14 August 2017
Over the last week Australian shares lost ground, down 0.4%. Shares in developed countries declined by 1.5% and the US market fell 1.4%. Shares in emerging markets ended their four week rise with a fall of 2.3%. The Australian dollar slipped back 0.4% to 78.94 US cents. The 10 year bond yield in Australia ended 0.03% lower at 2.58%, while in the US the 10 year bond yield closed the week 0.07% lower at 2.19%. The oil price declined by 1.5% to 48.82 US dollars per barrel.
Economically, we have a picture of emerging positive synchronised global growth. This isn’t something that we have seen at any point over the last five or even 10 years. However most of the world’s major economies are experiencing reasonable levels of positive economic growth.
The economic growth rate over the last 12 months for both the US and Europe is 2.1%, Japan has a growth rate of 1.3% while China’s growth rate is a very strong 6.9%.
What has driven economic growth amongst the major countries? The impact of record low interest rates, which have been in place for a long time, is the largest driver. In Europe and Japan interest rates are around zero, and in the US they are just above 1%. In China official interest rates are just above 4%. Low interest rates make it cheaper for businesses to borrow to invest and lower borrowing costs for home purchasers.
Another contributor to economic growth in Europe and Japan has been currency weakness relative to the US dollar. From the end of 2014 through to the end of 2016 the Euro and the Yen fell around 20% against the US dollar, making their exports much more competitive.
Of course this may just be a false dawn – the signs of synchronised growth seen in the data may peter out. Two key risks to the synchronised global growth story are the natural rebalancing mechanisms that exist in economics: interest rates and currency. Improved economic conditions provide the opportunity for central banks to increase interest rates, which could dampen economic growth. Meanwhile in recent times the US dollar has fallen in value, regaining export competitiveness against Europe and Japan.
We watch this situation closely, with the belief that long term economic performance affects the return on assets. However it’s not the only factor – valuations in our view are just as, if not more, important. Our core scenario remains that the world will muddle through. This implies that at least one of the world’s major economies will experience some weakness and that what we’re seeing at the moment may be a false dawn. Nonetheless, it’s nice to be writing about the possibility of a positive global scenario!
David Bell | Chief Investment Officer