Insights
Market Review for August 24
An update on the markets for August
After a volatile beginning to the month, the S&P 500 gained 2.3% in August. Local markets lagged over the month and the Australian market was flat, while the New Zealand market was up 0.3%.
Early in the month, markets were volatile as there was an unwind in the ‘carry trade'* with Japan (more on this term below). However, it only lasted a couple of days before bouncing back and fortunately having only a temporary impact on markets.
The big investment theme in focus right now is that central banks globally are starting to cut interest rates in a synchronised manner, both locally and overseas. Goldman Sachs is now forecasting rate cuts across the world over the next 12 months with New Zealand leading the pack at 1.75% of cumulative reduction. Central banks are now taking the brakes off the economy as inflation comes under control. It’s an interesting point in the economic cycle as central bankers attempt to engineer a controlled slowdown. But the risk is that we will experience a significant recession, globally hurting company profitability and global earnings in general.
One big reason inflation is slowing down is because the economy is struggling, and many households are facing financial stress. Recently, the Reserve Bank of New Zealand (RBNZ) lowered its key interest rate by 0.25% to 5.25%. They mentioned that inflation is getting closer to their target, but the weak economy means there are still a lot of unused resources and unemployment. Looking ahead, the RBNZ’s plan suggests they might cut rates by another 0.25% at each of their remaining meetings this year. If this happens, the rate could drop below 4% by the end of 2025. This will be a welcome relief for Kiwi’s and the economy.
Global Markets
US: The good news is inflation is on a downward trend: US inflation increased 0.2% in compared to 3.2% from a year ago, the slowest annual pace since early 2021. Combined with a cooling labour market, it will give US policy makers additional confidence to begin cutting interest rates this month. Most recently, US job openings, which are considered a proxy for labour demand, fell to the lowest level in more than three years. The debate amongst investors is whether the Fed will cut by 0.25% or 0.50% this month.
Canada: As generally expected, The Bank of Canada has lowered interest rates for the third time in a row, cutting them by 0.25% to 4.25%. The Bank mentioned they might lower rates even further if inflation keeps going down. They also pointed out that there isn't much sign of widespread price increases right now.
Europe: Eurozone inflation fell to 2.2% in August, supporting the case for the European Central Bank (ECB) to reduce rates at its mid-September meeting.
The flipside to the lower inflation, is that we are seeing early signs of economic weakness. The US ISM manufacturing index (a US economic indicator that measures the health of the manufacturing sector) remains depressed after registering a fourth consecutive month in contractionary territory. The survey showed companies were showing an unwillingness to invest in capital and inventory due to current federal monetary policy and election uncertainty.
Brent crude oil** traded below US$73 per barrel to fresh lows for the year. It was reported that OPEC+ members are close to agreement to delay a planned production increase amid weak global demand and increased supply. As ethical investors, we have strict exclusions around oil stocks and are not exposed to the fossil fuels sector - except for Contact who we have granted an exception too (find out more about stance on investing in fossil fuels here).
Trans-Tasman Markets
While the NZ market was up 0.3% for August, there was a big divergence in returns across stocks & sectors as investors digested company earnings announcements over the last month. A2 Milk and Spark were drags on the market, while Fisher & Paykel Healthcare and the property sector stood out positively. While the property market remains depressed, interest rate cuts have been seen as the light at the end of the tunnel for property stocks with the NZX listed real estate index up by 7% over August.
Spark NZ shares are under pressure. In August they reported that its Corporate and Enterprise Business is challenging given the weak business environment – it reported a 72% drop in full year net profit, with revenue down 14%. While the company is cutting costs, this can only go so far, and management are waiting for a rise in demand to drive sales. In times of economic uncertainty, Spark’s defensive attributes are usually valued by investors, however these soft revenue numbers show that no one is immune to a weak economy.
On the other hand, the largest company on the NZX, Fisher & Paykel Healthcare, is performing and trading at all-time highs. Their management is confident that their anticipated profit margin recovery (lower costs, higher volumes) is playing out. Their earnings are also benefiting from a strong new product cycle being supported by a pickup in hospital admissions and favorable currency movements.
Jargon Buster
* Carry Trade: A carry trade involves borrowing at a low interest rate and investing in an asset that provides a higher rate of return. A carry trade is typically based on borrowing in a low-interest rate currency such as the Japanese Yen and converting the borrowed amount into another currency that offers a higher interest rate. The proceeds can also be deployed into assets for an additional yield such as bonds, yielding equities or commodities. Initially triggered by an interest rate hike by the Bank of Japan (which meant the interest rate for borrowing Yen was higher & less attractive) which caused traders to all sell at once, and market moves were exacerbated.
**Brent crude oil: Brent crude oil is a blended oil drilled from below the North Sea and popularly refined into diesel fuel and gasoline. In trading, Brent is the leading global price benchmark for Atlantic basin crude oils. It is used to set the price of two-thirds of the world's internationally traded crude oil supplies. It is one of the two main benchmark prices for purchases of oil worldwide, the other being US West Texas Intermediate.
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