Equity Market Performance
Global equities were up 3.1% for the month of July, while US equities slightly outperformed global equities with the S&P500 returning 3.6% for the month, the Dow +4.7% and the NASDAQ +2.2%. For the rolling quarter, the MSCI All-Country Total Return Index (incl. dividends) was up 3.7% while the S&P500 was up 6.4%. European stocks were on average up 3.0% for the month of July and up 1.5% for the quarter.
Asia Pacific markets were up on average 0.7% for the month of July, but down 4.1% for the quarter, while Emerging Markets were up on average 2.1% for the month of July, but down 4.2% for the quarter. For the year to 31 July 2018, the NASDAQ is the best performing index, up 20.9%, followed closely by Brazil +20.2%, while the Shanghai Composite is the worst performer, down 12.1%. Broadly speaking, US indices have outperformed global indices in the last 12 months, while all other international indices underperformed.
US economic data remains strong. Personal income and spending remained robust in June and consumer confidence is high. The ISM business conditions indexes fell slightly in July but remain high. Home prices are continuing to rise. And July saw another “Goldilocks” jobs report, with strong payroll growth including upwards revisions to prior months, falling unemployment and yet still soft wages growth. Consistent with this, the Fed remains upbeat describing growth as “strong” (up from “solid”) and seeing inflation near target and so it remains on track to continue with gradual rate hikes next month.
US June quarter earnings reports remain very strong. Of the 80% of S&P 500 companies to have reported, 85% have beaten on earnings by an average beat of 5.3% and 73% have beaten on sales. Earnings are up around 26% year-on-year.
Eurozone growth slowed further in the June quarter to 2.1% year-on-year, although core inflation rose to 1.1% in July. However, with core inflation still way below target and growth slowing there is little prospect of the ECB raising rates until 2020.While the Bank of England raised rates another 0.25%, they have still only made it to 0.75% (i.e. half the RBA’s 1.5%) and with Brexit uncertainty this may be it for a while.
Japanese economic data is mixed, supporting the continuation of ultra-easy monetary policy. While unemployment rose slightly in June, the jobs to applicants ratio rose to its highest since January 1974, helped by a falling labour force. Industrial production fell more than expected, but the manufacturing PMI for July points to a rebound.
Chinese business conditions PMI’s softened in July with manufacturing export orders quite weak, suggesting some impact from the trade skirmish. However, the PMIs are still mostly in the range of the last 12-18 months and are consistent with a softening in growth as opposed to a collapse. Expectations for GDP growth this year remains for a slowdown to 6.5%. Meanwhile, the July Politburo meeting reinforced expectations for more policy stimulus mainly from fiscal policy. The meeting statement included 15 references to “stable”, “stability” or “stabilising” compared to an average of 6 such references in the previous 10 Politburo meetings, highlighting the greater focus on supporting growth in the face of the trade threat.
The drip-feed of escalating tariff threats from Trump and counter threats from China continues, with the US threatening that the proposed tariffs on US$200 billion of Chinese imports will be 25%, not 10%, and China announcing a list of US$60 billion of US imports to be subject to tariffs should the US proceed. With a 25% tariff on another US$16 billion of Chinese imports likely to commence soon, Trump is clearly ramping up the pressure on China but China is digging in. A tariff of this magnitude will start to have a significant economic impact on China’s growth (potentially knocking up to 0.5% off growth) and probably also on the US as well.
Australia’s ASX 200 Accumulation Index was up 1.4% for the month of July, underperforming global markets. However, for the quarter, the index was up 5.8% and the for the 12 months ending 31 July 2018 it was up 14.6%, making the Australian index one of the better performing indices globally, in line with the S&P500. The Australian dollar has continued to remain choppy and directionless, currently range-bound around the US74c level, meanwhile the yield on the Australian 10-year bond closed up at 2.73%, mirroring the weakness observed in US Treasuries prices, with the US 10-year Treasury yield moving above 3% for the first time since June.
Australian economic data remains mixed. Retail sales volumes were very strong in the June quarter, indicating consumer spending will help June quarter GDP growth, but the quarterly bounce looks distorted by food, retail price inflation is non-existent and with weak wages growth, high underemployment and falling home prices retail sales are likely to soften again this quarter. Meanwhile, building approvals rebounded in June but after several weak months leaving a weak trend, the value of residential alterations & additions and non-residential approvals trending down, private credit growth continuing to slow with investor credit contracting, July manufacturing PMIs falling albeit remaining consistent with growth and home prices falling for the ninth month in a row in July. While the June trade surplus doubled expectations, most of the surprise in relation to exports looks to be price-related and so it looks like net exports will contribute to June quarter GDP growth, but only modestly.
In Australia, average home prices are continuing to fall, led by the once booming cities of Sydney and Melbourne – with potentially more to go as tighter lending standards, poor affordability, rising supply and falling capital gains expectations take hold. With falling home prices set to drive a negative wealth effect, it’s hard to see the Reserve Bank of Australia raising rates anytime soon.
Of the 12 sectors in the Australian market, 7 sectors were higher in July with the Telecoms, Industrials and Consumer Discretionary sectors the biggest contributors, while the Utilities and Technology sectors were the biggest detractors. For the July quarter, the Healthcare, Consumer Discretionary and Energy sectors were the biggest contributors, while the Telecoms sector was the only detractor in the quarter.
The Energy, Health Care and Info Tech sectors have had the best capital gains in the 12 months to 31 July 2018, while the Telecommunications, Financials and Utilities sectors have experienced capital losses over the year.
For the 12 months to July 2018, small cap stocks (exASX100) have outperformed large cap stocks (ASX100), although gap has started to narrow in the past few months. Very large cap stocks (ASX20) have continued to lag since the middle of March, due to the poor performance of key investor portfolio stocks the banks, AMP (since removed from the ASX20) and Telstra.
ASX100 Best and Worst
Cimic Group (CIM) was the best performing stock in the ASX100 in July after releasing a strong half year result, maintaining its full year guidance and indicating a very strong pipeline of work ahead for the company with $80bn of tenders to be bid/awarded in 2018, $330n of projects in 2019 and beyond incl. $100bn of PPP projects. CIM is in a strong financial position with net cash position of $1.3bn, highlighting the potential to pursue strategic growth initiatives.
TPG Telecom (TPM) rebounded in July after it launched its wireless service over its own network, announcing it will be offering 6 months free, and A$10/month thereafter, as it seeks to rapidly grow its market share, specifically targeting Telstra customers. However, the free plan will likely place further price pressure on the industry and highlights the industry’s increasing competitive intensity.
Evolution (EVN) was the worst performer for the month after disappointing production guidance, and at a higher cost, this coming financial year, at a time when its peers have predicted more volume at flat or only marginally raised costs. With gold prices a 1-year lows and assuming consistent capital expenditure, Evolution is expected to witness a decline in financial performance.
A2 Milk (A2M) declined after providing a trading update and FY2019 outlook which indicated higher marketing expenditure given continuing investment in Australia, re-phasing of 2H FY2018 activities in China and elevated investment to support the US market expansion, in addition to higher overhead costs, primarily due to an increasing headcount for China and the Corporate office to support the increasing scale of the Company.
The QVR and Income portfolios outperformed the benchmark for the month of July and have narrowed the underperformance against the benchmark for the rolling quarter. The QVR portfolio continues to perform above the benchmark ASX200 Accumulation Index for the 12 months to 31 July 2018, although the Income portfolio has underperformed over this time period. Since inception, both portfolios have significantly outperformed the benchmark on both absolute and risk adjusted measures.
NB: Prior to March 2013, the performance of the portfolios was calculated assuming an equal weighting to each stock.
Note that it is not unusual for the Income portfolio, which is defensive in nature, to outperform the market during bear markets and underperform during bull markets. On the other hand, the Model portfolio is expected to outperform its benchmark in all market conditions over the long term.
The QVR Portfolio outperformed the benchmark ASX200 Accumulation Index for the month of July with the portfolio benefitting from our exposure to Telstra, which bounced during in the month after appearing oversold. Other positive contributors included the wealth managers Challenger (CGF) and Janus Henderson (JHG), as well as Amcor (AMC) and Ramsay Healthcare (RHC), while also benefitting from a re-rating in the bank stocks ANZ Banking Group (ANZ), National Australia Bank (NAB) and Commonwealth Banks (CBA).
Negative contributors included our exposures to Rio Tinto (RIO) which underperformed ahead of its half year result given its reliance on iron ore, with the iron ore price under pressure for a number of months. Other negative contributors were Sydney Airports (SYD) which came back after a good run the previous month, given the recent tick up in bond yields.
The Income Portfolio outperformed the benchmark this month, thanks to our exposure to Magellan Financial Group (MFG) which we added at the start of July. Other positive contributors included Telstra (TLS), Arena REIT (ARF), Tabcorp Holdings (TAH) and QBE Insurance (QBE). Our exposure to bank stocks also contributed to the Income Portfolio outperforming the benchmark
Negative contributors to performance were our exposures to the utility sector, in the form of AGL Energy (AGL) and AusNet (AST).
In the charts below, we have distinguished the Miners separately from the Materials GICs sector and the Banks from the Financials GICs sector. We remain underweight Banks in both portfolios.