Global markets were mixed as COVID again took hold in Europe and politics dominated in the US. Investors were disinclined to take on risk as uncertainty and market volatility grew prior to the US election day.
In this environment, the Australian Equity market performed well, up 1.9%, while Global markets were down 3.2%. With the A$/US$ declining 0.9% to $0.704, unhedged global equity exposures performed slightly better at negative 1.1%.
The more stable asset classes continue to deliver small gains and losses from month to month, reflecting the exceptionally low interest rate environment. Australian Fixed Interest delivered a small positive but Global Fixed Interest only managed to equal cash at0%. Global Property and Infrastructure were comparably weak with Property giving up some of the gains of recent months.
Iron Ore prices were weaker after a strong performance this year, falling approximately 4%, but stabilising at the end of the month. Prices for steelmaking coal fell 14% while energy coal dropped 5%. These all reflected increased stockpiles at Chinese ports following a period of increased import volume. Oil prices also fell 12%as demand remains weak and short term supply plentiful.
October monthly returns were more diverse than usual with Germany the stand-out negative as COVID cases jumped followed by the UK as the spread of the virus accelerated there also. Lockdowns in these countries and in other parts of Europe continue to undermine economic performance and investor confidence. Chinese and Hong Kong markets reflected the more positive economic data in the region - assisted by a correspondingly better experience of COVID in recent times.
US markets remained dominated by the large tech stocks which were weaker in October. Only Google delivered a significant positive return (up 10.3%) but this did not offset weakness in the broader market this month. Investors have been discouraged by the US leadership’s inability to deliver ran additional fiscal stimulus package.
The Australian market rose 1.9% in October, with another top performance from the IT sector helped by positive business updates from Afterpay (APT, up 20.9%) and strong price returns from Xero (XRO, up 9.3%). Returns from Financials improved with bank stocks delivering a 7.5% gain prior to full year reports from ANZ, WBC and NAB. The market was also lifted by improving COVID data in Victoria and the associated reduction of restrictions on gatherings.
Resources and Energy were held back by the weaker commodity prices noted above, with Utilities weaker as both energy prices and demand in some categories remained weak. Industrial companies are broadly still seeing weak trading conditions due to virus related demand issues. However, consumer and business confidence indicators have rebounded. With the Reserve Bank (RBA) announcement on Melbourne Cup Day, consumer demand may continue to support earnings from selected Staples and Consumer Discretionary companies.
Fixed Interest & Currencies
There was some upward movement in US bond yields over October, with higher expectations for inflation pushing the U.S.10 year Treasury Bond yield up from 0.69%to0.88%. Locally, however, bond yields were little changed as the money market anticipated the major policy change announced by the RBA in early November. This announcement saw a cut in the cash rate from 0.25% to0.10%. This cash rate is expected to remain in place “for at least three years”.
There was a commitment to purchase government bonds at auction with a spending target of $100bn over the next six months - in addition to existing commitments. The RBA will also aim to move the interest rate curve down with a new target for 3 year government bonds set at 0.10%. The bank hopes that this will underpin a slow recovery in employment over the next three years. It seems likely that returns from fixed interest, and interest rates generally, will remain exceptionally low for some time.
It is also probable that the RBA would prefer the A$ not to appreciate significantly from here, with the currency valuation also being part of the rationale for the latest policy change. The combination of a weakening in key commodity prices and the expectation of the fall in local interest is likely to have contributed to the depreciation in the A$ recorded over October.
Outlook and Portfolio Positioning
The further loosening in monetary policy announced by the Reserve Bank has pushed both cash and longer term yields down to be now very close to zero. Increasingly, any real returns generated from defensive fixed interest assets can only come from active management i.e. the alpha produced by fund managers. Some migration in asset allocation away from cash towards actively managed fixed interest and alternative asset classes may need to be considered.
From a longer-term perspective, the gap between expected returns from equities and interest bearing assets has continued to widen. In the shorter term though, equity market sentiment can be expected to swing between positive encouragement from the maintenance of a low interest rate environment and the negative impact of the worsening COVID infection rate. Whilst the result from the U.S. election has removed one source of uncertainty, there remains huge variability in the potential scenarios playing out in the year ahead. The timing of a vaccine, the degree of inflation impact from unprecedented levels of government spending and the exact policy initiatives of the new U.S. administration (still with doubt over ultimate Senate control) are all key unknowns. Given the potential significance of these unknown factors, caution should be applied to any aggressive expansion in equity allocations at a time when many parts of the equity market are trading near record highs.
Within Australia, it could be argued there are fewer unknowns in the period ahead. COVID infections appear under control for the time being and the household sector, at an aggregate level, is well placed for a period of strong spending given high levels of confidence and the boost to incomes funded by government support payments. The housing sector is also showing resilience, both in terms of prices and new lending activity, which should help support the performance of various sectors on the Australian market, including the banks. As valuations on the Australian share market are not as stretched as those prevailing on some overseas markets, the relative attractiveness of the local market may have improved over recent months.