Jim Taylor: What’s driving Aussie equities this week

Here are the main factors driving the ASX this week according to Pendal portfolio manager JIM TAYLOR. Reported by portfolio specialist Chris Adams

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THE Middle East conflict and rhetoric from Fed governors remain the market’s key talking points.

Meanwhile an unwind in the momentum factor continues with the PHLX Semiconductor index (SOX) and the Roundhill Memory ETF (DRAM) down 20% and 35% respectively from their highs.

The S&P 500 shed 1.6% last week, while the NASDAQ was down 2.9%. The S&P/ASX 300 held up better but weakened by 0.2%. Brent crude rose 15.9% over the week, with further deterioration in the Middle East situation over the weekend.

It feels like there is a faction on the Federal Open Market Committee (FOMC) looking to apply a bit of pressure to Fed Chair Kevin Warsh and force a rate hike in the next quarter, if a string of data indicates a reemerging inflationary pulse.

The benign consumer price index (CPI) and producer price index (PPI) prints out during the week have taken a bit of heat off Warsh and pushed out rate rise expectations from July.

His inaugural testimony to Congress went down well with the markets as he navigated the fine line showing commitment to tackling inflation while being dovish on the need for rate rises.

The Fed will take heart from consumer inflation expectations receding slightly in the latest University of Michigan sentiment survey.

Beyond the inflation data – which saw June headline CPI falling and core slowing month/month and a below-consensus reading for PPI – the US saw a continuation of decent retail sales, solid employment figures and a further uptrend in manufacturing.

Housing activity remains the key weak spot in the US economy. If we hadn’t seen a resumption of the Middle East conflict, we would most likely have been talking about June as peak inflation.

Around 10% of US companies have reported Q2 earnings. So far, the results have been well above estimates with good outcomes from key financials illustrating just how well the US economy is travelling.

Equity markets expressed renewed scepticism around the AI capex spend, best highlighted by chipmaker TSMC beating consensus and raising guidance result at its Q2 result – and the share pricing continuing to fall. It is now down nearly 20% from the June peak.

The launch of the Kimi K3 large language model by Chinese company Moonshot has caused flashbacks to last year’s DeepSeek moment, with the developer claiming the gap to the Open Ai/Anthropic models is closing, creating more angst around the actual returns from AI spend.

SpaceX slid below its IPO issue price and IBM saw it largest single day fall since 1968 after its preannounced Q2 earnings results revealed a shift in enterprise spending away from its software and mainframe segments towards AI hardware (servers, storage and chips).

This is feeding into huge volatility in the equity market momentum factor. Its three-week released volatility has surged to almost 4x that of the S&P 500 – double its previous high point of 2x in 2020.

The Goldman Sachs flagship high-beta momentum basket, GSPRHIMO, roughly tripled in the period from ChatGPT’s launch in November 2022 to its peak in late June 2026 – and has now given back almost one third of this in the last three weeks.

Elsewhere, the correlation between Brent crude oil and gold has reached its strongest inverse relationship in over 30 years.

US macro and policy

The Federal Reserve

The Fed was very busy ahead of this week’s blackout before the next meeting in late July.

Governor Christopher Waller is “determined to avoid repeating” the Fed’s mistake in 2021 when it was too late in responding to higher prices, noting ahead of last week’s inflation data that the Board would need to consider tighter policy in the event that it was “another hot reading”.

It came in on the cooler side. However, Waller said that he would need “several months of lower readings to feel that inflation is mobbing in the right direction”. In that case, he would “continue to hold the policy rate at its current target range”.

New York Fed President John Williams laid out six reasons why he felt that current interest rates are well set to push inflation back to target and he doesn’t see the need for a hike at the next meeting.

These included: tariff impacts rolling off, declines in housing-related inflation, lower oil prices, eventual easing of supply/demand imbalances in AI-related inputs, lack of inflation pressure in labour, and well-anchored expectations. 

Dallas Fed President Lorie Logan was more hawkish. “The June CPI data do suggest the possibility of a more hopeful scenario where inflation returns all the way to target … still, that path is tenuous,” she said. “I currently believe modestly higher interest rates would better balance the outlook and risks.”

Kevin Warsh made his first testimony to Congress, which ultimately saw bond yields fall 5-6 basis points (bps), on the basis that he was reassuring on Fed independence and gave a message of not looking to move aggressively against the short-term current excess inflation, yet remains committed to getting inflation to the target without excuses.

He was speaking the day after June’s softer CPI data, but cautioned against reading too much into it, warning that the longer inflation stays above target the stickier it tends to become. He pledged “to take sticky prices and unstick them”.

In terms of other key issues:

• Fed independence: Warsh noted it is “sacrosanct”, citing the recent US Supreme Court ruling against President Donald Trump’s attempt to fire Fed Governor Lisa Cook as an example. 
• Communication: He sees less as more, noting that over-communicating creates “sticky” positions where FOMC members end up looking for data to justify previous stances, rather than taking data solely on its merits as it comes to light. He did not commit to a press conference after each meeting.
• Dual mandate: Warsh pushed back against the notion that he is not focused on the employment side of the mandate. However, he did emphasise his view that the best way to achieve the employment mandate is to be successful on the inflation mandate.
• Balance sheet size: The gist of this discussion was that he sees smaller as better, but he noted this is not going to happen quickly and will not return to the scarce reserves regime that existed pre-GFC.
• Balance sheet duration: He is not comfortable with the duration of the assets on the Fed balance sheet, noting the average is greater than six years versus the market at 4.5 years, hinting perhaps that the Fed balance sheet over time moves in line with market duration.
• Inflation measures: Warsh downplayed the notion that he is focused on trimmed mean and median measures of underlying inflation and is particularly attentive to the Dallas Fed trimmed-mean measure.

He said that, as with the core personal consumption expenditures (PCE) index, “none of those are very good measures of underlying inflation”.

Instead, he said the Fed’s data task force would examine inflation measures, aiming to develop better gauges of underlying inflation. He noted that “we need new measures to understand the underlying changes in inflation”.

Inflation data

The headline June CPI fell by 0.4% month/month, well below consensus expectations of a 0.1% decline. It stands at 3.5% year/year.

Core CPI, which excludes food and energy, was unchanged month/month, also below the consensus which was at +0.2%. It is 2.6% year/year.

This was just the downtick in CPI data that the market has been looking for, especially given the emergence of a new block of hawks on the Fed.

The core CPI being unchanged, versus the 0.26% average monthly increase for the first five months of CY26, was the real positive.

Key drivers of the downside surprise included core goods pricing falling by 0.1%, with only one of the six major subcomponents in the positive territory.

CPI primary rent and owners’ equivalent rent were both below the averages of the last 12 months. Flat to very modest growth should see these rent measures remain subdued in the medium term.

Headline PPI fell by 0.3% in June, below the consensus, 0.0%. Net revisions were -0.4%.

Core PPI increased by 0.2%, slightly below the consensus of 0.3%. Net revisions were -0.3%.

While the June PPI data was constructive, there is a pipeline of cost pressures (goods rather than services) that will be coming through the system over the next quarter. These are driven by energy and memory costs, among others, and need to be closely watched. 

Retail sales

Retail sales rose 0.2% month/month for June, in line with consensus. Net revisions were +0.4% to previous months.

Ex-autos, retail sales fell 0.2% month/month, versus consensus expectations of -0.1%. Net revisions were also +0.4%.

Control retail sales (which excludes volatile items) were up 0.5% month/month. This was in line with consensus and net revisions were +0.8%. 

The bottom line is that retail sales still look pretty solid.

There is possibly some ongoing benefit from the tax refunds, but this has now pretty much run its course.

There is also no discernible benefit from the World Cup in higher retail sales or lower unemployment claims, so overall this data probably represents a pretty clean set of numbers and suggest things continue to be okay in consumer land.

Other data

Initial jobless claims were 208,000 for the week ended 11^th July, versus 217,000 expectations. Continuing claims were 1.805 million for the week ended 4^th July, versus 1.818 million consensus.

The University of Michigan consumer sentiment index came in at 54.5, above consensus and an improvement on the previous month’s 49.5.

Within it, one-year forward inflation expectations (preliminary) were at 4.2% for July, versus a median forecast of 4.4% and 4.6% in June. The five-to-10-year inflation expectations (preliminary) was at 3.3% for July, in line with the median forecast and unchanged from June.

Finally, the Empire Manufacturing index and Goldman Sachs Manufacturing Survey Tracker both had positive prints and suggest that the manufacturing recovery continues to build.

Australia macro and policy

The Prime Minister announced plans to develop Australian Standards for AI to bring into legislation in early 2027. The goal is to design a framework for faster decision making, better supporting infrastructure and genuine community engagement. 

This includes copyright protection for Australian IP, provision of new power supply, grid connections and firming capacity by the user, minimisation of water use, maximisation of energy efficiency and a single national framework to enhance appeal to international investors. 

The announcement received broad data centre industry support who were pleased that the government is very serious about attracting AI related investment into Australia. 

The Westpac/Melbourne Institute consumer sentiment index increased 4.1% month/month in July to 83.9, reflecting lower fuel prices and interest rate expectations, but remains 17% below its historical average.

Westpac noted that responses showed “a significant weakening as the situation in the Strait of Hormuz deteriorated over the course of the survey week” and flagged that the overall increase in the month may be related to “relief that ‘worst case’ scenarios … are not playing out”.

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Markets

In the US, Energy (+5.0%) and Real Estate (+2.3%) were the best performing sectors in the S&P 500, while Technology (-3.8%) and Communication Services (-2.4%) lost ground.

We got a very direct and timely read on the state of the US economy from the US banks reporting last week (JP Morgan Chase, Goldman Sachs, Bank of America, Citigroup, Wells Fargo) and it could scarcely have been any more positive.

• US banks posted corporate loan growth of 17% year/year. This was a record number, fuelled by all sectors of the economy – even commercial real estate saw growth after a long period of contraction.
• In addition, US consumer spending is tracking up mid-single digits, credit card spending is up 6% year/year, and there’s no sign of consumer or commercial credit deterioration.
• Investment banking related business lines were up 40%+ in aggregate.
• Large-cap banks posted a 19% return on tangible equity, a clear new post-GFC high.

All this suggest the bank sector is in rude health. Stock price moves were a little mixed given how high expectations were going into results, but the fundamentals are very strong.

Aggregate S&P 500 EPS estimates have been rising rapidly, driven primarily by the AI trade.

In aggregate, companies are reporting sales that are 3.8% above expectations, above the 1.9% one-year positive surprise rate but below the five-year average of 1.9%.

S&P 500 500 FY26 estimates started at $305 and are currently $330 and FY27 has moved from $352 to $393, for year/year growth of 20%.

Growth rates for “old economy” stocks are ~10%.

The blended earnings growth rate for Q2 S&P 500 EPS currently stands at 24.7%. This is above the 23.2% expected at the end of the quarter.

The blended revenue growth rate is 12.8%.

Of the 10% of S&P 500 companies that have reported for Q2, 88% have beaten consensus EPS expectations, above the 80% one-year average and the five-year average of 78%. In addition, 85% have surpassed consensus sales expectations, above the 78% one-year average and the five-year average of 70%.

In aggregate, companies are reporting earnings that are 16.4% above expectations, above the 9.2% one-year average positive surprise rate and the five-year average of 7.0%.

About Jim Taylor and Pendal Focus Australian Share Fund

Drawing on more than 25 years of experience investing in top-performing Australian companies and a background in accounting, Jim manages our Long/Short Fund and co-manages our Imputation Fund. He is a Chartered Accountant with membership of the Australian Institute of Chartered Accountants.

Pendal Focus Australian Share Fund is managed by Crispin Murray. The fund has beaten its benchmark in 14 years of its 18-year history (after fees), across a range of market conditions. 

Find out more about Pendal Focus Australian Share Fund here.

Pendal is an independent, global investment management business focused on delivering superior investment returns for our clients through active management.