Market Commentary

The S&P/ASX 200 Accumulation Index returned -1.8% during the month.

The Australian equities market weakened in September, underperforming global markets. In major global developed markets, Japan led returns with the Nikkei 225 up 5.5%. The UK FTSE 100 returned 1.0% followed by the US S&P 500 and the Euro Stoxx 50 which returned 0.4% and 0.2% respectively.
During the month, the Reserve Bank of Australia (RBA) maintained the cash rate at 1.50%. The RBA continues to maintain its view on the economy with global growth continuing and global inflation remaining low.

Domestic economic data releases were mixed in September. GDP growth in the June quarter was ahead of expectations, recording growth of 0.9%. The annual rate was up 3.4%, the fastest annual expansion rate since Q3 2012. Employment rose by 44,000 positions in August (mostly in full-time positions). Meanwhile the unemployment rate remained steady at 5.3%. The NAB Survey of Business Conditions rose to +15 in August, however business confidence fell 3 points to +4, the lowest level since 2016. Retail sales disappointed, with a flat result for July.

In stock specific news BHP Billiton shares rose 7.2% following its announcement that it purchased a 6.1% stake in LSE-listed SolGold, which owns the highly prospective Cascabel copper/gold project in Ecuador. At the end of the month headlines were dominated by the release of the Royal Commission’s Interim Report with the banking sector bearing the brunt of the Commissioner’s criticism.

Sector returns were mostly negative in September. The best performing sectors were Energy (4.3%), Materials (4.2%) and Telecommunications (2.7%). Information Technology (-0.9%), Real Estate (-2.1%), Financials ex Real Estate (-2.2%), Industrials (-2.2%), Consumer Staples (-2.7%), Utilities (-3.3%) and Consumer Discretionary (-4.2%) were all negative. The Healthcare (-7.7%) sector was the worst performing sector during the month.

The Energy and Materials sectors outperformed the market benefitting from a rally in commodity prices and also from an easing in the negative sentiment surrounding global trade concerns. Key drivers in the Energy sector were Woodside Petroleum (4.6%) and Santos (7.1%). Materials sector heavyweight BHP Billiton (7.2%) rallied on a combination of commodity price increases including oil and the likelihood of a large capital return later in the year post closure of the US oil asset sale. Rio Tinto (8.3%) saw strong performance following its announcement of details as to how it will return approximately USD 3.2 billion of post-tax coal disposal proceeds to shareholders.

The Financial sector was dominated by the release of the Royal Commission’s Interim Report into the Finance Industry at the end of the month. The Commonwealth Bank (0.2%), ANZ (-4.5%) and Westpac (-2.1%) all increased their home loan rates, citing increased funding costs. NAB (-2.0%) went against the grain and kept their rates unchanged in an attempt to gain market share. Insurance stocks suffered following the conclusion of round 6 of the Royal Commission which focused on the insurance industry.

The Consumer Staples sector underperformed the market in September. Aristocrat Leisure (-10.0%) was a key laggard following some market participants downgrading earnings, based on higher expected research and development expenses.

The Healthcare sector was the worst performer in September. CSL (-11.5%) was the key detractor, winding back last month’s gains. Furthermore the announcement of a Royal Commission into aged care also negatively impacted the sector.

Outlook

Global growth continues to show positive signs, confirming the debt deflation cycle is rolling over to a more traditional industrial cycle. Global PMI data has retracted slightly, but continues to support the first synchronised global growth cycle seen in many years and this is being reflected in strong earnings growth. However, geopolitical risks will continue to weigh on the market. The Trump initiated trade dispute is ongoing as the US continues to introduce new trade tariffs.

In China, the 19th Party Congress charted a course that involves less pollution, less reliance on property construction and further increases in the services sectors that should result in a more balanced economy. The expectation is that over the next five years, fixed asset investment will slow and GDP growth will move from around 6.5% to circa 5% as China’s economy becomes consumption driven.

During the latest reporting season, high growth, high PE names were squeezed higher, often on poor results and outlooks. It seems the market is becoming lost in its desire to chase growth, with little or no attention to the price they are paying. The divergence between value and growth stocks has been widening over the past five years and has certainly picked up over the past 12 months. This reporting season has seen this divergence take a further incredible step up with the top PE quintile stocks expanding their 1 year forward PE by a further 10%, despite earnings in fact falling by 2-3% on average.

We maintain our view that a retracement of this bubble-like trend must be a high probability given the extreme levels we are seeing. We believe that the rotation towards cyclicals and value, albeit stalled, still has some way to go and should be driven by rising global inflation, and therefore earnings growth in the more economically-sensitive sectors.