earlier. On the data front, expect a further gain in June pending home sales (Monday), another increase in house prices (Tuesday), little change in consumer confidence (also Tuesday), June quarter GDP data (Wednesday) to show growth bouncing back but only to a 2.9% annualised pace, the July ISM (Friday) remaining solid at around 55.5 and July jobs data (Friday) showing a 225,000 gain in payrolls but unemployment unchanged at 6.1%.
• Eurozone economic confidence measures for July (Wednesday) are likely to remain consistent with continued gradual recovery and inflation (Thursday) is likely to have remained very low.
• In Japan, June data for household spending (Tuesday) and industrial production (Wednesday) will be watched for signs of recovery after the April sales tax induced slump. Jobs data is likely to have remained solid.
• In China, expect to see a further improvement in the official Chinese manufacturing PMI (Friday) for July.
• In Australia, expect to see flat building approvals after a strong rise in May and modest growth in credit (both Thursday). June quarter export prices (Thursday) will likely show a sharp fall reflecting the slump in the iron ore price. Data for new home sales, house prices, the manufacturing PMI and producer prices will also be released.

Outlook for markets

• Shares remain vulnerable to a short term correction, with a potential Fed rates scare at some point being the most likely trigger, but we continue to see little evidence suggesting we are at or near a major market top. Valuations remain reasonable, particularly if low interest rates are allowed for, global earnings are continuing to improve on the back of gradually improving economic growth, monetary conditions are set to remain easy for some time and there is no sign of the euphoria that comes with major share market tops. In terms of the latter if anything there is still a lot of scepticism which is a long way from the sort of confidence that is normally seen when bull markets end. Given all this, any short term dip in shares should be seen as a buying opportunity as the broad trend is likely to remain up. Our year-end target for the ASX 200 remains 5800.
• Bond yields are likely to resume their gradual rising trend over the next six months led by increasing evidence that US growth is picking up pace. This combined with low yields is likely to mean pretty soft returns from government bonds. Cash and bank deposits continue to offer poor returns.
• While the carry trade from ultra-easy money in the US, Europe and Japan risks pushing the $A higher, the combination of soft commodity prices, an increasing likelihood that the Fed will start raising interest rates ahead of the RBA and relatively high costs in Australia are expected to see the broad trend in the $A remain down.

By Dr Shane Oliver, Head of Investment Strategy & Chief Economist

———

Important note: While every care has been taken in the preparation of this document, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) and AMP Capital Funds Management Limited (ABN 15 159 557 721, AFSL 426455) make no representations or warranties as to the accuracy or completeness of any statement in it including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This document has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this document, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This document is solely for the use of the party to whom it is provided.

The post Weekly market & economic update – week ending July 25, 2014 appeared first on AdviserVoice.

CANSTAR issue advice to shop around ahead of RBA rates review.

Commenting ahead of the RBA announcement, Mitchell Watson, Research Manager for CANSTAR said:

“Last week Reserve Bank Governor Glenn Stevens gave a speech in which he called the end to the investment growth phase of the mining boom. He stated that there is no natural successor to that growth at the moment and monetary policy may need to encourage non-mining investment. He also stated that the current inflation outlook provides scope to ease further. Markets do seem to have interpreted those comments as a likely call to action this month.

It is interesting to note, though, that over the past twenty years interest rates have been lowered during only one election campaign period; in 2001 when rates were lowered by 0.25% two months in succession. In other words, only one of the past seven election campaigns has seen an RBA movement downwards on rates.

The recent fall in the value of the Australian dollar against the greenback has taken some pressure off the RBA, however Glenn Stevens did note last week that we need to raise business confidence and raise household confidence from their current levels in order to find that mining boom successor.

Irrespective of the RBA decision, consumers should still question whether they are getting the best deal available for their borrowing needs. On our database for example, the average standard variable rate is currently 5.71%, but the lowest variable rate on our database currently is 4.74%. Now, a mortgage holder with a $300,000 mortgage over 25 years who did their own research and switched from an average rate to the lowest rate could potentially save themselves more than $170 per month and more than $50,000 over the life of their loan.

So the message for all borrowers is to know your rate, the features and benefits of your loan and shop around.”

The post CANSTAR issues rate movements and commentary ahead of Tuesday’s RBA announcement appeared first on AdviserVoice.

• The Reserve Bank Governor has delivered testimony to the House of Representatives Economics Committee.
• The Governor says that the economy is growing close to trend or average; Inflation is low and unemployment is relatively low; and the global economy is expected to growth at a trend pace. In short, nirvana has been achieved.
• In terms of the Aussie dollar, the Governor noted that “it was a bit on the high side but not dramatically so.” The Governor said the Reserve Bank hadn’t intervened to support a certain level of the currency.

What does it all mean?

• If the Reserve Bank Governor wanted to let us in on a secret, today would have been the day to do it. He didn’t. There were no fresh insights, and no new concerns. Even in terms of the Aussie dollar, the Governor indicated that it was high, but not dramatically so. In an economic sense, some would suggest that it was all a bit boring.
• But it is a good form of boring; a form of boring that can assure businesses and consumers. In fact the Governor believes our economy is as good now as it has ever been. That view is certainly not new as the Governor has been trying to get the community to see the glass as “half full” rather than “half empty”.
• That doesn’t mean that there are no risks ahead – there always are. But the Reserve Bank Governor believes we are in a happy place.
• The bottom line is that interest rates won’t be changing any time soon. That is, provided that there are no fresh shocks in Europe.

Key aspects of the testimony

• The messages were the same. European leaders have a lot of challenges in front of them. In the US, growth is OK, but not great. In China, more sustainable economic growth is occurring.
• The world economy is OK. “The kind of growth envisaged for the world as a whole is close to its long-run average.”
• Europe has a lot of work to do. “Realistically, it will be quite some time before the Europeans will be able to say these problems have been put behind them, even if things go well.”
• In Australia, the economy is in good shape. “Looking back, then, the economy appears to have been recording reasonable overall growth, relatively low unemployment, and low inflation.”
• Looking ahead, the economy is expected to remain in good shape, although the composition of growth may change. “Overall, growth is forecast still to be close to trend, albeit with a different composition from that seen in the past year or two, and inflation consistent with the target.”
• The Governor sees a peaking of the construction phase of the mining boom, with production taking the reins thereafter. And then there may be a shift from mining to domestic building as a growth driver. “Looking ahead, the peak of the resource investment boom as share of GDP – the highest such peak in at least a century – will occur within the next year or two. After that the rate of resource investment is likely to decline, while the export shipments of the resources themselves will pick up. By then we might expect that some other sectors that have been weak of late, like residential and non-residential construction, might be starting to pick up.”
• Interest rates? The Governor is waiting to see what happens as a result of recent rate cuts. “It is too early to tell how much difference the sequence of decisions to lower interest rates late last year and in the middle of this year has made to the economy, though we can observe that dwelling prices may have stopped their earlier gentle decline, and business credit has been growing at its fastest pace for three years.”
• Questions & answers. Glenn Stevens said we (collectively Australians) needed to “get real” about home prices, and we have. That is, we had to realise that home prices don’t always go up, and go up significantly. He said we came to that realisation a few years ago.
• Stevens again rejected suggestions that bank profits were too high or that there wasn’t enough competition. Competition for deposits was strong. And return on equity for the banking sector was similar to other listed companies.
• Stevens said that he had not changed his mind on the mining boom. He had always expected the construction phase to end around 2013-2014 and that appears on track. He said that we have come through the boom without a jump in inflation and he believes that we will come through it without a slump in the economy at the end.
• Stevens also said that the RBA had not seen anything that would cause it to materially change its view on the pipeline of resource projects.
• Stevens rejected suggestions that there was currently a greater variation in economic performance across regions than in the past. He said that the economy had always been a “patchwork” and was surprised that variability in economic performance wasn’t actually bigger.
• Stevens was asked about the Aussie dollar. He said that “it was a bit on the high side but not dramatically so.” He also noted that “it is probably at present trading a bit above what I thought it would be on the basis of past relationships…”
• Assistant Governor Lowe described the new co-operation between central banks and governments in Europe as a “dance” and noted that they were “gradually moving in the right direction.” Inflation wasn’t a problem in Europe as banks were content to leave money with central banks at present rather than lend it out.

What is the importance of the economic data?

• The Reserve Bank Governor testifies to the House of Representatives Economics Committee twice a year.

What are the implications for interest rates and investors?

• The Reserve Bank maintains an easing bias, but it is by no means explicit. While we are pencilling in a rate cut near the end of the year, it is more a risk, not a definite forecast.
• The Reserve Bank isn’t unduly worried about the Aussie dollar at present, but it is on the radar screen. If the Aussie was to rise markedly from here, we believe that this would increase the chance of a rate cut. 

The post Economic nirvana achieved! appeared first on AdviserVoice.

What does it all mean?

The Reserve Bank Governor may be regarded as an optimist, but he is better regarded as a realist. His reading of latest economic evidence suggests that the Australian economy is in good shape, and he is keen that all Australians are made aware of the facts. The last few talks by the Reserve Bank Governor have been on the theme that Australians have become too gloomy:

“our domestic tendency towards the ‘glass half empty’ view”.

This is another talk on the same theme.

Pessimists have raised various issues from time to time. The Reserve Bank Governor has attempted to deal with these one by one, using facts rather than fallacies or fears to address the issues. Issues include the outlook for China, bank funding, dwelling prices, and the risk of another crisis. But he doesn’t just present the positive angle to the story but also addresses “what if” questions such as the response to a serious slump in China.

Whether you are pessimist or optimist, the Reserve Bank Governor’s speech is worth a read. In his usual impassioned and clinical way he addresses issues calmly and rationally. The overwhelming conclusion being that Australia is well placed to deal with any shocks.

The Reserve Bank Governor reportedly noted that policy settings are about right. While that doesn’t preclude a rate cut in August, the factors would need to present, such as further instability in Europe and a low domestic inflation result. CommSec is still pencilling in a rate cut over the next few months.

“The Lucky Country”

One point the Governor has sought to emphasise is that our good economic circumstances are not owed purely to luck. That is, we went into the crisis in good shape, with the flexibility to cut rates and with a solid financial system. In essence we made our own luck.

The Reserve Bank Governor also wanted to dispel myths about the Chinese economy. He noted that the recent slowdown was planned by the Chinese authorities and is very much just a cyclical slowdown, rather than something more long-term or structural.

“The data are quite consistent with Chinese growth in industrial output of something like 10 per cent, and GDP growth in the 7 to 8 per cent range.”

Governor Stevens also sought to dispel myths about Australia housing prices. Rather than being expensive, he believes that housing affordability is the best since 2002:

“Australian dwelling prices on a national basis have in fact declined and are now about where they were in 2002. That is, housing has become more ‘affordable’. Four or five years ago we supposedly had a housing affordability ‘crisis’. Now it seems that the problem some people fear is that of housing becoming even more affordable.” (his emphasis)

On the question of whether housing is over-valued, his arguments show that he isn’t convinced:

“But it has to be said that the housing market bubble, if that’s what it is, seems to be taking quite a long time to pop – if that’s what it is going to do. The ingredients we would look for as signalling an imminent crash seems, if anything, less in evidence now than five years ago.”

In terms of bank funding vulnerabilities, again the Reserve Bank Governor says there are grounds for optimism:

“A reasonable conclusion is that the degree of vulnerability to a global panic of any given magnitude appears to have diminished, rather than grown, over the past few years.”

The Governor has highlighted a number of developments that have worked to strengthen our economy:

“Some of the adjustments we have been seeing, as awkward as they might seem, are actually strengthening resilience to possible future shocks. Higher – more normal– rates of household saving, a more sober attitude towards debt, a re-orientation of banks’ funding, and a period of dwelling prices not moving much, come into this category.”

So what would happen if there was a slump in China? The following highlights the clinical way that the Governor addressed potential risks in the speech:

“If the thing that goes wrong is a serious slump in China’s economy, the Australian dollar would probably fall, which would provide expansionary impetus to the Australian economy. But more importantly, we could expect the Chinese authorities to respond with stimulatory policy measures. Even if one is concerned about the extent of problems that may lurk beneath the surface in China – say in the financial sector – it is not clear why we should assume that the capacity of the Chinese authorities to respond to them is seriously impaired. And in the final analysis, a serious deterioration in international economic conditions would still see Australia with scope to use macroeconomic policy, if needed, as long as inflation did not become a concern, which would be unlikely in the scenario in question.”

What are the implications for investors and interest rates?

The Reserve Bank’s Governor’s speech is designed to outline the facts rather than fallacies about Australia’s economic performance and the potential to handle future shocks. If businesses and consumers become more confident about Australia’s position, they will be more likely to get back to the business of spending, investing and employing.

The Reserve Bank Governor reportedly noted that policy settings are about right. While that doesn’t preclude a rate cut in August, the factors would need to present, such as further instability in Europe and a low domestic inflation result. CommSec is still pencilling in a rate cut over the next few months.

The Chinese purchasing managers’ index result is encouraging. The Chinese economy is lifting after the self-imposed slowdown. But more importantly authorities are well placed to provide stimulus to the economy with inflationary pressures now more settled and activity only recovering slowly at this stage.

25 July 2012

The post The truth about the economy & optimism on China appeared first on AdviserVoice.