Property investors are more likely to support foreign investment in the property market than people without such investments, we have found in a survey of Sydneysiders’ views about foreign real estate investment. Perhaps more surprising, would-be buyers, who might be expected to worry about demand pushing up prices, were also more likely to be supportive than those who were not looking to buy a property.
We reported previously that over 60% of Sydneysiders do not want more individual foreign investment in residential real estate in Sydney.
Within this context, we surveyed almost 900 people in Sydney to examine the relationships between home ownership, real estate investment, housing stress and views about foreign investment. Our analysis shows:
Those who have property market investments are more likely to be supportive of foreign investment than those who don’t have such investments.
Comparing those who are in housing stress to those who are not in housing stress, there are no significant differences in the two groups’ beliefs about foreign real estate investment.
One group with a strong interest in Sydney’s real estate market are local real estate investors. We were interested in whether those with investment properties and those without differed in their views about individual foreign investment in residential real estate.
We found those with investment properties were likely to be more supportive of foreign investment in Sydney’s housing market than those without investment properties.
For example, 29% of the investment property owners agreed that “foreign investors should be able to buy properties in Sydney” compared to 17% of those without investment properties. They were similarly supportive of foreign students being allowed to buy properties while studying in Australia, with 32% agreeing with this compared to 19% among those without investment properties.
Property investors were more positive about the government’s regulation of foreign investment as well: 28% agreed it has been effectively regulated, compared to 16% of those without investment properties.
House hunters’ views
House prices in Greater Sydney have increased rapidly over the last decade and household debt has grown too.
We might expect people who are actively looking to buy a property to be particularly concerned about foreign real estate investment, as they may feel they are competing against and being priced out of the market by foreign buyers.
For this reason, we asked survey participants whether they were actively looking to buy a property. In response, 23% said they were. Of this group, 31% agreed that foreign investors should be able to buy properties in Sydney, compared to 15% of those not looking for a property.
Housing-stressed households’ views
Increasing mortgage and rental costs are a source of discontent within Sydney’s population. Measurements of housing stress are disputed, but are nonetheless used to give a comparative value to how hard it is for a household to meet housing costs. A ratio of housing costs to income of 30% and above is a common benchmark for housing stress.
Using this measure, we found that more than half (52%) of our survey participants were experiencing housing stress. Another 33% spent less than 30% of their income on their housing and 15% indicated they did not know.
Comparing those over the 30% threshold with those who spend less of their income on housing, we found no significant differences in beliefs about foreign real estate investment.
Other drivers of concern
We found those who are active in the local real estate market remain concerned about foreign investment in general.
If housing stress levels do not lead to differences in attitudes to foreign investment, as our findings suggest, cultural or other factors may be at work in the general discontent about foreign investors in Sydney.
We need to investigate further how being active in the housing market informs Sydneysiders’ views about the right of foreign investors to use real estate as a vehicle for growing capital.
Sydneysiders with equity in the housing market, such as home owners or investors, might view foreign buyers pushing up housing values as positive. As a result, they might fear that restricting foreign investors might depress their assets.
If this type of shared commitment to real estate investment were present across the domestic-foreign investor divide, this could reinforce the idea of treating real estate as an asset class at the global scale, while cultural tensions between foreign and local investors remain at the local level.
Authors: Dallas Rogers, Program Director, Master of Urbanism. School of Architecture, Design and Planning, University of Sydney; Alexandra Wong, Engaged Research Fellow, Institute for Culture and Society, Western Sydney University; Jacqueline Nelson, Chancellor’s Postdoctoral Research Fellow, University of Technology Sydney
The latest US data shows mortgage rates in the US continue higher. And more to come.
Here is the latest commentary from the Mortgage Rates Newsletter.
Let’s clear one thing up before we begin. Freddie Mac, MBA, and Ellie Mae all noted new 4-year highs in mortgage rates this week. They are all technically wrong. This has to do with the way their data is collected and/or averaged. And while I have no doubt that they are accurately conveying the results of their data collection efforts according to their methodology, there is a more accurate way to do things. Specifically, we can track actual lenders’ rate sheets every day.
Even if we take an average of that daily data, we still find that rates aren’t quite back to 4-year highs just yet. Depending on the lender, these occurred on one of the days near the end of February. In fact, some lenders’ rates from March 21st are still higher than today’s. Are we talking about very big differences between now and then? Not at all! But if we’re going to talk about rates hitting 4-year highs, we might as well be precise about it.
One thing everyone can agree on is that today’s rates are higher than yesterday’s, which in turn, were higher than Wednesday’s. The lion’s share of that move higher happened yesterday, but today’s underlying bond market movement suggests there’s a bit more pain yet to be priced-in to the average lender’s mortgage rate sheets.
The preliminary auction results are in from Domain. Once again volumes are down, and clearance rates will settle lower than last year. Also, it looks like more property is being withdrawn.
Brisbane sold 15 of 38 reported auctions from 67 scheduled. Adelaide ran 31 auctions from the 69 listed, with 23 sold. Canberra ran 25 auctions from 31 listed with 14 sold.
The finance sector unmentionable hits the proverbial fan. Welcome to the Property Imperative Weekly to 21st April 2018.
We start this week’s review of the latest finance and property news with the latest from the Royal Commission into Financial Services Misconduct.
After the shameful disclosures relating to poor lending practices, bad advice, misaligned incentives and poor regulation last time; now they have been looking to the nether regions of financial planning and advice. And guess what, the same behaviours are evident again, in spades. Bearing in mind 48% of the $4.6 billion annual revenue from wealth management goes to the big four banks and AMP, they were forced to admit their mistakes in public. You can watch our separate video on the detailed findings “More Cultural Badness from The Finance Sector”. But here are a few highlights.
AMP apologised unreservedly for the misconduct and failures in regulatory disclosures in the advice business as revealed in the Royal Commission and Chief Executive Officer, Craig Meller will step down from his role with immediate effect.
The Australian Bankers Association admitted that the issues raised have been unacceptable and do not meet the high standards the community rightly expects of banks. And the Treasurer announced significant increases in penalties ASIC can impose. The government will increase penalties under the Corporations Act to: “For individuals: 10 years’ imprisonment; and/or the larger of $945,000 OR three times the benefits; For corporations: the larger of $9.45 million OR three times benefits OR 10% of annual turnover. “The Government will expand the range of contraventions subject to civil penalties, and also increase the maximum civil penalty amounts that can be imposed by courts, to the maximum of: the greater of $1.05 million (for individuals, from $200,000) and $10.5 million (for corporations, from $1 million); or three times the benefit gained or loss avoided; or 10% of the annual turnover (for corporations). “In addition, ASIC will be able to seek additional remedies to strip wrongdoers of profits illegally obtained, or losses avoided from contraventions resulting in civil penalty proceedings.”
These increases are right, as before the financial impact of poor behaviour was very low. However, do not be misled, changing penalties will not address the fundamental cultural, structural and economic issues which have combined to deliver a finance sector which is simply not fit for purpose.
We need to remove incentives from the advice sector (mortgage brokers included). Actually we need unified regulation across credit and wealth sectors (the current two regimes are an accident of history).
We need structural separate and disaggregation of our financial conglomerates. We need a realignment of interests to focus on the customer – which by the way is not at odds with shareholder returns, as customer focus builds franchise value and returns in the long term.
We need cultural reform and new values from our finance sector leaders. And Executive Pay should come under the spot light.
We need a reform of the regulatory structure in Australia, because they are captured at the moment at least by group think, and their interests are aligned too closely to the finance sector. This must include ASIC, APRA, RBA and ACCC. All have bits of the finance puzzle, but no one is seriously accountable.
But there is a more fundamental issue. We have relied on overblown credit, and superannuation sectors, as a proxy for high quality economic growth. This inflated housing and lifted household debt and GDP. We need a fundamental economic reset, because reforming financial services alone won’t solve our underlying issues.
The Government, who resisted the Royal Commission, has now also indicated they are receptive to expanding the scope and term of the inquiry, which in my view should include regulation of the sector, and the macroprudential settings in place. So write to the Commissioner, and your MP advocating a broader scope.
Finally, on this, it is worth noting that former deputy prime minister Barnaby Joyce went with a full-monty confession. “In the past I argued against a Royal Commission into banking. I was wrong. What I have heard … so far is beyond disturbing”, he tweeted. Joyce is now a backbencher, and free with his opinions. It’s another story with current ministers. They continue trying to score political points over Labor, which had been agitating for a royal commission long before it was set up.
My suggestion is this financial sector mess is so significant, that both sides of politics should set aside party differences and focus on the main game. Because what happens next will fundamentally determine the future economic success of the country, no less. If we continue with the current sets of assumptions we will run the country into the ground as the debt burden becomes unbearable, and savings for retirement are devalued and destroyed. It’s that serious.
Turning now to more immediate economic news, the latest lending stats from the ABS underscores that the “Great Credit Binge Is Ending”. You can watch our recent video where we discuss the results in full. To start at the end of the story, we see significant falls across most states in investment lending flows, with the most significant falls in the Sydney market. The share of investment flows continues to drift lower, to around 35%. But that is still substantial investment lending! Finally, the percentage of investment lending of all lending flows is below 20%, and shows a small fall. But we also see a fall in business lending to around 55%, excluding investment property lending.
The ABS also released their March 2018 unemployment statistics. It was not good with the trend unemployment rate increasing slightly to 5.6 per cent though the trend participation rate increased to a record high of 65.7 per cent. WA has the highest rate of unemployment at 6.4% and is still rising, whilst rates in NSW and ACT also rose.
The HIA released their latest Housing Affordability report, claiming that affordability improved in most of Australia’s capital cities during the first three months of 2018 as house price pressures eased. But this is largely spin, as their calculations do not necessarily take account of the now tighter, and becoming even tighter lending standards now in play. And in any case, in most centres, affordability is still well below the long term averages. But of course, they are advocates for the property sector, so there should be no surprise.
There was important evidence of the rising costs of funds this week as ME Bank says it has lifted its standard variable rate on existing owner-occupier principal and interest mortgages, effective April 2018. ME’s standard variable rate for existing owner-occupier principal-and-interest borrowers with an LVR of 80% or less, will increase by 6 basis points to 5.09% p.a. Variable rates for existing investor principal-and-interest borrowers will increase by 11 basis points, while rates for existing interest-only borrowers will increase by 16 basis points. ME CEO Mr Jamie McPhee said the changes are in response to increasing funding costs and increased compliance costs. More hikes will follow, across the industry together with reductions in rates paid on deposits as the fallout of the Royal Commission and higher international funding costs take their toll.
For example, the 10-year US Bond rate is moving higher again, following some slight fall earlier in April. Have no doubt, funding cost pressure will continue to rise. We discussed the whole question of debt and the potential trigger for a recession in a recent video blog, “Global Debt and the Upcoming Recession”. The outlook looks more and more like our Armageddon scenario, as we discussed in detail in an earlier programme “Four Scenarios (None Good)”. Worse, regulators in the USAand China are both weakening banking regulation, at this time of high risk, high debt.
Oh, and by the way, we think it quite possible the RBA will need to do its own form of quantitative easing down the track, and that they will most likely buy pools of residential mortgages (yes including those with breached lending standards) to assist the banks in their liquidity, to assist home prices to rise, and allowing the debt bomb to tick for longer. Sound of can being kicked firmly down the road! But that would be the time to buy Australian equities, and even property. Maybe we need a scenario 5!
We released the latest Digital Finance Analytics Household Finance Confidence Index for March 2018 shows a further slide in confidence compared with the previous month. The current score is 92.3, down from 94. 6 in February, and it has continued to drop since October 2016. The trend is firmly lower and below the neutral setting. You can watch our separate video on this “Why Household Finance Confidence Fell Again”. But in summary, across the states, confidence is continuing to fall in NSW and VIC, was little changes in SA and QLD, but rose in WA. There were there were falls in all age groups. Turning to the property-based segmentation, owner occupied householders remain the most confident, while property investors continue to become more concerned about the market. Those who are property inactive – renting, or living with parents or friends remain the least confident. Nevertheless, those who are property owners remain more confident relative to property inactive households. Based on the latest results, we see little on the horizon to suggest that household financial confidence will improve. We expect wages growth to remain contained, and home prices to slide, while costs of living pressures continue to grow. There will also be more pressure on mortgage interest rates as funding costs rise, and lower rates on deposits as banks trim these rates to protect their net margins.
Finally, we turn to CoreLogics’s auctions data. They suggest that fewer auctions will take place this week, with a total of 1,592 properties scheduled, compared with last week’s final result of1,915 auctions held. This is also lower than a year ago when 1,751 auctions were held across the capital city markets. Sydney is set to see the most significant drop in activity this week. Victoria’s Reservoir and Surfers Paradise in Queensland both top the busiest suburb list this week, each with 19 properties scheduled to go to auction. Following with 14 scheduled auctions each is Burwood and Point Cook both in Victoria.
Turning to last week’s final results the clearance rate was a 61.7 per cent success rate which was lower than the week prior when 62.8 per cent. Melbourne’s final auction clearance rate fell to 62.4 per cent last week across a slightly higher volume of auctions week-on-week with 873 held, up on the 723 over the week prior when a higher 68.2 per cent cleared. In Sydney, the final clearance rate fell to 61.5 per cent, down on the 62.9 per cent the previous week, with volumes across the city remaining steady over the week with a total of 795 held. Clearance rates improved across all of the remaining auction markets last week, with the exception Tasmania which remained unchanged. Geelong recorded the highest clearance rate of the non-capital city regions, with 77.1 per cent of 54 auctions clearing.
You might want to watch my video on “Auction Results Under The Microscope”, where we discuss how the results are collated and whether we can trust them.
So overall, there is little evidence to suggest the property market is recovering (despite more from the Industry claiming that this was the case, this week). And we have yet to see the impact of tighter lending standards flowing through. Our survey data indicates that more households are finding it tougher to meet the income and expenditure hurdles now, and as a result we expect credit and therefore home prices to continue to fall. And if anything, that fall will likely accelerate, unless we get unusual measures in the budget, which by the way we think are quite likely.
The Federal Reserve’s and the Office of the Comptroller of the Currency’s proposed changes to the enhanced supplementary leverage ratio (eSLR) and total loss-absorbing capacity (TLAC) ratio, would provide the most capital relief to trust and custodial banks relative to other U.S. global systemically important banks (GSIBs), Fitch Ratings says.
These changes are unlikely to result in near-term rating implications, though this proposal and the impact of other recently proposed rules that reduce capital requirements are credit negative for the sector. The ultimate ratings impact will depend on how individual US GSIBs respond to potentially looser regulatory standards and lower capital requirements.
The proposal would change how the US GSIBs’ eSLR and TLAC ratios are calculated to include half of their respective GSIB capital surcharge as a percentage of risk-based capital, providing the most relief to firms with the lowest relative capital risk. The Fed estimates the proposed changes would reduce the required amount of Tier 1 capital of the US GSIBs by four basis points, or approximately $400 million, and would reduce the amount of Tier 1 capital required across the lead IDI subsidiaries of the GSIBs by approximately $121 billion.
Currently, GSIBs must meet an eSLR of at least 5% at the holding company level, comprised of a minimum 3% base requirement plus a 2% standard buffer, while GSIB insured depository institution (IDI) subsidiaries need a minimum of a 6% SLR to be deemed “well capitalized.” Under the new proposals, eSLR ratios would be adjusted lower to the sum of the 3% required minimum plus 50% of the respective banks’ GSIB surcharge, instead of the prior standard. The same application of the proposed rule would apply for IDIs, replacing the 6% required minimum to be deemed well capitalized.
Amendments to the eSLR calculation, which apply to U.S. GSIBs and their IDIs, would benefit custody and trust banks the most. State Street and Bank of New York Mellon have the lowest GSIB risk-based capital surcharge of 1.5%, which could potentially result in lowering their eSLR by 1.25% at the holding company and up to 2.25% at the IDI level. The proposed amendments don’t incorporate the changes presented in the Senate bill to ease Dodd-Frank Act requirements, which would allow the trust and custody banks to remove certain safe assets such as Fed deposits from their leverage ratios if the bank was predominantly engaged in custodial banking.
Under the proposed legislation, the amount of required eligible debt required for total loss absorbing capital (TLAC) would also fall. The bank holding company TLAC leverage buffer, like the SLR calculation, would be also modified to 50% of the GSIB risk-based capital surcharge buffer, instead of a fixed 2% leverage buffer. The leverage component of the long-term minimum debt requirement would be cut to 2.5% from 4.5% previously.
The cut in China’s required reserve ratio (RRR) is an example of the authorities using its array of policy tools to guard against liquidity shortages, particularly in prioritised sectors, as it continues its efforts to contain financial risks, says Fitch Ratings.
We continue to believe the authorities’ commitment to tackling risks could be tested if economic growth slows, but we do not interpret this RRR cut as a step toward more expansionary policy. The People’s Bank of China (PBoC) emphasised that its “prudent” monetary policy stance remains unchanged.
The one-percentage point cut will apply to banks that faced high RRR ratios (of 17% or 15%), which includes the large banks, mid-tier banks, city banks, non-county rural and foreign banks. The freed-up liquidity will be used to first repay outstanding medium-term lending facility (MLF) loans, which the PBoC estimates at CNY900 billion. This leaves around CNY400 billion of additional liquidity that will be released into the market, with city and non-county rural banks the most likely to benefit. The PBoC expects these banks to use the extra liquidity to support lending and lower interest rates to micro enterprises, and this will form part of these banks’ Macro Prudential Assessment.
The changes will lower funding costs for banks that currently use the MLF. Banks earn interest of 1.6% on their required reserves, while they pay interest of 3.2% to the central bank on MLF loans. The requirement that banks increase lending to micro enterprises will alleviate pressure on borrowing costs for this targeted sector. It reflects efforts to support inclusive finance – an important component of the authorities’ reform agenda – and is in keeping with the more targeted RRR cut in September 2017, which only applied to banks that meet criteria on lending to rural and micro enterprises.
We stated in previous research that ordinary liquidity support would be forthcoming for banks to manage financial system risk and control financing costs for the real economy. Accordingly, this RRR cut aims to alleviate banks’ funding cost pressures, while ensuring targeted sectors receive adequate and lower-cost bank funding. We believe it should be viewed in this way, rather than as a shift in policy stance. Indeed, macro-prudential tightening measures – aimed at curbing shadow banking and excessive reliance on inter-bank funding – have been more concerted and persistent than we had previously expected. The measures contributed to a slowdown in growth of bank claims on non-bank financial institutions to 3% yoy in February 2018, compared with a 40% CAGR from 2013-2017.
That said, overall renminbi loan growth of 12.8% at end-March was still higher than renminbi deposit growth of 8.7%, implying continued deposit pressures at banks. Recent comments from the PBoC governor also emphasised the ongoing shift toward more market-driven interest rates, while local media reported that the PBoC may relax its informal guidance over bank deposit rates, which may lift deposit costs further.
We still expect efforts to contain financial risks to remain the policy focus through most of 2018, bolstered by the authorities’ confidence in the strong growth momentum sustained over the past year. Nevertheless, the government still clearly places much store in achieving high growth rates – and in particular its target of doubling real GDP per capita between 2010 and 2020. The 2018 growth target is set at around 6.5%, virtually unchanged from 2017’s target. This suggests that near-term growth would not be allowed to fall too far without a policy response. Macro-prudential tightening has so far been made in the context of growth exceeding targeted levels.
In a statement issued today, Treasurer Scott Morrison said the reform will represent the “most significant increases in maximum civil penalties in twenty years”.
These increases are right, as before the financial impact of poor behaviour was very low However, do not be misled, changing penalties will not address the fundamental cultural, structural and economic issues which have combined to deliver a finance sector which is simply not fit for purpose.
We need a removal of incentives from the advice sector (mortgage brokers included). Actually we need unified regulation across credit and wealth sectors (the current two regimes are an accident of history).
We need structural separate and disaggregation of our financial conglomerates. We need a realignment of interests to focus on the customer – which by the way is not at odds with shareholder returns, as customer focus builds franchise value and returns in the long term.
We need cultural reform and new values from our finance sector leaders. (Executive Pay should come under the spot light).
We need a reform of the regulatory structure in Australia, because they are captured at the moment at least by group think, and their interests are aligned too closely to the finance sector. This must include ASIC, APRA, RBA and ACCC. All have bits of the finance puzzle, but no one is seriously accountable.
But there is a more fundamental issue. We have relied on overblown credit, and superannuation sectors, as a proxy for high quality economic growth. This inflated housing and lifted household debt.
We need a fundamental economic reset, because reforming financial services alone won’t solve our underlying issues.
Here are the changes:
The government will increase penalties under the Corporations Act to:
“For individuals: (i) 10 years’ imprisonment; and/or (ii) the larger of $945,000 OR three times the benefits;
For corporations: (i) the larger of $9.45 million OR (ii) three times benefits OR 10% of annual turnover.
“The Government will expand the range of contraventions subject to civil penalties, and also increase the maximum civil penalty amounts that can be imposed by courts, to the maximum of:
the greater of $1.05 million (for individuals, from $200,000) and $10.5 million (for corporations, from $1 million); or
three times the benefit gained or loss avoided; or
10% of the annual turnover (for corporations).
“In addition, ASIC will be able to seek additional remedies to strip wrongdoers of profits illegally obtained, or losses avoided from contraventions resulting in civil penalty proceedings.”
The ABA says that the past few days of hearings at the Royal Commission have been sobering for the entire industry.
The issues raised have been unacceptable and do not meet the high standards the community rightly expects of banks.
Australia’s banks are committed to tackling misconduct head-on and strongly back the reforms proposed today by the Turnbull Government to penalise bad conduct within the industry.
A stronger range of penalties for misconduct is vital to tackling criminal and unacceptable behaviour by individuals and corporations.
The industry has supported the strengthening of the penalties regime for misconduct since the Federal Government announced its review 18 months ago, as an outcome of the Financial Services Inquiry.
Before today’s announcement, banks had already recognised the need for change and have put in place a rigorous conduct background check for bank employees to stop those with a history of misconduct simply moving from one institution to another.
Many of the issues raised over the last few days are the subject of investigation with changes already underway in the sector to ensure cases such as these cannot reoccur. The industry expects that further changes should and will be made following the final recommendations of the Commission.
AMP says the company apologises unreservedly for the misconduct and failures in regulatory disclosures in the advice business as revealed in the Royal Commission.
The AMP Limited Board today announces the following actions to accelerate the necessary change within the organisation:
The Board and the Chief Executive Officer, Craig Meller, have agreed that he will step down from his role with immediate effect.
Mike Wilkins, a Non-Executive Director on the AMP Limited Board since September 2016 and a former CEO of IAG Limited, has been appointed as acting Chief Executive Officer until the search for the new CEO is completed.
An immediate, comprehensive review of AMP’s regulatory reporting and governance processes will be undertaken. This work will be overseen by a retired judge or equivalent independent expert who will be appointed imminently.
A Board Committee has been established to review the issues related to the advice business raised in the Royal Commission. The Committee is chaired by Mike Wilkins and will act with the assistance of external counsel, King & Wood Mallesons.
The Group General Counsel, Brian Salter, has agreed to take leave while the review is undertaken. David Cullen, AMP General Counsel, Governance has been appointed as acting Group General Counsel.
AMP will be making a submission to the Royal Commission to respond to the issues raised. The submission will, among other matters, address the issue of the independence of the Clayton Utz report.
The Board will withdraw resolution four from its Notice of Meeting to the 2018 Annual General Meeting, which relates to an equity grant for the Chief Executive Officer.
The actions announced today build upon the existing program of work, instigated in 2017. The work underway includes:
Customer remediation, with the program well progressed and 15,712 customers identified and $4.7 million fees refunded to date.
An external review to ensure all fee for no service business practices have ceased. This review is now complete and has confirmed that the practices ceased in November 2016.
An independent investigation into employee conduct. Based on the review’s findings, the Board will determine the employment and remuneration implications for any relevant individuals around the fee for no service matter.
A review and complete overhaul of governance, systems and processes in the advice business.
An enterprise-wide cultural audit conducted by an external consultant.
An enterprise-wide review of risk governance, controls and culture also conducted by an external consultant.
AMP Chairman Catherine Brenner said: “AMP apologises unreservedly for the misconduct and failures in regulatory disclosures in our advice business. The Board is determined that we will meet these challenges head on, accelerating changes in both culture and performance at AMP.
“We have been driving much-needed change and improvement in our advice business, which has undergone significant leadership and governance renewal over the past year but we know we have much more to do to.”
Craig Meller said: “I am honoured to have been the CEO of AMP. I am personally devastated by the issues which have been raised publicly this week, particularly by the impact they have had on our customers, employees, planners and shareholders. This is not the AMP I know and these are not the actions our customers should expect from the company.
“I do not condone them or the misleading statements made to ASIC. However, as they occurred during my tenure as CEO, I believe that stepping down as CEO is an appropriate measure to begin the work that needs to be done to restore public and regulatory trust in AMP.”
Mike Wilkins – biography
Mike Wilkins was appointed to the AMP Limited Board and as a member of its Audit and Risk Committees in September 2016. In May 2017, he became Chairman of the Risk Committee. He was also appointed to the AMP Life Limited and The National Mutual Life Association of Australasia Limited Boards in October 2016.
Mike has more than 30 years’ experience in financial services in Australia and Asia in sectors such as life insurance and investment management. Mike has more than 20 years’ experience as CEO for ASX100 companies. Most recently, he served as Managing Director and CEO of Insurance Australia Group (IAG). He is the former Managing Director and CEO of Promina Group Limited and Tyndall Australia Limited.
Mike is a Fellow of Chartered Accountants Australia and New Zealand and is also a Fellow of the Australian Institute of Company Directors. Mike was made an Officer of the Order of Australia in 2017 for distinguished service to the insurance industry.
The U.S. economy is humming along, but we believe that the economy will weaken and likely fall into recession sometime in 2020 as the boost from the fiscal stimulus fades. There is considerable uncertainty in the timing of the next recession, but the U.S. bond market increases our concerns about the economy in the next couple of years.
Since the mid-1960s, the yield curve, or the difference between the 10-year Treasury yield and three month yield, has been nearly perfect in predicting recessions. On average a recession occurs 15 months after the yield curve inverts. The shortest time between an inversion and a recession was eight months in the early 1970s. The longest was 20 months in the late 1960s. It has given only one false signal, in 1966, when a slowdown—but not an official recession—followed an inversion.
Assuming our forecast for the next downturn is correct, the yield curve should invert late this year or early next. Further flattening in the yield curve doesn’t alter our forecast for GDP growth this year, but it does pose some downside risk. As the yield curve flattens, it could weigh on the collective psyche, particularly among investors. Investors are a fickle bunch, and the further flattening in the yield curve could increase the odds of a sudden decline in stock prices, which if significant and persistent could have noticeable economic costs.
Knowing why the yield curve is flattening is important in assessing whether there should be concern about growth this year and early next. If it is because the lower long-term rates are fueled by concerns about U.S. growth, that would raise a red flag. This doesn’t appear to be the case now, because the 10-year U.S. Treasury yield has been hovering generally between 2.8% and 2.9% since the beginning of February and is up 40 basis points since the end of 2017. Therefore, the flattening in the yield curve is coming from the short end, which has put the focus on the Fed. But the central bank is only part of the story.
The flattening in the yield curve is less troubling for the economy in the very short run if it’s occurring because the economy is doing well and the Fed is raising short-term rates while the long-term rate continues to be depressed by the size of the Fed’s and other global central banks’ balance sheets.
It doesn’t appear that the dynamics for long-term rates will change significantly soon, so the next rate hike by the Fed, likely in June, will flatten the yield curve further. Therefore, the Fed will feel the heat for flattening the yield curve, potentially fanning concerns that it is headed for a policy mistake that will end this expansion.
However, the Fed isn’t the only reason that the yield curve is flattening. The Treasury Department has ramped up its issuance in anticipation of a higher deficit from last year’s tax overhaul and a two-year budget deal that will increase federal spending over the next two years. Over the past few months, Treasury net issuance of bills has spiked. Net issuance of bills in March was $211 billion following a net $111 billion in February. The increase in supply has driven short-term interest rates higher. In fact, prior to the Fed rate hike in March, the spread between the three-month Treasury bill and the fed funds rate was the widest over the past 15 years.
We see the odds rising that the yield curve inverts by the end of this year. This would increase the odds of a recession in the subsequent 12 months.
