While the recent rebound in shares has come on good breadth (i.e. strong participation across sectors and stocks) and is confirmed by markets like credit and a rally in “risk on” currencies, it’s too early to say that we have seen the lows. Global growth could still slow further in the short term and there is a bunch of issues coming up that could trip up markets, including US December quarter profit results, trade negotiations, the US government shutdown, the need to raise the US debt ceiling, the Mueller inquiry, Brexit uncertainties, the Australian election, etc. So markets could easily have a retest of the December low or make new lows in the next few months.

However, our view remains that the falls in share markets – amounting to 18% for global shares, 20% for US shares and 14% for Australian shares from their highs last year to their December lows – and any further falls to come in the next few months are unlikely to be the start of a deep (“grizzly”) bear market like we saw in the GFC and that by year end share markets will be higher. The main reason is that we don’t see a US, global or Australian recession any time soon, as monetary conditions are not tight enough and we haven’t seen the sort of excesses in terms of debt, investment or inflation that normally precede recessions. In relation to this, the following points are also worth noting: 

1.     The US share market has seen six significant share market falls ranging from 14% to 34% since 1984 that have not been associated with recession & saw strong subsequent rebounds.

2.     Each of these have seen some sort of policy response to help end them and on this front recent indications from the Fed including Fed Chair Powell about being patient, flexible and using all tools to keep the expansion on track are consistent with it pausing its interest rate hikes this year, Chinese officials are continuing to signal more policy stimulus including cutting banks’ required reserve ratios and we expect the ECB to provide more cheap bank funding.

3.     Negotiations between the US and China on trade look to be proceeding well although they are still at early stage and won’t go in a straight line. China in particular announced more tariff cuts and a commitment to treat foreign firms equally.

4.     President Trump wants to get re-elected in 2020 so he is motivated to do whatever he can to avoid a protracted bear market and recession and this includes seeking to resolve the trade dispute and ending the partial government shutdown before it causes too much damage.

5.     While the oil price has bounced off its lows it’s still down 30% from its high taking pressure off inflation and providing a boost to spending power.

6.     A year ago investors were feeling upbeat about 2018 on the back of US tax cuts, stronger synchronised global growth and strong profits and yet 2018 didn’t turn out well. So, it may be a good sign for 2019 from a contrarian perspective that there is now so much uncertainty and caution around.

Australian economic data over the last three weeks has been soft, with weak housing credit, sharp falls in home prices in December, another plunge in residential building approvals pointing to falling dwelling investment (see chart), continuing weakness in car sales, a loss of momentum in job ads and vacancies and falls in business conditions PMIs for December. Retail sales growth was good in November but is likely to slow as home prices continue to fall. Anecdotal evidence points to a soft December and reports of slowing avocado sales – less demand for smashed avocado on rye? – may be telling us something. Income tax cuts will help support consumer spending, but won’t be enough so we remain of the view that the RBA will cut the cash rate to 1% this year.

Source: ABS, AMP Capital

Another blowout in bank funding costs is adding to the pressure for an RBA rate cut. The gap between the 3-month bank bill rate and the expected RBA cash rate has blown out again to around 0.57% compared to a norm of around 0.23%. As a result, some banks have started raising their variable mortgage rates again. This is bad news for households seeing falling house prices. The best way to offset this is for the RBA to cut the cash rate as it drives around 65% of bank funding. 

Source: Bloomberg, AMP Capital