Equity Markets Could Be Facing Headwinds
David Bassanese | Mar 06, 2019 10:38
Australian equities were the best performing of our seven major asset classes in February, with good gains across several sectors. Relief that the Hayne Royal Commission report recommendations were not as bad as feared for banks helped the financial sector, while growing talk of lower local interest rates, stronger commodity prices and the weaker Australian dollar helped both consumer and resource stocks.
Global stocks also continued their “V-shaped” recovery from late last year, helped by growing hopes with regards to US-China trade talks and dovish rhetoric from the US Federal Reserve. While a range of global growth indicators have slowed, overall growth is still holding up – especially in the US.
A slight increase in global bond yields produced a close to flat result for global fixed income last month, while lower local bond yields produced a stronger return from Australian bonds. Gold prices retreated a little, reflecting a firmer US dollar and easing safe-haven flows. Listed property also continued to benefit from the decline in bond yields.
Across the seven benchmark asset classes, Australian listed property (A-REITs) retains the strongest return momentum rank**, followed by global equities. Cash had the worst return momentum rank, followed by global bonds.
h2The Fed’s dovish tilt and signs of progress in US-China trade talks remain positive forces for risk markets. The key risk remains an acceleration in US wage inflation given the apparent tightness of the US labour market. If wage inflation takes off, the Fed would have little choice but to continue raising rates – potentially to recession-inducing levels later this year.
Another concern is that US earnings expectations for 2019 have been downgraded somewhat in recent months, and earnings growth this year is expected to be muted. If earnings flatten out, equity markets could soon run into price-to-earnings valuation headwinds. This suggests a growing level of caution around equities may be required this year, with increasing focus on defensive thematics such as quality, and areas of the market such as health care and property/utilities. In Australia, a weaker AUD and an improving outlook for China, however, might still favour the resources sector.
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