After the wild rides of September and October it would be nice to say that normal transmission was resumed in November, with the Dow experiencing only one 100 point move. However, for those markets with a significant exposure to commodities it wasn’t so calm.
Australia performed relatively poorly over the month when compared to the other developed world markets. The main reason for that is the perception, rightly or wrongly, that the stock market’s collective earnings are more leveraged to commodity prices than elsewhere. Note, that is very different to the overall economy being similarly leveraged, because the composition of the Australian stock market’s earnings is very different to overall GDP. (See below for further discussion on commodity prices)
As well as poor commodity prices over November, Australia also reported some uninspiring economic data. Unemployment is at 6.2%, which is a 12 year high despite the participation rate continuing to go down, reflecting in part the rapid retirement of the baby boomers.
Unemployment vs Participation Rate
If you get the feeling you keep meeting people who are quite negative about the economy, it’s reflected in the consumer sentiment index, which came in at 96.6% in November – below 100 means more people are pessimistic than optimistic. It stands 12.5% below where it was a year ago and we’ve seen nine consecutive months in the gloom zone, the longest period since the GFC. This may have been exacerbated by the drop off in resources investment, which has fallen to the lowest in a decade.
By contrast, news out of the US continues to paint a rosy picture. Unemployment is down to 5.8% having reported the longest consecutive period of job creation since WW2 leaving the country on track to create the most jobs in a single year since 1999. With the stock market continuing to hit all time highs and people back getting jobs, not surprisingly consumer confidence hit its highest level in seven years.
China’s central bank delivered another bowl of punch to the global super-low interest rates party, which saw markets jump after the lending rate was cut by 0.40% and the deposit rate by 0.25%. The rate cuts came after industrial production data was disappointing and investment growth hit a 13 year low. Now the government just needs to give the banks money to lend out at the lower rate.
Meanwhile, Europe continues to look bleak: Germany narrowly avoided a triple dip recession reporting 0.1% growth for the September quarter, while the number two economy, France, reported 0.3% (with some dodgy accounting) and Italy slipped into its third recession since the GFC. Plus the ongoing problem of deflation continues to rear its ugly head, with inflation coming in at 0.4% – the lack of price momentum in the economy is very concerning (see the chart below). To show how bizarre things are, the French 10 year bond yield has gone below 1% for the first time ever.
European inflation disconnecting from US inflation
Source: BLS, Eurostat, Haver Analytics, DB Global Markets Research
All that was enough to get Mario Draghi, the head of the ECB, back jawboning about what they’re going to do to revive the economy (one of these days he may actually have to stop talking and just do), promising there are still all kinds of tricks up their sleeves. At the same time the new EU president, Jean Claude Juncker, announced his version of the “New Deal”: a €315bn package focusing on infrastructure. One problem is, it seems the scheme depends on financial engineering that leverages the €21bn contributed by the governments by a factor of about 15 times. Private equity should love it: the taxpayer gets lumped with the risk. The other problem is it’s not expected any of the projects will actually get under way until 2016.
Japan, which does still matter since it’s the third biggest economy in the world, slipped back in to recession. For those keeping count, that’s the fourth in the past seven years. On the back of the lousy GDP numbers the government called off the hike in the sales tax and instead sprung for an early election – time for Mr Abe to renew his mandate for Abenomics. And the central bank threw more money at the problem, increasing its annual target for monetary expansion from 60-70 trillion yen (more than US$700bn) to 80 trillion. The chart below shows how dramatic the increase in the BOJ’s balance sheet has been since QE became de rigueur amongst the world’s major central banks.
Central Bank assets as a % of GDP
Source: Thomson Reuters Datastream
All in all it’s clear that there is precious little momentum in the global economy. Debt levels remain very high and all the low interest rates in the world won’t help recovery if there is no appetite to either take on more debt or lend more money to those who do want to borrow. When credit growth is no longer there to goose GDP growth rates you’re left with much lower growth overall, which is something we may simply have to get used to for some time yet.
A commodities crisis?
While there’s a lot of media chatter about the falling oil price, in fact most commodities fell over November. Oil fell 13.5% in the last week of November alone, but copper was down 6%, and other base metals were weaker as well. Then there’s the iron ore price, which has plunged more than 50% from its highs of $160 to the current $70. The chart below compares the price falls of a bunch of commodities since January 2013 as well as for 2014 so far. Critically for Australia the coal, iron ore and gold prices have all come down significantly over the past couple of years.
Relative price performance YTD
Source: IRESS and Deutsche Bank
Why is this happening? With regard to iron ore, without being flippant, a lot of it is a simple case of what goes up comes down. It’s not for nothing commodities are referred to as very cyclical. We experienced a commodities boom that was fed by a credit boom in China. China ran out of space in the credit cycle so demand couldn’t keep growing at the same rate. At the same time the mining giants of the world have undertaken massive increases in supply. Surprise, surprise commodities prices reflect the reduction in the pace (and composition) of growth and the abundance of production.
At this point it doesn’t seem any different for oil. We talked about oil last month, but the chart below paints a telling picture. US shale production has rocketed and continues to grow, so that now US imports of crude oil from OPEC nations are at their lowest level in almost 30 years!
Source: EIA, Haver Analytics, DB Global Markets Research
There have been many forecasts talking about structural changes in the oil market, essentially arguing ‘this time it’s different’. But it hardly ever is. As sure as night follows day the cycle will turn again at some point, it’s just that we have no idea when that time will be. It’s one of the reasons why Steward Wealth prefers to minimise exposure to commodities and resources: they are inherently cyclical and inherently difficult to time.
A good place to do business
The Economist Intelligence Unit has rated Singapore as the best place in the world to do business for the seventh year in a row. Australia came in at number 3, which presumably would have surprised a lot of people. Switzerland was number 2, the US 7, the UK 21 and China 50.
The rankings were based on the attractiveness of a country’s business environment by looking at criteria such as political climate, openness to foreign investment, taxes, the labour market and infrastructure.
The good stuff
Scientists have found the berry from a plant that only grows in the Atherton Tablelands killed 75% of cancerous tumours in 300 tests on different animals. They were surprised at how quickly it takes effect and there appear to be no side effects. Human trials are still some time away, but what a wonderful glimmer of hope.