Anthony Moran: what’s driving Aussie equities this week?

Here are the main factors driving the ASX this week according to Pendal investment analyst ANTHONY MORAN. Reported by portfolio specialist Chris Adams

• Economic data points to a slowing US economy
• Australia’s Budget is increasingly stimulatory
• Find out about Pendal Focus Australian Share fund

IT WAS a bullish few days for assets last week as the US monthly consumer price index broke its run of hawkish surprises.

Instead, the inflation print delivered in line with expectations, validating a recent decline in bond yields and the US Dollar Index.

We also saw a continuation in the run of softer, but not disastrous, economic news – reinforcing the narrative’s switch back from “no landing” to “soft landing”.

In response, US equity markets hit fresh highs; the S&P500 gained 1.60%, the S&P/ASX 300 rose 0.98%, while commodities and bonds also moved higher over the week.

As a result of recent data, the market is now pricing 45 basis points (bps) of rate cuts in the US this year – with an 85% chance of a first cut by September.

At the same time, the Atlanta Fed GDPNow tracker estimates that the US economy will grow 3.6% in Q2 2024.

On balance, this combination is positive for markets and – given the slower pace of change in the data – may support this environment through the Northern summer.

However, Federal Reserve Chairman Jay Powell noted that while he expects inflation to come down, his confidence is not as high as it had been and that it may take longer than expected for restrictive policy to help bring inflation down to target.

So, bond yields overshot in mid-April, but it is hard to see them moving much lower from here in the short term given the large pullback from peak.

We also need to keep a close watch on company earnings for any sign of impact from a slowing economy.

US macro

Inflation

The monthly US CPI provided the week’s marquee data point.

The upshot is that the print was reassuring, but it needs to ease further to allow rate cuts.

The backdrop was concerning as the April core Producer Price Index (PPI) had come in at 0.5% month-on-month versus the 0.2% expected.

However, the market’s reaction was muted given that:

1. March was revised down from 0.2% to -0.1%, leaving year-on-year core at 2.37%, which was in-line with consensus
2. There was slower growth in components of the PPI that fed into the core Personal Consumption Expenditures (PCE) deflator – the Federal Reserve’s preferred measure of inflation – such as insurance and airfares.

The University of Michigan’s monthly survey of inflation expectations data had also seen an uptick in one-year-forward expectations from 3.2% to 3.5%.

However, core CPI came in at 0.29% month-on-month in April, which was in line with consensus.

Importantly, it slowed from March – breaking the sequence of upside surprises that has been causing market anxiety this year.

The market also liked seeing year-on-year core CPI slowing to 3.6% – the lowest reading since April 2021. This helped take the risk of a rate hike off the table and gave some support for rate cuts this year.

Digging into the data, we can see that the deflationary impulse from Goods remains but is shrinking.

Core Goods inflation was down 0.11% month-on-month, but up 0.4% once used cars and trucks were excluded.

The big change was a healthy deceleration in core Services (excluding rent/owners-equivalent-rent or OER) from 0.65% month-on-month in March to 0.42% in April.

This is the lowest reading since December, but still well above target.

Rent/OER continued to trend lower.

Looking forward, on the positive side, gasoline pricing may have peaked and insurance repricing has largely occurred, possibly reducing their upwards pressure on inflation.

On the downside, rent growth appears to have stopped slowing.

Shelter cost is particularly important; if it is stripped out, CPI has been largely in line with the Fed’s target since June last year.

The concern is that this has flattened out and the deflationary impulse from rent will start to ease off.

There are some encouraging signs in the housing market, which may flow into rental availability: single family housing inventory is increasing and the year-on-year price growth in housing appears to be slower.

As a result, the Fed may want to keep rates on hold until a loosening housing market is more entrenched.

Economic data

Other data pointed to a slowing economy, but not one falling off a cliff.

This reinforced the notion of a soft landing and so, in this case, bad news was good news.

US retail sales were flat during the month, with higher gasoline spending draining consumer wallets. We note this follows a couple of strong months of spending, so cannot yet call it a trend. 

Softer retail sales were perhaps not a surprise, given real average hourly earnings fell 0.2% month-on-month in April.

Initial jobless claims are increasing but, again, it is too early to call this a convincing trend – particularly as it is not showing up in continuing jobless claims data yet.

The NAHB Index (a measure of homebuilder sentiment) fell to 45 in May, but this is likely to reflect the recent rise in mortgage rates, which has since unwound.

Industrial production is going sideways and manufacturing output fell 0.3% month-on-month. Both the Philadelphia Fed and Empire Manufacturing surveys were also softer.

China

Recent data suggests that the Chinese property market is not healing.

Macquarie Macro Strategy research suggests that existing home prices in 70 major cities fell 6.8% year-on-year in April – the fastest decline on record.

A sharp fall in mortgage interest rates is not supporting the market.

Beijing announced a number of supportive measures, including:

• removal of mortgage floor rate 
• lowering of minimum downpayment requirements
• directives for local governments to acquire homes at “reasonable” prices and turn them into affordable housing.

There is some market debate about this.

It is incrementally positive on the policy side, but there is also concern that the actual size of this stimulus will not be enough to make a material difference.

What we can see is further evidence of a twin-track economy emerging, with industrial production strong but consumption weak.

Industrial production grew ahead of expectations at 6.7% in April – with Autos (up 15%), semiconductors (up 32%) and solar panels (up 11%) all strong, while steel, cement and coal were all weaker.

On the other hand, fixed asset investment (FAI) grew 3.6% and retail sales grew 2.3% year-on-year, both weaker than expected.

So exports – and possibly inventory builds – are currently underpinning Chinese growth.

For example, Chinese exports of autos grew 34% year-on-year in the period January to April, driven by electric vehicles (EVs).

The issue is that the Biden Administration has just announced a 100% tariff on imported EVs, as well as increased tariffs on semiconductors, batteries and solar cells.

This only affects 4% of Chinese exports to the US, but it does set a protectionist precedent for other countries; the EU is also reportedly looking to introduce protective tariffs in some areas.

This potential threat to exports – and possible implication for the resource sector – needs to be watched closely given the current state of the Chinese economy. 

Australia

Our key takeaway from the Federal Budget is that it was increasingly stimulatory.

The $300 per household energy subsidy, rental subsidies and additional spending all adds up to healthy stimulus for households, coming in on top of the Stage 3 tax cuts in July. 

But might this stimulus be needed?

Unemployment surprised, with a jump from 3.9% to 4.1% in April.

There was a big jump in part-time employment (up 44.6k new jobs) while full-time employment fell 6.1k roles.

The key issue was the participation rate, which was up 0.1% to 66.7%, while the number of hours worked remained flat.

Employment is now growing slower than the population (ex-children and non-residents).

The government is looking to cut net migration, from 528k in FY23 to 395k in FY24 (upgraded from 375k) and then to 260k in FY25. That would take some pressure off housing, which should be deflationary.

The question is – will it be enough?

Commodities

Copper was up 7.7% for the week.

The catalyst may have been the combination of China property support measures, a weaker US Dollar, and trade measures which hinder movement of Russian and Chinese physical copper to US.

But short-dated contracts traded at a record high to longer-dated futures, indicating a physical shortage due to shorts being squeezed.

Short copper positions are at record highs, as are long positions.

One thing to note is that Chinese copper indices are depressed and inventories are at record highs.

There are many potential moving parts here, but it is a disconnection from normal copper markets which needs to be watched, given China consumes about 55% of the world’s copper.

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About Anthony Moran

Anthony Moran is an analyst with over 15 years of experience covering a range of Australian and international sectors. His sector coverage has included Australian Industrials and Energy, Building Materials, Capital Goods, Engineering & Construction, Transport, Telcos, REITs, Utilities and Infrastructure.

He has previously worked as an equity analyst for AllianceBernstein and Macquarie Group, spending a further two years as a management consultant at Port Jackson Partners and two years as an institutional research sales executive with Deutsche Bank.

Anthony is a CFA Charterholder and holds bachelor’s degrees in Commerce and Law from the University of Sydney.

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