It’s all back on

Thursday, 25 July 2019
Adelaide, Australia
By Bernd Struben

  • Did the IMF lock in more market gains?
  • China’s unwanted permanent transformation
  • From Brexit to Hong Kong to…
  • In the mailbag

It’s all back on.

Every piece of the puzzle is in motion, clamouring for attention.

In fact, there’s so much happening in the financial and geopolitical arenas it’s a bit overwhelming. And tempting to tune it all out.

But I think that would be a mistake. Because every one of these moving pieces could have major ramifications on your portfolio.

We’ll look at a few of those today.

First up, earnings season continues to deliver insights into whether stock markets’ near record — or actual record — high valuations are justified.

On the plus side we have companies like The Coca-Cola Co [NYSE:KO]. Shares in Coca-Cola, with a market cap of US$230 billion, leapt 5.6% in intraday trading (overnight our time). The stock closed with a year to date gain of 15.8%. The reason? Quarterly earnings per share came in at 63 cents, beating analyst expectations of 61 cents.

On the minus side we have stocks like Boeing Co [NYSE:BA], battered by the continued grounding of its 737 Max jets. Boeing reported a US$2.9 billion quarterly loss, or US$5.82 per share. News the company had suffered its worst quarterly loss ever saw the share price fall 3.1%. Year to date, however, BA is still up 15.2%.

Joining Boeing in the earnings doghouse is Tesla Inc [NASDAQ:TSLA]. Despite seeing revenue of US$6.3 billion — up almost 40% compared to Q2 in 2018 — Tesla still managed to lose US$408 million during the three month reporting period. Its share price is down 11.0% in after hours trading. Factoring in those losses, year to date the share price is down 24.0%.

Hamstrung by losses from Boeing and Caterpillar Inc. [NYSE:CAT] (down 4.5%), the Dow Jones closed down while the S&P 500 and NASDAQ both closed up to set new record highs.

Also setting new record highs…the All Ords. The index, which contains 500 of Australia’s largest companies, has finally surpassed its November 2007 high. The ASX 200 is within a whisker of reclaiming its own records.

Why the new records?

We’ll get back to that after a look at the markets…

Markets

Overnight, the Dow Jones Industrial Average closed down 79.22 points, or 0.29%.

The S&P 500 closed up 14.09 points, or 0.47%.

In Europe the Euro Stoxx 50 index finished flat, up 0.03 points, or 0.00%. Meanwhile, the FTSE 100 lost 0.73%, and Germany’s DAX closed up 32.15 points, or 0.26%.

In Asian markets Japan’s Nikkei 225 is up 82.49 points, or 0.38%. China’s CSI 300 is up 0.45%.

In Australia, the S&P/ASX 200 is up 29.63 points, or 0.44%.

West Texas Intermediate crude oil is US$55.96 per barrel. Brent crude is US$63.21 per barrel.

Turning to gold, the yellow metal is trading for US$1,424.17 (AU$2,040.94) per troy ounce. Silver is US$16.60 (AU$23.79) per troy ounce.

And bitcoin’s 2019 rally remains stalled. One bitcoin is worth US$9,765.29. What’s next for bitcoin? Find out here.

The Aussie dollar is worth 69.78 US cents.

Did the IMF lock in more market gains?

Getting back to US and Aussie markets breaking into new record territory…could we have the International Monetary Fund (IMF) to thank?

On Tuesday, the IMF released its quarterly World Economic Outlook report. And the outlook was fairly bleak. The IMF cut its growth outlook for both 2019 and 2020 by 0.1%. It now forecasts growth of 3.2% and 3.5% respectively.

As you can see in the chart below, the last time global growth was below 3.3% was back in 2009:



chart image
Sources: IMF / Bloomberg
Click to enlarge

So with global growth looking to drop back to GFC levels, why are markets hitting new highs? The answer lies with another crucial puzzle piece currently in motion.

Central banks…

The IMF’s downward revision will help lock in further rate cuts from the world’s leading central banks. And there’s little that equity markets love more than cheap money.

In the US, the Fed will make its decision next week, on 31 July. A 0.25% cut is all but certain. A 0.5% cut could still be in the cards. But if not, expect another cut sooner than later.

In Europe, the ECB is also leaning towards further easing. The Governing Council meets tonight Aussie time. The ECB’s deposit rate already stands at a record low -0.4%. A level it’s been stuck at since 2016. While the Council may not cut rates tonight, it is expected to make some dovish noises, opening the door to further cuts later this year or early next year.

And here in Australia, RBA Governor Philip Lowe has made it clear he’s considering further cuts as well.

Speaking at the Annika Foundation lunch in Sydney earlier today, Lowe said, ‘If demand growth is not sufficient, the board is prepared to provide additional support by easing monetary policy further.’

We could be looking at a cash rate of 0.75% as soon as 6 July…if warranted.

China’s unwanted permanent transformation

Moving onto another critical puzzle piece determining the ups and downs of your portfolio holdings — stocks, bonds, commodities…you name it — you can’t ignore the trade war.

A positive tweet from US President Donald Trump about his respect for Chinese President Xi Jinping will see markets rally. A follow up tweet stating China is not living up to its agreements can erase those gains…and more.

At the moment, this piece of the puzzle looks like it still could fall into place in the form of a new trade deal — or at least an extended truce.

Trump could ramp up tariffs and redistribute that revenue to impacted US industries (like farmers) forever. But his re-election odds go up markedly if he can claim victory and boast of a ‘great new deal’.

Xi’s hand is a good bit weaker. You need look no further than the exodus of international companies from Chinese soil to feel his pain.

Take Hasbro, Inc. [NASDAQ:HAS]. With a market cap of US$15.3 billion, it’s the world’s largest listed toymaker. And it’s joining the queue to shift operations away from China. While Hasbro isn’t leaving China entirely, the company plans to move some 33% of its current Chinese production to Vietnam and India.

And Hasbro is far from alone. From Bloomberg:

Hasbro is the latest company changing its strategy amid heightened tensions between the U.S. and China. There are growing signs that the global supply chain, long reliant on China as the factory for the world, is being permanently transformed. Some multinationals including Intel Corp. are reviewing their production plans, while others are already speeding diversification to spread risk as widely as possible.

If China doesn’t bend soon, the damage to its economy could be irreversible. Once these companies move base, even if Trump gets rid of US tariffs, they’re likely not coming back.

On that note, there are some positive signs of progress again.

Top US negotiators — Treasury Secretary Steven Mnuchin and Trade Representative Robert Lighthizer — are heading to Shanghai next Monday to meet with their Chinese counterparts. Mnuchin, at least, sounded upbeat on the prospects for real progress…and an eventual deal.

Speaking to reporters yesterday, the Treasury Secretary stated:

My expectation is there’ll be a few more meetings before we get a deal done. My expectation is there’ll be a follow-up meeting back here shortly thereafter, assuming things go as we expect them to be.’

An end to the trade war following on a series of rate cuts by the world’s biggest central banks could offer a short term bonanza for stock markets.

From Brexit to Hong Kong to…

Company earnings, global trade ructions, central bankers’ market manipulation…

It’s almost enough to distract your attention from Brexit. But with chief Brexiteer Boris Johnson now officially in charge of the UK show, expect some big moves here. If Brussels plays hardball, European stocks could be in for a tumultuous ride.

But Boris has far more than Brexit on his plate. He’s also inheriting a tense situation with Iran.

This week, the UK and a handful of European nations agreed to form a ‘Maritime Protection Mission’ to safeguard tankers in the Strait of Hormuz from Iranian attacks. Add the flotilla of US navy vessels operating in the area and one wrong move by Iran could see a full scale shooting war break out. A conflict that would impact far more than crude oil prices.

And sorry Boris, there’s more.

Remember your former colony in Asia? No not India…Hong Kong.

Its citizens are not at all happy bowing to China’s Communist leaders. And they certainly don’t want to face mainland Chinese courts. Millions are protesting. Violence is on the rise. And China’s military leaders have offered the first clear signal they can and will move to ‘restore order’ if needed.

Will the world sit by and watch?

Don’t count on it.

And if the West moves to support Hong Kong — or Taiwan for that matter — the fallout could make any new war in the Middle East pale by comparison.

Oh, and let’s not forget North Korea. Kim Jong-un’s military just fired two missiles, traveling more than 400 kilometres, to land in the Sea of Japan.

See, I warned you all the pieces were back in play. Let’s hope they fit together for the best.

In the mailbag

In Monday’s Port Phillip Insider I raised the topic of Australia’s sky high home prices. And I posited that a 50% price fall, however painful in the short term, would be a huge boon the nation once the dust settled.

I received a number of replies to that and published several on Tuesday.

Here’s another letter on that from reader Ian:

One of the things I find astounding is that with all the talk of negative gearing being behind the property bubble (or foreign buyers, or immigration, or whatever other ingredient) I have seen no discussion of the role of Capital Gains Tax, in particular the primary residence exemption.

Now imagine if your own home was subject to CGT — all of a sudden people would have to start thinking about whether it made sense to do that expensive renovation, or to regularly try to “upgrade” to a more expensive property. Perhaps it would make more sense financially to invest the money in something productive.

Also the banks would be forced to think differently about where they should be making loans. Instead of taking the easy route of chasing ever more mortgage loans, they might re-weight towards loans that support business / investment / productivity.

Something to think about.’

Thanks Ian. A capital gains tax across all homes will be a hard sell. But you’re right. The likely growth in money flowing into parts of the economy that actually produce new products and ideas would be impressive.

Remember to send your replies or feedback to letters@portphillipinsider.com.au. When we get some good responses, I’ll publish them here.

That’s all for today.

Tune in tomorrow to hear from our options pro Matt Hibbard. I’ll be back with you on Monday.

Cheers,
Bernd