20 Aug Capital 19 Catch-Up
Weekly Index Movement
|Aussie All Ords
Both the US and Australian share markets fell last week. But for different reasons.
The US is adjusting to the idea interest rates will remain high for a lot longer. Australia is adjusting to the fact their major trading partner seems to be going backwards.
Neither market is in free fall so this is your garden variety pullback in a bull market. It’s a good buying opportunity so you can position for the inevitable end of year rally that is coming.
I came across a new data stream this week that explains exactly why the market had such a good run from May to end of July.
It’s all because the fundies got worried about their bonuses and went on a FOMO (Fear Of Missing Out) run. Heaven forbid they fall behind the market and have to spend their summer at their desks rather than playing tennis in the Hamptons.
This is State Street’s index of institutional investor risk appetites index. Think of it as the big boys buying gauge.
When the blue line is rising/falling big boys appetite to buy stocks is increasing/decreasing.
The long run basics of this data are exactly what you would expect. Buying appetite was markedly low in February of 2020 as the world fell to Covid. But rebounded quickly when central banks everywhere gave out free money. Sentiment remained strong throughout 2021 until inflation suddenly wasn’t transitory anymore in 2022.
Curiously, as the market rallied in 2023 the big boys remained negative and did not believe it. But something changed in May of 2023 after the market had already moved higher. They suddenly became risk-on and chased stocks even higher. They were so far behind the market they had to do something so panic set in and they hit the buy button.
And look where they are now.
It’s hard to think they will become even more bullish at this point. This means we are likely to see more weakness over the next 4 – 6 weeks until prices become more attractive again and the cycle will repeat.
China Looking Worse and Worse
Stocks in both Australia and the US got worried about China last week. When the world’s second biggest economy slowed.
Several factors have contributed to the downbeat tone including some very weak economic data (Retail Sales, Industrial Production, and Unemployment). One notable aspect that was missing from the Chinese employment data was the youth unemployment rate. In June, the rate of joblessness for those aged 16 to 24 was 21.3%, but with the latest data release, the Chinese authorities said they would temporarily stop releasing the data so that it could be refined. Don’t worry though, one official assured us that the situation was ‘generally stable’.
You’ve got to love the Chinese. Bad data – just stop reporting it then it doesn’t matter anymore right?
China’s authorities responded to another burst of dire news on the economy with a well-honed playbook: They cut interest rates and withheld some potentially embarrassing economic data. The trouble, say investors and economists, is that lower borrowing costs and greater opacity aren’t what China needs to reignite growth and restore vanishing confidence in its economy. China’s economy is staggering under an array of challenges, including a drawn-out real-estate crunch, worsening relations with the U.S.-led West and difficulties in nurturing a consumer-led expansion while the usual growth engines of investment and exports misfire. Gauges of consumer spending, industrial production, and public and private investment in China missed expectations by a wide margin in July.
This is obviously bad news for all Australians, in particular our big miners. BHP makes the majority of its profit from Iron Ore which has fallen 12% in August. BHP actually announces profits on Monday so it will be interesting to see if they are experiencing any slow down in sales.
Lastly this gloomy week we turn our attention to inflation. You will have read in prior Catch-Ups that I am concerned inflation will return.
Seems central bankers agree with me now.
RBA Governor Philip Lowe showed that he doesn’t trust the underlying disinflation in his final opening statement to the House of Representatives Standing Committee on Economics, and talked about the possibility that inflation is “persistent” … IF productivity growth doesn’t go back up.
He said: “The RBA’s forecasts have been prepared on the basis that growth in productivity picks up to be close to the rate in the years before the pandemic, which would contribute to a moderation in growth in unit labour costs and thus inflation. If this pick-up in productivity does not occur, all else constant, high inflation is likely to persist, which would be problematic.
“One related concern is that persistent high inflation could see inflation expectations adjust upwards. At the moment, medium-term inflation expectations remain well anchored, which is positive. But the longer inflation stays high, the greater the likelihood that businesses and workers will come to doubt that inflation will return to target and, in response, they will adjust their behaviour.”
And in the Fed minutes in the US on Wednesday, there was this
“Fed officials see ‘upside risks’ to inflation possibly leading to more rate hikes”
You know what to do about this risk. Buy Energy stocks. I gave you a list of good ones two weeks ago.
One final piece to end the week on. Another point I am worried about and have written about in the past. Commercial Real Estate.
If you haven’t seen me harp on about this before, the basics are, office blocks around the world are running at 50% vacancy. Office blocks are valued based on the rental income they receive. If you are only running half rents, then your value is half. What happens if you tell the bank the asset they have loaned you billions against is only worth half as much today as it was a couple of years ago?
Be very careful if you have exposure to this. Think REITs and industry super funds.
Well, this topic came up in the same Fed minutes as fears of rising inflation last week.
Specifically, officials cited “risks associated with a potential sharp decline in CRE valuations that could adversely affect some banks and other financial institutions, such as insurance companies, that are heavily exposed to CRE. Several participants noted the susceptibility of some nonbank financial institutions” such as money market funds and the like.
It feels like I’ve been very negative this week. Please don’t misread this. These are only concerns and might never come to pass, so don’t run out and sell all your stocks. But sticking your head in the sand is never the best approach either. Adding hedges like energy stocks is the way to go and reducing exposure to Commercial REITs if you have them.
All eyes next week will be on Nvidia as the flagship AI stock which reports earnings on Wednesday. There are some big expectations here. Can it jump the high bar that has been set?
Stock values can go down as well as up. It is possible to lose 100% of your investment in a stock. Any advice given by Capital 19 is general advice only and does not take your personal circumstances into account and might not be suitable for you.