As the impact of monetary policy tightening is yet to fully play out in the real economy, there is a real risk to further slowing in economic growth and corporate profits globally and in Australia.
When people have multiple health issues, the brain tends to prioritise and focus on resolving the most acute pain first, before attending to other less important issues. An analogy that can be applied to the current market turmoil. The recent banking crises has been an acute pain point for financial markets and has been the primary focus for investors, central banks and regulators. As the intensity of the banking pain subsidies, market participants will likely refocus on other less acute economic health issues. However, based on history there may be some further issues.
Figure 1 shows the Federal Funds Effective Rate since 1955 and periods of economic recession. It highlights the unfortunate truth that most rate hiking cycles tend to be followed by recession. It highlights the difficulty faced by central banks when using monetary policy to control inflation.1 Even when recession is avoided, a slowdown of some extent is expected.
Figure 1: US Federal Reserve Interest Rates and US Economic Recessions
Source: https://fred.stlouisfed.org/series/FEDFUNDS#, Federal Reserve Economic Data, (FRED). Shaded areas indicate U.S. Recessions. Data as of 01.02.2023
In comparison to other rate hiking cycles this current one has been:
Changes in long term established trends tend to be more destabilising. The longer a trend remains in place the more we accept that it will be the case and build that assumption into our lives. So the disruption to this current 40+ year down trend may still create further economic consequences as the lagged impact of higher rates plays out.
So far the Australian equity market has been one of the best performing markets in the world and has been reasonably insulated from global markets. Figure 2 highlights the almost flat performance of the Australian S&P/ASX 300 Index, down only -0.3% compared to the MSCI World Index (-11%). It also highlights the underperformance of the US banks, the relative outperformance of the Australian banks and the positive +9% return from iron ore and steel stocks. The Australian equity market has a large concentrated weight to both iron ore and steel companies as well as the banks.
|MSCI World Index||United States / Major Banks||S&P/ASX 300 Index||Australian / Major Banks||Australian / Iron Ore & Steel|
Source: State Street Global Advisors, FactSet. *Total Return for Indices (MSCI World Index and S&P/ASX 300 Index) and FactSet industry classifications (US major Banks, Australian Banks, Australian iron ore and steel) from 31/12/2021 to 30/3/2023. Index returns reflect capital gains and losses, income, and the reinvestment of dividends. Index returns are unmanaged and do not reflect the deduction of any fees or expenses.
In the early stages of the Global Financial Crisis (GFC) the iron ore and resource related companies outperformed as indicated in Figure 3, but as the global slowdown spread, the global resource companies also derated.
Figure 3: Relative Performance of Select Indices and Industries During the GFC Period (30/10/2007 to 28/02/2009)
Source: State Street Global Advisors, FactSet. *Total Return for Indices (MSCI World Index and S&P/ASX 300 Index) and FactSet industry classifications (US major Banks, Australian Banks, Australian iron ore and steel) from 30/10/2007 to 28/02/2009. Past performance is not a reliable indicator of future performance. Index returns reflect capital gains and losses, income, and the reinvestment of dividends. Index returns are unmanaged and do not reflect the deduction of any fees or expenses.
The impact of monetary policy tightening is yet to fully play out in the real economy and there is a real risk to further slowing in economic growth and corporate profits globally and in Australia. The Australian economy has proven resilient to date but is not immune to rising interest rates especially in the rate sensitive Australian housing market.
1 The impacts of the tightening operate with long lags, with other interaction effects and come with much uncertainty.
Issued by State Street Global Advisors, Australia, Limited (AFSL Number 238276, ABN 42 003 914 225) (“SSGA Australia”). Registered office: Level 14, 420 George Street, Sydney, NSW 2000, Australia · Telephone: +612 9240-7600 · Web: ssga.com.
The views expressed in this material are the views of Bruce Apted, Head of Portfolio Management – Australia, Active Quantitative Equity Team through the period ended 30 March 2023 and are subject to change based on market and other conditions. The information provided does not constitute investment advice and it should not be relied on as such.
All information is from SSGA unless otherwise noted and has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such.
Investing involves risk including the risk of loss of principal.
Equity securities may fluctuate in value and can decline significantly in response to the activities of individual companies and general market and economic conditions. Investing in foreign domiciled securities may involve risk of capital loss from unfavorable fluctuation in currency values, withholding taxes, from differences in generally accepted accounting principles or from economic or political instability in other nations.
Standard & Poor's and S&P are registered trademarks of Standard & Poor's Financial Services LLC ("S&P") and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC ("Dow Jones") and have been licensed for use by S&P Dow Jones Indices LLC and sublicensed by SSGA. The S&P indices are a product of S&P Dow Jones Indices LLC and have been licensed by SSGA. State Street Australian Equity Fund is not sponsored, endorsed, sold or promoted by S&P Dow Jones Indices LLC, Dow Jones, S&P, their respective affiliates, and none of S&P Dow Jones Indices LLC, Dow Jones, S&P, nor their respective affiliates make any representation regarding the advisability of investing in such product(s).
MSCI indices are the exclusive property of MSCI Inc. ("MSCI"). MSCI and the MSCI index names are service mark(s) of MSCI or its affiliates and have been licensed for use for certain purposes by State Street Global Advisors ("SSGA"). The financial securities referred to herein are not sponsored, endorsed, or promoted by MSCI, and MSCI bears no liability with respect to any such financial securities. No purchaser, seller or holder of this product, or any other person or entity, should use or refer to any MSCI trade name, trademark or service mark to sponsor, endorse, market or promote this product without first contacting MSCI to determine whether MSCI's permission is required. Under no circumstances may any person or entity claim any affiliation with MSCI without the prior written permission of MSCI.
This document may contain certain statements deemed to be forward-looking statements. All statements, other than historical facts, contained within this document that address activities, events or developments that SSGA expects, believes or anticipates will or may occur in the future are forward-looking statements. These statements are based on certain assumptions and analyses made by SSGA in light of its experience and perception of historical trends, current conditions, expected future developments and other factors it believes are appropriate in the circumstances, many of which are detailed herein. Such statements are subject to a number of assumptions, risks, uncertainties, many of which are beyond SSGA’s control. Please note that any such statements are not guarantees of any future performance and that actual results or developments may differ materially from those projected in the forward-looking statements.
This material is general information only and does not take into account your individual objectives, financial situation or needs and you should consider whether it is appropriate for you.
The whole or any part of this work may not be reproduced, copied or transmitted or any of its contents disclosed to third parties without SSGA Australia’s express written consent.
© 2023 State Street Corporation. All Rights Reserved.
Expiry Date: 31/03/2024