THE SHERWOOD OVERNIGHT UPDATE REPORT 2nd December 2014 Weak regional PMI results in Europe and China weigh on regional markets. Summary • Regional sharemarkets began the new month on a cautious note as oil prices stabilised, but worryingly soft regional economic data weighed on sentiment and saw indices in all regions move lower. Regional PMIs all declined in November with only the US coming in ahead of expectations. Indeed, the final reading for Europe decline to 50.1 which is barely in expansion territory with activity contracting in Germany, France and Italy despite lower energy prices, zero interest rates and a lower currency. Meanwhile, an early further decline in oil prices made way for some solid purchasing as fund managers went long which pushed WTI up about +3%, but this didnt prevent the Russian Rouble declining to fresh all-time lows against the US dollar. Elsewhere, Japanese government debt was downgraded one notch by Moodys (with a stable outlook) amid concerns about growth and debt sustainability, which sparked a wild night for the Yen. Within the last hour of trading in the US session, the MSCI World Index is lower (-0.7%) with losses in Asia (-1.0%), the US (-0.6%) and Europe (-0.5%). • In other financial markets, 10-year government bond yields were mixed but movements were restricted to within a few basis points as investors wanted to remain near recent lows as economic data disappointed expectations (US Treasuries up to 2.21%, UK gilts lower at 1.89% and Japanese bonds closed slightly higher at 0.424%), high beta currencies had a wild ride but have closed higher (AUD +0.1% to 85.07 and the Euro +0.3% to 124.79) and commodities were higher: • gold +3.5% to USD1,217 per troy ounce. • oil +3.4% to USD68.37 per barrel. • Dr copper +1.8% at USC290 per pound. • base metals were mostly higher. • The SPI suggests that the Australian market will open +7 points higher (+0.1%) at 10am AEST. Market news • Asia - Asian sharemarkets closed lower on Monday as the November Chinese PMI headlined a very busy data day and indicated that the Chinese economy remained sluggish. This weighed on market sentiment but bank prices defied the broader market trend after Chinese authorities released plans to insure deposits. In contrast, the Hong Kong exchange led the pace of regional declines yesterday as violence between police and pro-democracy protesters flared up which sparked increased selling by investors. Meanwhile, weaker commodity prices continued to drag the Australian market down, but share prices in Japan benefited from a weaker Yen and culminated in the market being the only advancer in a tough day for investors. After trading closed, Moodys downgraded Japans sovereign debt rating one notch to A1 with a stable outlook but this wont upset the marginal buyer (namely the BoJ) and by the regional closing bell in Mumbai, the MSCI Asia Index was lower (-1.0%) with declines in Hong Kong (-2.6%), Australia (-2.0%), Singapore (-1.3%), Taiwan (-1.1%), Korea (-0.8%), India (-0.5%) and China (-0.1%) offset by an advance in Japan (+0.8%). In the local market the S&P/ASX 300 Index was -105 points lower (-2.0% to) which represents the second largest daily price decline in 20 months, with all ten sectors closing in the red led by energy (-6.4%), materials (-4.9%), IT (-3.2%) and consumer discretionary (-1.9%). • Europe - European markets closed lower to open the new month, but indices ended well north of their intraday low. Regional manufacturing PMIs for November were the primary focus for investors and there was sour readings with activity contracting in Germany, France and Italy, which combined with a weak expansion in China suggests that there are major drags on global growth. Meanwhile, energy stocks remained under pressure given trends in the price of Brent Crude although things closed in positive territory despite some large early losses. By the regional close, the EuroStoxx Index was lower (-0.5%) with gains in utilities (+0.4%) and healthcare (+0.1%) offset by losses in consumer discretionary (-0.2%) and telcos (-0.9%), energy (-0.9%) and banks (-1.5%). In the major markets, the pace of decline reflected exposure to energy stocks and was led by the UK (1.0%), whereas France (-0.3%) and Germany (-0.2%) recorded more sedate declines. In the periphery markets performance was more downbeat and mixed with losses in Italy (-1.6%), Portugal (-1.3%), Spain (-0.9%) and Ireland (-0.1%), whereas Greece (+0.04%) closed just above the break even line. • US - on Wall Street, with 45 minutes left to trade US equities are trading lower for a second consecutive session. The primary driver of trends overnight was weak regional PMI results in China and Europe, which suggested that global growth is more subdued than current earnings expectations suggest. Flat activity in both regions stood in stark contrast to the continuing strong expansion in the US, where activity was slightly lower in November but remains consistent with growth around +4%. There wasnt much other news around but oil prices seemed to stabilise for the time being which enabled investors to put some cash to work, and within the last hour of trading, the Dow Jones Industrial Average is down -36 points (-0.2% to 17,792), with the S&P 500 (-0.6% to 2,055) and the NASDAQ (-1.3% to 4,731) underperforming as nine sectors in negative territory led by materials (-1.4%), industrials (-1.3%) and consumer discretionary (-1.0%), whereas utilities (+0.6%) was the sole advancer. Major economic news • Australia/Asia - Both the official and HSBC China PMI indicated persistent sluggishness in the Chinese economy and suggests that interest rates will have to be cut deeper and fiscal policy ramped up to stabilise the growth outlook. The official number was just in expansionary territory (50.3) and came in below expectations and the October result (50.8), with all of the sub-indexes (other than delivery times) declining over the past month with new export orders, prices and employment all in contraction territory. Meanwhile, the HSBC survey was in line with a flash reading right on 50 with the output sub-index declining below 50 for the first time since May. Clearly more policy support is needed and expected here to support growth, but in many ways this is trying to prevent the inevitable, as Chinas growth is slowing structurally and this will continue even if official interest rates and reserve requirement ratios are further reduced. Meanwhile, a China Real Estate Index Survey found that home prices fell -0.4% in November on average, which was in line with the decline in October, but 76 cities recorded declining price in November relative to 73 in October. • Europe - Final November manufacturing PMI results in Europe came out at 50.1 relative to a flash estimate of 50.4, which indicates that Europe remains very close to contraction territory. In a positive sign, activity in several formerly stressed periphery countries recorded strong activity expansion in Ireland (56.2 relative to a prior reading of 56.6 and expectations of 55.8) and Spain (54.7, 53.1, 52.6), with Greece inching closer to expansion territory, (49.1, 48.8, 48.9) but Germany (49.5, 50.0, 50.0), France (48.4, 47.6, 47.8) and Italy (49.0, 49.5, 49.0) all were in contraction territory, which suggests that Europes problems have now spread deep into the core economies. • US - US factory activity moderated slightly in November according to the ISM manufacturing index, but solid gains in new orders and exports suggests the US economy remained on a firmer footing despite slowing global growth. The national wide index declined fractionally to 58.7 last month as the pace of restocking slowed, but that is only slightly below a 3½-year high of 59 in October and is indicated of US growth around +4%. This indicates that despite a faltering global economy and a higher exchange rate, US manufacturing activity and the broader US economy continue to improve despite concerns that weak global demand was undercutting US manufacturing after data last week showed a second straight month of declines in planned business spending on equipment in October. Major data releases Australia/Asia • Economics - December RBA Australian interest rate decision (Nov: 2.5%) and October Australian building approvals (Sep: -11.0%). • Equities - no major releases. Europe/US • Europe - November UK construction sector PMI (Oct: 61.4). • US - no major releases. What is the key investment message overnight? Despite a pause overnight in regional oil prices, the Australian resource sector is haemorrhaging at present and investors have been asking what has changed in this space all of a sudden. The short answer is nothing. Things have been changing over a considerably longer period of time and this is only now being factored into share prices. For example, the gold price has declined by -33% over the past 18 months, iron ore is down -47% over the past 11 months and oil has declined -38% in five months, which means that the downward price trend has been well established. However, demand growth is now starting to be questioned and this has sparked large concerns about earnings expectations. Nonetheless, the commodity super cycle’s positive impact on commodity prices and its flow through effect to profits has run its course and now valuations are being brought down is a very abrupt manner. With OPEC seemingly now set to keep supply elevated and oil prices low to squeeze out new US shale producers, there is a clear list of winners and losers. The ultimate losers are energy and commodity producers and their shareholders and the winners are stocks exposed to the consumer space. In this way, investors are being reminded about a far longer super cycle, and that is the power of traditional industrial shares with companies with dominant market positions and robust operating models being increasingly rewarded even though the Australian economy remains subdued. This type of high quality company is able to defy a weak global and domestic environment given their strong operating model, whereas resource companies with high quality ore bodies and low extraction costs are still being sold down heavily as commodity prices continue to decline. A very smart investor once said to me that greatest advancements in mankind reflect manufacturing, intellectual and technological expertise and that is why industrials shares outperform over the long run. These companies are the long term wealth creators and this fact has been evident in Australia since 1875, which is a far longer super cycle than the resource sector has ever enjoyed. Regards, Matt Sherwood Head of Investment Markets Research
Posted on: Mon, 01 Dec 2014 23:39:43 +0000
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