31 May 2022

The Australian Securities and Investments Commission (ASIC) has issued updated fees and costs disclosure requirements through ASIC Corporations (Disclosure of Fees and Costs) Instrument 2019/1070 for Product Disclosure Statements issued on or after 30 September 2022.

The enhanced fees and costs disclosure requirements aim to provide investors with more consistent and comparable fees and costs across all managed investment products.

Pendal has elected for an early transition to the new fees and costs requirements. In accordance with the new requirements, Pendal has updated the fees and costs disclosure for all PDSs effective on or around 31 May 2022. Our Product Disclosure Statements should be read together with the Additional Information to the Product Disclosure Statements (collectively the ‘PDS’).

Changes to Pendal’s PDSs

The new requirements change how the fees and costs of the Fund are presented and the way in which certain fees and costs are calculated.

In our updated PDSs, the fees and costs section shows ongoing annual fees and costs under the following three categories:

1. Management fees and costs, consisting of the management (or issuer) fee and any indirect costs and expense recoveries that apply;
2. Performance fees (if applicable in the Fund); and
3. Transaction costs (if applicable).

Fees and costs related to certain investor activity, such as opening or closing your investment, contributing to your investment, withdrawing, switching and the buy-sell spread are also required to be disclosed in the fees and costs section of the PDS.

How do these changes impact investors?

The updated fees and costs requirements affect the way we disclose fees and costs and the methodology for calculating certain fees and costs.

Importantly, there are no new fees or costs, no increases to any fees being charged to investors, nor any changes in the way fees and costs are charged. This means that the returns of the Fund (and therefore, an investment in the Fund) are not impacted by these changes.

If you have any questions about your investment or would like further information regarding these changes, please contact our Investor Services Team on 1300 346 821 (for Australian investors) or +612 9220 2499 (for overseas investors) from Monday to Friday, 8.30am to 5.30pm (Sydney time).

This Important Update has been prepared by Pendal Fund Services Limited (PFSL) ABN 13 161 249 332, AFSL No 431426 and the information contained within is current as at 31 May 2022. It is not to be published, or otherwise made available to any person other than the party to whom it is provided.

PFSL is the responsible entity and issuer of units in the Fund. A Product Disclosure Statements (PDS) is available for the Fund and can be obtained by calling 1800 346 821 or visiting www.pendalgroup.com. You should obtain and consider the PDS before deciding whether to acquire, continue to hold or dispose of units in the Fund. An investment in the Fund is subject to investment risk, including possible delays in repayment of withdrawal proceeds and loss of income and principal invested.

This Important Update is for general information purposes only. It should not be considered as a comprehensive statement on any matter and should not be relied upon as such. It has been prepared without taking into account any recipient’s personal objectives, financial situation or needs. Because of this, recipients should, before acting on this information, consider its appropriateness having regard to their individual objectives, financial situation and needs. This information is not to be regarded as a securities recommendation.

Here are the main factors driving the ASX this week according to portfolio manager Jim Taylor. Reported by portfolio specialist Chris Adams

A BOUNCE in US equities last week was underpinned by reassuring words from JPMorgan Chase CEO Jamie Dimon and a positive take on some Fed rhetoric.

At the same time, emerging caution on the near-term outlook for US companies seems to be taken positively as a sign of moderating demand — which may ease inflationary pressure and potentially the rate of tightening.

Nevertheless, the risk of recession remains front of mind — investor surveys place the chance at about 55%.

The S&P 500 gained 6.6% and the NASDAQ 6.9% last week. The S&P/ASX 300 was up 0.5%.

There is more data coming out that suggests supply chain stresses are abating while pressure on employers is seen to be falling.

China’s Premier Li Keqiang held an extraordinary conference call across multiple layers of government flagging near-term risk to the Chinese economy. This wasn’t sufficient to de-rail a strong week for the Australian Resources sector (+2%).

Fedspeak

Fed watchers sifted through the May FOMC meeting minutes and recent comments — and formed the view that tightening may pause in September. 

Fed minutes showed “all participants concurred that the US economy was very strong, the labour market was extremely tight, and inflation was very high”. With risks of more inflation “skewed to the upside”, “participants agreed that the Committee should expeditiously move the stance of monetary policy toward a neutral posture”.

They also noted policy may need to move beyond neutral to a “restrictive” stance.

“Most” participants judged 50bp rate hikes would be appropriate at the next couple of meetings. However “a number” said data had begun to indicate inflation “may no longer be worsening”.

Atlanta Fed president Raphael Bostik said he supported an expeditious return of monetary policy to a more “neutral” stance to bring down inflation. But policymakers must “proceed carefully in tightening policy”, being mindful of the uncertain effects of the pandemic, the war in Ukraine and supply constraints on the economic outlook.

Policymakers were unsure how quickly higher borrowing costs would bite demand, said Kansas City Fed president Esther George.

St Louis Fed president James Bullard — who has been the leading hawk — called for the Fed to frontload rates and get them to 3.5% by year-end.

This would enable them to ease in 2023 and 2024 if inflation is under control. He didn’t see a recession, but did see some businesses getting “punched in the face” as consumers substituted basic necessities for luxuries.

US data and inflation

April personal spending rose 0.9% month-over-month versus an expected 0.7%.

The American consumer remains resilient — despite low confidence surveys — and is benefiting from wage gains and the gradual draw down of accumulated savings and handouts. This gives the market a degree of comfort.

The PCE Price Index (which measures costs Americans pay for a variety of different items) edged up 0.2% month-over-month and 6.3% year-over-year. 

Meanwhile the core PCE indicator (the Fed’s preferred inflation gauge which excludes food and energy and is used to make monetary policy decisions) advanced 0.3% on a seasonally adjusted basis.

The annual rate eased from 5.2% in March to 4.9%, in line with expectations.

Several drivers of inflation are showing signs of easing, though the pace of normalisation remains the obvious question mark:

• Wages: Wage growth (as measured by month-on-month changes in total hourly earnings) is moderating as participation rates normalise.
• Employment: Pressure on companies to hire has passed the peak. This can be seen in surveys of hiring intentions and expected worker compensation. It can also be seen in anecdotes such as PayPal announcing staff lay-offs as a result of lower top-line growth and the need to prevent material operating deleveraging.
• Profit margins: As demand abates, abnormally high-profit margins will have to revert to more normal levels.
• Housing: While inventory of completed homes is very low a lot of supply is coming through which will ameliorate price rises and flow into reduced pressure on rentals — a key component of the inflation spike we have witnessed. In April, US new home sales fell 16.6% m/m to 591,000 — far short of the 748,000 expected. Unsold inventory of new houses jumped 34,000 m/m and 127,000 y/y to 444,000 seasonally adjusted — the highest since May 2008. Inventories jumped from 6.9 months of supply to 9 months.

New Zealand

The RBNZ raised rates 50bps to 2%, as expected. The Monetary Policy Committee is in a real hurry, with a very high likelihood of successive 50bp hikes in July and August. They flagged a peak Official Cash Rate (OCR) of about 4%, up from 2.6% only six months ago.  

They couldn’t be any clearer on their intent: “A larger and earlier increase in the OCR reduces the risk of inflation becoming persistent, while also providing more policy flexibility ahead in light of the highly uncertain global economic environment.”

China

China’s cabinet introduced 33 policies to support consumer spending and businesses as the economic fallout from the zero-Covid policy bites deeper.

The package of about US$30 billion was extensive. It includes measures to boost infrastructure spending and rural road building; improve supply chain disruptions; provide cash subsidies to maintain staff levels; provide VAT rebates; and reduce taxes on car purchases.

Markets

There was plenty of commentary and results coming out of US companies last week.

It wasn’t all good news. But in conjunction with better economic data the market has gravitated to the view that after 50bps in July and August the Fed might be inclined to take a breather and see how the tightening is manifesting.

Sentiment was bolstered by Jamie Dimon’s remark that if the US does go into recession, it is likely to be moderate due to underlying strength in the economy and consumer.

There were also comments in this vein from Bank of America CEO Brian Moynihan. He noted consumers were buoyed by strength in household balance sheets right across the income spectrum — and they continued to grow.

Moynihan also noted credit card debt was rebounding from its lows (though it remains well below the pre-Covid level) and mortgage loan-to-value ratios remain in the 50%-60% range. 

It wasn’t all one way traffic on the commentary front.

US social media company Snap fell 33% on reduced revenue and earnings guidance for the current quarter after issuing guidance a month ago. “The macroeconomic environment has fallen further and faster than we had anticipated,” management said. Other digital media businesses fell 5-20% in sympathy.

Commentary from US retailers was mixed.

Dollar Tree and Nordstrom were strong. But a mix shift in consumption saw a blow-out in inventories at Walmart and Target. Gap also reported a big miss.

Clearly there is no consistent playbook from the retailer’s perspective in this environment. Pivots in consumer demand are tough for retailers to keep up with.

Inflows resumed into equity funds globally after a run of outflow weeks. There was US$21 billion of inflows — the biggest amount in 10 weeks — mainly into US equities.

The Australian market lagged the US after several weeks of outperformance. Energy (+2%) and Materials (+1.7%) led. Technology (-3.4%) was the worst performer.

Stock moves were much more idiosyncratic than they have been for quite a few weeks.

BHP (BHP, +3.9%) merged its oil and gas business into the newly named Woodside Energy (WDS, +4.8%). Tabcorp (TAH, +2.2%) demerged its lotteries and keno division in The Lottery Corporation (TLC, +2.1%). The likelihood of further M&A activity remains high.

Incitec Pivot’s (IPL, -6.4%) 1H FY22 result missed EBITDA expectation by 8% as both the fertiliser and explosives divisions didn’t exhibit the operating leverage that has been evident in peer results. The big news was the proposed spin-off of the fertiliser business, which they have been trying to offload without success for many years. Fertiliser peers globally have retreated from the highs earlier in the year, which has impacted IPL as well.

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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. 

Contact a Pendal key account manager here

With effect from 31 May 2022, the “Pendal Horizon Fund” will be renamed the “Pendal Horizon Sustainable Australian Share Fund”.

The change of name is to further reflect the investment framework and responsible investment priorities of the Fund which extend beyond just ethical screens being applied and also the current name of the Fund does not inform it is an Australian equities and a sustainable fund.

There will be no changes to the investment strategy, objective or distribution frequency of the Fund.

An updated Product Disclosure Statement (PDS) providing information on the Fund will be issued on 31 May 2022 and made available on www.pendalgroup.com.

Impact of the ESG election | A signpost for global equities investors | Simple net zero approach for investors | Why LatAm is looking good

The shift towards progressive politics and climate action that swept Labor to power has important implications for investors. Pendal’s RAJINDER SINGH explains.

• Election 2022 sets tone and atmospherics for investors
• Australia swings to progressive politics and climate action
• Find out about Rajinder’s Pendal Sustainable Australian Share Fund

THE shift towards progressive politics and climate action that swept Labor to power has important implications for investors, says Pendal’s Rajinder Singh.

While uncertainty remains about the final makeup of the next parliament — including whether Labor will govern with a majority in the lower house and what the Senate will look like — it’s clear that the “tone and atmospherics” in Australia have changed, he says.

“It was an ESG election,” says Singh, who manages Pendal Sustainable Australian Share Fund.

“If you break it down, some of the key policy differences in this election were all about E, S and G.

“On the environmental side, it’s about climate change. For social issues, it was about gender and diversity in workplaces, childcare and Indigenous issues. And a federal integrity commission? Well, that’s governance.”

Singh says investors can view the election as a contest of ideas “and the Labor, Green and teals arguments in each of these areas seems to have won the day”.

Incremental change

Still, for all the hope among parts of the community, the new Labor government’s climate ambitions remain modest and it is unlikely that the new government will go further than its stated policy platform in the first term, Singh says.

“They are arguing for incremental change rather than massive change.

“They have a more ambitious target in terms of reducing overall emissions by 2030, and they have a target of 80% of electricity to be renewable by 2030.

“One thing that’s interesting is the planned investment in transmission capacity. The new government has a fairly large fund that they want to invest to rewire the nation.

“This would better allow renewables to connect to the grid and improve interconnectivity between states so we can actually move electricity around where it’s needed.”

A new climate change conversation

The main impact for investors will be a change in the way climate action is discussed in Australia, says Singh.

“It’s a change in the tone of the conversation about climate change. Even though the stated policy is not that much more ambitious, the underlying tone is going to be a lot more supportive of action.

“I think that may make a difference to companies’ strategic direction, particularly for companies that are looking to make new long-term, climate-related investments.”

While business and industry groups have moved ahead of government in climate action in recent years, a more supportive position from policymakers will reduce “some of the sovereign risk that overseas investors see in Australia.

“The view was Australia was seen as a laggard. This may reduce that risk there.”

Social and governance agenda

On the social front, big policy platforms like expanding access to childcare and investing in aged care will be beneficial to operators and real estate trusts in those areas.

“Healthcare generally should be a more of a beneficiary of a Labor government,” he says.

And importantly, a new focus on Indigenous affairs will play out across the stock market.

“The mining industry in recent years has been heavily exposed to these issues and spending time and effort to improve that where it has been mismanaged.

“But this is going to be something for all businesses to be aware and cognisant of — in the same way gender is an issue that companies need to think about, Indigenous affairs is an issue that we also all need to think about.”

Turning to governance, Singh points to the proposed establishment of a federal corruption commission as evidence of these issues becoming more central.

“What we have been seeing is that corporates are being held to a higher level of account from a governance perspective. To some extent, this is the government playing catch up and aligning with what investors have been expecting of the companies they invest in.”

What it means for investors

“This is now a government with policies that are more aligned with the ESG trends that we’re seeing in the market.

“There’s a trend that is already happening and the change in government and some of the new initiatives are supporting that trend.

“Tone and atmospherics are important in markets and companies and investors pick up on that.

“Companies that were on the borderline may now be more likely to be investing in these sort of areas, whether it be something outwardly aligned with ESG such as renewable energy or something like an internal policies on Indigenous affairs, equity and inclusion.

“If anything, it’s going to highlight the laggards across all ESG issues — previously, those that may have had some cover from a government that was not fully supportive. But that’s going to be much harder going forward.”

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About Rajinder Singh and Pendal’s responsible investing strategies

Rajinder is a portfolio manager with Pendal’s Australian equities team. He has more than 18 years of experience in Australian equities.

Rajinder manages Pendal sustainable and ethical funds including Pendal Sustainable Australian Share Fund.

Pendal offers a range of responsible investing strategies including:

• Pendal Sustainable Australian Share Fund
• Crispin Murray’s Pendal Horizon Fund
• Pendal Sustainable Australian Fixed Interest Fund
• Pendal Sustainable Balanced Fund
• Regnan Credit Impact Trust
• Regnan Global Equity Impact Solutions Fund

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

Responsible investing leader Regnan is part of Pendal Group.

Contact a Pendal key account manager here

After the evolution of Coalition fiscal spending habits during the pandemic, Australia’s new Labor government won’t be a big change, says Pendal’s Anna Hong

ON THE economic front, Australians will be largely unaffected by the change of federal government — at least in the near term, says Pendal’s Anna Hong.

That’s because key economic policies between Australia’s two major parties are mostly aligned, says Hong, an assistant portfolio manager from Pendal’s Income and Fixed Interest team.

However, there will be an increase in fiscal spending by the Albanese government.

Labor will increase fiscal spending by a net $7.4 billion in areas such as home equity schemes and electric car discounts, as you can see in this table:

Labor’s Fiscal Plan

Net Budget Impact		-$7.4bn
Revenue + Savings		$11.5bn
Spending		$18.9bn
Key Spends	Childcare subsidies	$5.4bn
	Aged care	$2.5bn
	Medicare	$0.75bn
	Electric car discount	$0.47bn
	Home equity scheme	$0.31bn

“This will prop up demand without fixing the supply issues, nudging inflation higher,” says Hong. “It will make the RBA work harder to counter the loose fiscal policy.”

The federal budget will remain in deficit for the rest of the decade — under either party.

“The stumbling block to Labor’s policies may be in generating planned revenue and savings.

“Many items on their list — such as multinational tax revenue — are easy to promise but notoriously difficult to achieve.

“Overall, the change of government is more of the same for the economy and the budget.

“The difference will be in the changes many Australian voters are focused on – climate policy, federal integrity, and gender equity — as Pendal’s Rajinder Singh outlines here.

“Australians want action and will watch this space closely.”

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About Anna Hong and Pendal’s Income and Fixed Interest team

Anna Hong is an assistant portfolio manager with Pendal’s Income and Fixed Interest team.

Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia. In 2020 the team won the Australian Fixed Interest category in the Zenith awards.

With the goal of building the most defensive line of funds in Australia, the team oversees A$22 billion invested across income, composite, pure alpha, global and Australian government strategies.

Find out more about Pendal’s fixed interest strategies here

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About Pendal Group

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

Contact a Pendal key account manager

Has inflation peaked and if so, what’s next for fixed interest investors? Here’s a view from our head of government bond strategies TIM HEXT

AMONG the many adages I’ve heard in my career “sell in May and go away” always sticks in my mind.  

The quote apparently originated in London and said in full: “sell in May and go away and come back on St Leger Day” (in September). The “go away” referred to very long summer holidays enjoyed by rich stockbrokers.

In the US equity market November-to-April outperforms May-to-November over time. 

Going back more than a century the Dow’s average return is apparently 5.2% for November-to-April, compared to 2.1% for May-to-October.

In Australia the numbers are 5.1% and 2.4%.  The term could be recoined as “buy in November and sit back”, but that wouldn’t rhyme.

The calm in the storm

This May has been the calm in the storm. But no one can agree if it’s the eye of the storm or if we’re actually through it.

Markets are clutching at any sign inflation has peaked.

In the US it likely has on both on a monthly and year-on-year basis — but will be slow to come down.  

In Australia we are unlikely to see a repeat of the Q1 2.1% quarterly CPI number. But base effects mean annual inflation will peak closer to 6% (currently 5.1%) in Q3 (released in late October).

We have just finished a deep dive into inflation which we will release shortly as part of our Australian Investor Quarterly newsletter.

As the inflation narrative settles down, all eyes will turn to the impact of inflation and interest rates on growth.

Share markets remain vulnerable to earnings downgrades and weakening growth numbers.

This becomes reflexive, though, as equity weakness in turn causes confidence to fall which may eventually take some pressure off rising interest rates thereby supporting equities.   

We may well spend the northern summer rolling around in this cycle of volatility, heading eventually nowhere as the dynamics try to work themselves out.

What it means for investors

As a fixed interest portfolio manager it means we must look to harvest more tactical trades than big-picture moves for the next few months.

We continue to think short-dated inflation bonds are cheap in outright real yields but also in break-evens (inflation expectations).

The picture for duration and credit is less clear though we do have some positions based on cash rates “only” getting to 2% this year as opposed to markets pricing closer to 2.75%.

With both bond markets and equity markets trashed in the last four months I will ignore the “sell in May and go away” advice as coming way too late — wishing someone had instead advised me this year to “Sell on New Years Day and go away.”

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About Tim Hext and Pendal’s Income & Fixed Interest boutique

Tim Hext is a Pendal portfolio manager and head of government bond strategies in our Income and Fixed Interest team.

Tim has extensive experience in banking, financial markets and funding including senior positions with NSW Treasury Corporation (TCorp), Westpac Treasury, Commonwealth Bank of Australia, Deutsche Bank, Bain & Co and Swiss Bank Corporation.

Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia.

Find out more about Pendal’s fixed interest strategies here

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About Pendal

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

In 2023, Pendal became part of Perpetual Limited (ASX:PPT), bringing together two of Australia’s most respected active asset management brands to create a global leader in multi-boutique asset management with autonomous, world-class investment capabilities and a growing leadership position in ESG.

Contact a Pendal key account manager

Here are the main factors driving the ASX this week according to our head of equities Crispin Murray. Reported by portfolio specialist Chris Adams.

Find out about Crispin’s Pendal Focus Australian Share Fund
Find out about Crispin’s sustainable Pendal Horizon Fund

THE MARKET is at an interesting near-term juncture.

The S&P 500 has lost ground seven weeks in a row and is now off about 20% from its peak. It has re-tested and held recent lows.

Expiring options may reduce volatility and we may see some month-end rebalancing towards equities in a low-liquidity environment due to next Monday’s US Memorial Day holiday.

A near-term bounce may be possible and counter-trend moves can be material.

However we don’t think we’ve seen the low point for this cycle. The market is yet to work through the effect of a slowing economy on corporate earnings. 

The S&P 500 fell 3% last week as the market continued to worry about the potential for recession.

This was compounded by some poor earnings results out of US retailers. The issue here was not weaker consumption, but the mix shift from goods to services and a rising cost impost. 

This emphasises the market’s vulnerability should a slowdown occur and begin to affect earnings.

US 10-year government bond yields fell 14bp. The positive correlation between bonds and equities appears to have broken down as the focus moves to risk aversion and a flight to safety.

We also saw a fall in the US dollar. This was probably a consolidation after a big run. It helped commodities and resource stocks, as did more signs of Chinese easing. 

Australia again remains the market for these times.

The S&P/ASX 300 was up 1.2% for the week. It’s down only 2.5% for the calendar year to date, versus -17.7% for the S&P 500 and -27.2% for the NASDAQ.

Two key issues driving the market

We see two primary issues driving the outlook for markets.

The first issue is whether the US economy slows down or slips into recession.

Looking at recent bear markets, a recession has tended to lead to bigger drawdowns – such as in 2000-2002 and 2007-2009.

Current investor surveys indicate a 50-55% probability of recession.

This comes down to views on what the Fed sees as acceptable inflation and what they will need to do to achieve it. There are two scenarios here:

1. The positive scenario: Financial conditions have tightened enough, the economy is already slowing, inflation pressures are beginning to ease and therefore bonds have peaked and aggressive monetary tightening (and therefore recession) will not occur. A variant of this view is that the Fed will live with inflation in the mid to high 2s — rather than go for 2% — to avoid pushing the economy into recession
2. The negative scenario: The economy will prove more resilient to rising rates, with consumers bolstered by excess savings and the labour market remaining tight. This will force the Fed to do more tightening and ultimately “break” the economy to control inflation. Proponents point to unemployment of 3.5% needing to rise to around 4.25% to create sufficient slack to ensure wages don’t reinforce inflationary pressures. The US has never been able to engineer such a rise in unemployment without it being associated with a recession.

The second major issue is whether the Chinese economy deteriorates or sees a policy-driven rebound.

Again, there are two scenarios:

1. The positive view: China is close to peak Covid lockdown and the combination of re-opening and additional infrastructure stimulus will trigger a recovery, generate good commodity demand, and underpin resource stocks.
2. The negative scenario: The economy is in far worse shape than the market realises. Lower rates reflect the financial vulnerability of property developers, stimulus will be ineffective due to low confidence, high input costs and inability to execute due to Covid restrictions.

Economics and policy

There is a lot of debate about whether we have seen peak inflation and peak bond yields.

Official data such as retail sales is signalling that the consumer remains strong, though there are signs the economy is slowing. For example, the Economic Surprise index – which shows the degree to which economic data is beating or missing estimates – is deteriorating in most countries. Consumer confidence is also weak and is at 40-year lows in the UK.

The combined effects of higher mortgage rates and fuel prices have reached levels consistent with previous consumer slowdowns. This indicator tends to lead by around 12 months.

Total financial conditions – which includes rates, equities and credit spreads – have tightened to a reasonable degree and should lead to a headwind of 1.3% of US GDP growth by Q3 2022.

We are also seeing signs that corporate pricing power – while still at high levels – may be easing.

There are signs that consumers are under some stress – particularly at the lower income end – with credit outstanding rising rapidly. This may support current consumption but is unsustainable.

Freight shipping rates are beginning to drop and there are early signs of a fall in US trucking rates.

That said, the freight rate may be a misleading signal due to a drop-off in Chinese exports. It’s unclear how much of this is a genuine de-bottlenecking of supply chains.  

All this indicates the economy is responding to tighter financial conditions. It is slowing down and this is beginning to reduce inflation pressures.

This belief can be seen in forward pricing of inflation, where both break even yields and the 5-year inflation swap have rolled over since late April.

This could be positive for the equity market since it’s in line with the first scenario outlined above.

However there are still two key unknowns:

1. This slowing could be the prequel to a recession. A slow-down and a recession will look the same initially. It will also probably result in negative earnings revisions, which the market will not like as we saw last week in the US. 
2. The second unknown is whether this will equate to inflation falling enough to allow the Fed to declare victory.

Fed Chair Powell has stressed that the labour market is resilient enough to weather tightening policy.

While this sounds reassuring, the question is whether a resilient labour market is consistent with inflation falling to target levels. If it is not, policy needs to tighten even more.

The labour force is very tight and this is driving wage growth. Some measures suggest we need to see employment decline by at least 1% to reduce wage pressure.

China

Economic surveys indicate the Chinese economy is weak. Q2 GDP is expected to decline 1.5% to 2%, with growth for the year coming in between 3% and 4%. 

Beijing has responded with a larger-than-expected cut in its 5-year loan prime rate.

China bears see this as a move to prop up private developers who are facing a funding squeeze, thereby preventing deterioration rather than providing stimulus.

The more bullish view is that while this may not be a sizeable move, it is a very strong signal that the government will support property, similar to November 2014. Then it was the precursor to a big bounce in Chinese growth sentiment in 2015.

We remain cautious on a China recovery.

The property market appears to be deflating, but prices remain very high and developers are still too leveraged. At best the market stays flat, but the risk is to the downside, so any infrastructure related stimulus will only be offsetting this.

The other challenge is the lack of transparency over the extent of Covid and the real level of restrictions.

Europe

The ECB struck a more hawkish tone in response to poor inflation data. The market is now being primed for a first rate rise in July, with a possible 50bp move straight up. This is unlikely, but helped the Euro bounce off its lows against the US dollar.

Australia

There is little to read into the election outcome at this point. A majority government provides more clarity than a minority.

We are also likely to see more emphasis on reducing carbon emissions in coming years, which will have an impact on corporate disclosures and investment.

US earnings

Overall quarterly earnings were good. Full-year earnings lifted from about 5% to 11% growth.

However the outlook looks overly optimistic, with 9% eps growth expected in CY23 despite a slowdown.

Last week demonstrated the impact earnings headwinds can have. Broadline retailers missed earnings expectations as a result of freight costs and the mix shift in consumption.

Walmart and Target have joined Amazon in highlighting material gross margin pressure.

Underlying sales have not been particularly disappointing. But the impact of the unexpected mix shift caused problems as spending moved away from home, consumer electronics and sporting goods to travel, toys and luxury goods.

Inventories are also building in areas such as home furnishings and consumer electronics, while unit demand growth is dropping. This crimps a company’s ability to push through price rises.

The share of “private label” sales are rising. This is partly due to improved product availability as labour issues improve. It may also indicate consumers are “trading down” as real income falls – potentially a signal of softer consumption.

The overall impact were large hits to stocks in the previously defensive consumer staples sector.

This highlights the difficulty in identifying defensive pockets in this environment

Markets

We may be seeing a near-term low in the US equity market.

Historically, bear market bounces average a 15% gain over 30-40 days.

This does not signal the market has hit its lows for the cycle. Most technical signals have not indicated a degree of panic or capitulation. For example put/call ratio data has not yet moved into 99th percentile level – a usual indicator of capitulation. Nor have we seen high volumes in stocks being sold down.

Retail investors are yet to give up on the bull market.

The triple-leveraged NASDAQ ETF is still seeing large net inflows – despite being down over 60% year-to-date. Interestingly energy-related ETFs – among the best performing year to date – are seeing negligible inflows by comparison.

The high proportion of “buy” ratings on the market leaders of the past few years is another sign that we are yet to see capitulation.

We see scope for short, sharp bear-market rallies, but remain defensively positioned overall. We don’t believe it is yet the time to reload on high beta, illiquid names.

The Australian market last week saw a good bounce in the resource sector (+3.8%) on China optimism. The Technology (+5%) sector bounced as Xero’s management clarified a post-result message and emphasised confidence in improved margins and cash flow over time. Consumer staples (-3.3%) lagged, following the US lead.

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About Crispin Murray and Pendal Focus Australian Share Fund

Crispin Murray is Pendal’s Head of Equities. He has more than 27 years of investment experience and leads one of the largest equities teams in Australia. Crispin’s Pendal Focus Australian Share Fund has beaten the benchmark in 12 years of its 16-year history (after fees), across a range of market conditions.

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

Find out more about Pendal Focus Australian Share Fund  

Contact a Pendal key account manager

Three rules for turbulent times, Where wages go next, Renewables look set to win in Europe, Opportunities amid inflation

The latest wages data shows surprisingly modest growth in some sectors. But wages are the ultimate lagging indicator and that will soon change, says our head of government bond strategies TIM HEXT

DESPITE increasing anecdotal evidence of rising wages, the latest data shows the price of labour grew a modest 0.7% in the March quarter.

Over the year wage growth was 2.4%, according to the Wage Price Index (WPI) released yesterday.

Only one sector nudged over 3% annually and none grew at or near 1% for the quarter.

In some areas this was not surprising. But in industries such as construction and retail trade this flies in the face of worker shortages. 

This will change, since we’ve really only fully opened up this year.

Wages are the ultimate lagging indicator — and patience is required.

Annual and quarterly changes, WPI Mar 2022 (total hourly rates of pay excluding bonuses, per industry):

Earlier this year the Reserve Bank had WPI front and centre when trying to ignore rising inflation and pressure to raise rates.

Unless we got strong wage growth, inflation would eventually come back, the RBA said.

But in May — as they threw in the towel and hiked rates — the RBA referenced broader measures of wages:

“The outlook for broader measures of labour costs had also been revised up; average earnings were expected to increase at a faster pace than the WPI, as firms turned to bonuses, allowances and other measures to attract and retain workers,” the RBA said in its May board minutes.

They also highlighted the great inertia of wage growth:

“While the inertia arising from multi-year enterprise agreements and current public sector wages policies would continue to weigh on aggregate wages growth in the near term, a period of faster growth in labour costs overall was in prospect.”

The main battleground this year will be public sector agreements across the big employment areas of health, education and transport.

The public sector employs around 20% of the workforce. These are state government responsibilities and for now at least the governments largely have a 2.5% wage cap.

However unions quite rightly point out that a 5% inflation rate is seeing real wages fall. With staff shortages in key areas they are in a good position to extract wage rises closer to 5% than 2.5%.

Maybe for teachers and nurses they can offer 2.5% and a “thank you” bonus of 2% for their efforts through Covid, keeping their policy “intact”.

The RBA expect the WPI to hit 3% by year end and 3.5% by the end of 2023.

Chances are we hit these levels sooner. 

Let’s remember this is a good thing overall. It does however add to the narrative that inflation will struggle to fall back to target anytime in the next few years.

What it means for fixed interest investors

Investors should still be looking to inflation bonds ahead of nominal bonds.

In our portfolios we have been adding inflation risk, which has cheapened up in May.

Inflation will moderate next year but levels above 3% look like being more entrenched over the next two to three years, helped by wages eventually nearing 4% growth.

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About Tim Hext and Pendal’s Income & Fixed Interest boutique

Tim Hext is a Pendal portfolio manager and head of government bond strategies in our Income and Fixed Interest team.

Tim has extensive experience in banking, financial markets and funding including senior positions with NSW Treasury Corporation (TCorp), Westpac Treasury, Commonwealth Bank of Australia, Deutsche Bank, Bain & Co and Swiss Bank Corporation.

Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia.

Find out more about Pendal’s fixed interest strategies here

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About Pendal

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

In 2023, Pendal became part of Perpetual Limited (ASX:PPT), bringing together two of Australia’s most respected active asset management brands to create a global leader in multi-boutique asset management with autonomous, world-class investment capabilities and a growing leadership position in ESG.

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