Australian growth slows as expected; while market sentiment turns

Australian GDP data was the highlight of the economic calendar yesterday.

Source: Bloomberg

Aussie growth underwhelms

Australian GDP data was the highlight of the economic calendar yesterday. All-in-all, the data was of minimal impact, though it did for make big headlines: the growth rate came-in at 1.8% on an annualized basis, as expected – the slowest rate of economic growth since the GFC. A poor print undoubtedly, but one that had been priced into the market well in advance. Hence, markets were little moved upon the release. The ASX 200 hardly budged. The Australian Dollar lifted very slightly, and temporarily tussled with the 0.7000 handle. And interest rate markets increased very marginally the probabilities of more RBA cuts by year-end.

Where the weakness is

The data was more of interest for economists and other pedants. And there were some interesting takeaways from the release. As is well known, one of the major headwinds for domestic growth is private consumption, which continued to show signs of slowing. The savings ratio also lifted, as consumers seemingly opted to defer spending and pocket their modest pay rises. More than just demand side concerns, there was also a noteworthy drag on growth from the supply side. Dwelling investment also contracted in the last year, in line with what has been a well-publicised slowdown in construction activity, and sustained falls in the property market.

Where growth is coming from

The GDP data wasn’t without its silver linings, of course. A series of factors leapt-out as the primary drivers of growth in the Australian economy in the past 12 months. It was largely improvements in the nation’s terms of trade, courtesy of the major multi-month rally in iron ore, followed by big government spending measures, mostly in form of the NDIS and other health services, that proved the greatest contributors to growth. Though welcomed, to be sure, the areas of Australia’s economy sustaining growth speaks of a country currently working below its capacity, and in need of some sort of a boost.

Why the RBA is cutting rates

It’s this dynamic that explains, and perhaps even vindicates, the RBA’s decision to lower interest rates on Tuesday. Domestic economic conditions are weak (and likely softening), and requires a little policy support, from central bankers and government alike, to stimulate ongoing employment and GDP growth. Based on such a logic, the pricing-in of interest rate cuts into the back end of the year appear highly rational. And this seems especially so when considering that (as was alluded to by the RBA on Tuesday afternoon), international economic growth is likely to slow, if not falter, due to the pernicious consequences of an escalating global trade-war.

Risk-appetite lifts overnight

Which leads to the overnight price action in North America, and to a somewhat lesser extent, Europe. Risk appetite has been piqued by news that US President Donald Trump stated his belief that Mexico wants a trade-deal to happen, as well as comments from Trump trade-advisor Peter Navarro that the tariffs on Mexico may not have to go ahead. The headlines (and really, for now that’s all they are) stoked a rally in US equity indices; catalysed a fall in the VIX; lead to a narrowing of corporate credit spreads; and provided room for a bounce in the US Dollar,

Sentiment improves, fundamentals haven’t

The question becomes now whether we’ve put-in a new low in global equities, or whether this is just a little fake-out. There is lingering suspicion that it may be closer to the latter, given the fact that although friendly words are being passed between the Americans and Mexicans, nothing has truly changed yet. Even more to the point, the Americans and Chinese have in no way thawed their present animosity towards one another. It suggests that although market sentiment has clearly improved in the last few days, the fundamentals haven’t changed. They could, by all means: but signs of that aren’t here yet.

The better measures of fundamentals

Probably the more pertinent facts here, too, is US stocks’ rally is very “defensive” in nature, and has been ignited mostly by an ostensibly dovish pivot from the Fed. Despite all the confidence that markets have reached a fresh turning point, US Treasuries are still rallying, especially at the front end of the curve. It suggests that the market is assuming the Fed will cut aggressively, and soon, to try to engineer a “soft-landing” for the US economy. The sectors in the S&P 500 that have outperformed overnight are safe, yield-generating stocks – not those typically tied to greatest optimism about fundamental economic growth.


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