Welcome to the Property Imperative weekly to 28th July 2018, our digest of the latest finance and property news with a distinctively Australian flavour.
Watch the video, listen to the podcast, or read the transcript.
By the way, if you value the content we produce please do consider joining our Patreon programme, where you can support our ability to continue to make great content.
Today we start with local economic news. The latest headline inflation rate came it at 2.1%, but the relevant underlying rate was 1.9%. This is even below the 2.0% the RBA forecast in May and continues the trend here, and elsewhere. Economists are scratching their heads as to why, some referring to the not so trusty Phillips curve, globalisation, charging work practices, automation, or something else. We suspect the high consumer debt and limited spending power has played a significant role. Despite the low number, we do not expect the RBA to react with a rate cut.
Rising costs continue to hit households, for example, in annual terms, transport rose 5.2%, and tobacco by 7.8%, plus higher electricity costs, fuel and child care expenses. It also worth noting the regional variations. Sydney rose 2.1 per cent, Melbourne rose 2.5 per cent, Brisbane rose 1.7 per cent, Adelaide rose 2.7 per cent, Perth rose 1.1 per cent, Hobart rose 2.4 per cent, Darwin rose 1.2 per cent, and Canberra rose 2.8 per cent. For more, see our separate post “Debt Crisis – What Debt Crisis” where we discuss the cpi figures in the context of household debt – here is the link and it’s in the comments below. Otherwise it was a quiet week for Australian economic data. But it’s worth remembering that policy interest rates less consumer price inflation is all still negative around the world. Not pretty.
The US Bureau of Economic Analysis released their GDP Data overnight. The US real gross domestic product increased at an annual rate of 4.1 percent in the second quarter of 2018. This is based on that’s called the “advance” estimate, so it may change ahead. The first quarter, real GDP increased by a revised 2.2 percent. In addition to the rise in consumer and business spending, increases in exports and government spending also helped. Personal consumption expenditures rose 4 percent while business investment grew 7.3 percent and federal government outlays increased by 3.5 percent. Exports rose in part as farmers rushed to get soybeans to China ahead of expected retaliatory tariffs to take effect in the coming days. Declines in private inventory investment and residential fixed investment were the main drags. President Donald Trump himself tweeted a few days ago that the U.S. has the “best financial numbers on the planet,” while National Economic Council Chairman Larry Kudlow predicted on Thursday that Q2 GDP will be “big.” The administration has used a mix of tax cuts, deregulation and spending increases to push growth. White House budget director Mick Mulvaney told CNBC earlier this week that deregulation likely has had the most impact so far as companies feel more comfortable about committing capital. The next question will be whether the growth spurt is sustainable. There were several jumps in GDP under former President Barack Obama. In 2014 there was a 5.1 percent rise in the second quarter. But by the end of 2015, growth had slowed to 0.4 percent. Federal Reserve officials forecast GDP to rise 2.8 percent for all of 2018 but then to tail off to 2.4 percent in 2019 and 2 percent in 2020. Some economists worried that the jump in consumer spending for the April-to-June period may not be sustainable, adding to scepticism that the gains will continue.
However, the numbers support the Fed’s current plan of gradual interest rate hikes. Fed fund futures continued to price in a rate hike in September and the probability for a hike in December was last at 68.9%, compared to 69.5% before the release. Meantime the US Bond rates are continuing to push higher, with the 3-Month rate slightly up to 1.992, while the 10-year sits just below 3%, and the 30 Year at 3.085. Thus the compression between short term and long term rates continues to bite.
In comparison’ China’s GDP growth remains stronger at 6.8% in the first half, and the IMF is estimating a 6.6% full year out-turn, reflecting the lagged effect of regulatory tightening and softer external demand. Risks are tilted to the downside, with tightening global financial market conditions and rising trade tensions. If the authorities move more decisively to resolve the policy tensions now and focus on higher-quality growth and a greater role for the market, near-term growth would be weaker but longer-term growth would be stronger and more sustainable. An illustrative “proactive” scenario features faster reform progress, particularly state-owned enterprises (SOE) reform and resolving zombie firms, which also accelerates rebalancing from investment to consumption. If there is a risk of a too sharp slowdown, a temporary fiscal stimulus package with resources to support rebalancing could help cushion the near-term adverse impact.
The Chinese Yuan US Dollar fell 0.44% on Friday to 0.14, and the Chinese Yuan Australian Dollar fell 0.43% to 0.19. The Aussie Dollar remains weaker against the US currency, and we expect this to continue.
The key question ahead is the extent to which the rate of quantitative tightening really starts to bite. According to Fitch Ratings, the combined net asset purchases of the four central banks that engaged in quantitative easing (QE) will turn negative in 2019, one year earlier than previously estimated. This underscores the shift in global monetary conditions that is underway – as strong global growth continues and labour markets tighten – and could portend an increase in financial market volatility.
The four “QE” Central Banks (CBs) – i.e. the Fed, European Central Bank (ECB), Bank of Japan (BOJ) and Bank of England (BOE) – made net asset purchases equivalent to around USD 1,200 billion per annum on average over 2009 to 2017. This is set to slow significantly this year to around USD 500 billion as the Fed’s balance sheet shrinks, the BOJ engages in de facto tapering and ECB purchases are phased out by year-end. More significantly, combined net asset purchases are expected to turn negative next year as the decline in the Fed’s balance sheet will be larger in absolute terms than ongoing net purchases by the BOJ.
They say that private sector investors will be called upon to absorb a much greater net supply of government debt in the coming years as CB reduce holdings and government financing needs persist in Europe and Japan and rise sharply in the US. This will put more pressure on bond rates ahead.
Then of course there is the trade wars question. An escalation of global trade tensions that results in new tariffs on USD 2 trillion in global trade flows would reduce world growth by 0.4% in 2019, to 2.8% from 3.2% says Fitch Ratings‘ June 2018 “Global Economic Outlook” baseline forecast. The US, Canada and Mexico would be the most affected countries. They modelled a scenario in which the US imposes auto import tariffs at 25% and additional tariffs on China, where trading partners retaliate symmetrically, and NAFTA collapses. They factored in new tariffs on a total of USD 400 billion of US goods imports from China in the simulations in light of recent statements from the US administration. The tariffs under this new scenario would cover 90% of total Chinese goods exports to the US when added to tariffs on USD 50 billion of exports already announced. They suggest that the global drop of 0.4%.
The tariffs would initially feed through to higher import prices, raising firms’ costs and reducing real wages. Business confidence and equity prices would also be dampened, further weighing on business investment and reducing consumption through a wealth effect. Over the long run, the model factors in productivity being affected as local firms are less exposed to international competition and so would face fewer incentives to seek efficiency gains. Export competitiveness in the countries subject to tariffs would decline, resulting in lower export volumes. The negative growth effects would be magnified by trade multipliers and feed through to other trading partners not directly targeted by the tariffs. Import substitution would offset some of the growth shock in the countries imposing import tariffs. The US, Canada and Mexico would be the most affected countries. GDP growth would be 0.7% below the baseline forecast in 2019 in the US and Canada and 1.5% in Mexico. The level of GDP would remain significantly below its baseline in 2020. China would be less severely impacted, with GDP growth around 0.3% below the baseline forecast. China would only be affected directly by US protectionist measures in this scenario, whereas the US would be imposing tariffs on a large proportion of its imports while being hit simultaneously by retaliatory measures from four countries or trading blocs. US tariffs would hit Chinese imports like mobile phones, laptops, clothing and footwear, all of which may mean consumers will spend less. Meantime, Australia and other countries would likely be caught in the cross-fire, so some extent.
But perhaps the market’s trade-war worries may have hit an inflection point this past week. Trump proclaimed the United States and the European Union had launched a “new phase” in their relationship following a meeting with European Commission President Jean-Claude Juncker on Wednesday. The leaders pledged to expand European imports of U.S. liquefied natural gas and soybeans and both vowed to lower industrial tariffs. They also agreed to refrain from imposing car tariffs while the two sides launch negotiations to cut other trade barriers, as well as re-examine U.S. steel and aluminum tariffs and retaliatory duties imposed by the EU “in due course.” The upbeat remarks helped ease some of the fears of a transatlantic trade war. But there is still China to consider. China said Thursday it was ready to retaliate against any increase in U.S. tariffs on Chinese imports — be it $16 billion or $200 billion — an official in Beijing said, according to Bloomberg.
And just remember the US is funding its growth by running higher deficits, and the tax cuts for corporates has led to a cut in taxes from that sector, a skewed the tax take significantly towards individuals. More pressure on US households.
Looking across the markets, the ASX 100 ended the week higher, up 0.95% to 5,180. Bank stocks helped lift the index, with the largest owner occupied mortgage lender, Commonwealth Bank up 0.71% to $75.36, Westpac, the largest investor mortgage lender up 1.10% to 29.47, National Australian Bank up 0.96% to 28.40 and ANZ Banking Group up 1.62% to 29.48.
But AMP took a bath, following the release of their “recovery plan”. AMP has a massive hole to dig itself out of, given the evidence revealed during the Royal Commission. They charged fees for no services (which by the way other organisations also did), but then appeared to deflect and mislead the regulators pointing to a concerning set of cultural and behavioural issues across the organisation, and to the highest levels in the company. They have destroyed significant shareholder value, and worse have milked some of their customers for years. The reputational damage is excruciating. They announced a series of measures designed to give the investment market some comfort that action is in hand, although the specifics remain vague, and it is unlikely to placate the potential class action horses circling the AMP wagons. It is hard to judge whether these measures will ever fully compensate customers of AMP for their blatant acts of deceit, and whether shareholders will view the announcements as necessary and sufficient to get to the root causes of the systemic poor practice. The 4% fall in the share price following the announcement suggests probably not and in fact the total potential liabilities facing the company are also probably unknowable at this time. So, my reaction was too little too late. The repair job has only just started and will take years to complete, if indeed this is possible at all. Other investors seem to agree, with the price falling 5.17% to $3.30, a price not seen since the early 2000’s. Takeover target anyone?
In the US markets, Facebook sent a huge tremor through tech stocks this week with a worrying warning about revenue that sent the stock spiralling to a record-setting market-cap loss. Shares of Facebook sank nearly 19% on Thursday, slashing the company’s value by about $120 billion. That was the largest single-day loss in market cap in Wall Street history. Revenue missed expectations, but it was the conference call that really spooked investors. “Looking beyond 2018, we anticipate the total expense growth will exceed revenue growth in 2019,” CFO Dave Wehner said on the conference call. “Over the next several years, we would anticipate that our operating margins will trend toward the mid-30s on a percentage basis.” Facebook also predicted its total revenue growth rate would continue to decelerate in the third and fourth quarters. But it’s worth putting this in context of its long term price growth, from around $50 a share in 2014, to $175 a share now, after the drop.
Just a day after Facebook’s drop, Twitter caused its own shockwaves in the social media space. The stock tumbled more than 20% on Friday after the company reported a surprise drop in average monthly users. Average monthly users dropped to 335 million from 336 million in the first quarter, due to deletion of fake accounts and bots, or, as the company put it, “prioritizing the health of the platform.” Shares of Twitter had wavered earlier in the week after President Donald Trump accused the company of shadow banning Republicans (effectively making the user impossible to find). The company responded that it does not shadow ban in any cases. The longer term trend is starkly different from Facebook, back in 2014 it was priced at well over $50, today, after its 20% fall it was sitting at $34.
The broader markets were down on Friday, despite the GDP numbers, with the S&P 500 falling 0.66% to 2,818, the Dow Jones Industrial average down 0.3% to 25,451 and the NASDAQ, where many of the tech stocks hang out down 1.46% to 7,737. The Volatility Index was higher, up 7.33% to 13.03, suggesting more risks than last year, but still well the panic peak in the earlier part of the year.
Crude oil prices ended the week slightly lower after a selloff Friday ending at 69.02, down 0.85%. But supply concerns remained front of mind for traders. Data released this past week showed that US crude oil inventories fell to their lowest level since 2015 as exports jumped and imports fell sharply. Also, Saudi Arabia temporarily paused shipments through the Bab el-Mandeb strait, which joins the Red Sea to the Gulf of Aden, after two of its oil tankers were reportedly attacked by Houthi rebels. The disruptions in the Middle East come as market participants continue to bet on further disruptions in oil flows underpinning oil prices. “The potential for further disruptions remains high in Libya, Venezuela and Nigeria with last week seeing new disruptions in Norway and Iraq, and Saudi has little incentive to let inventories rise,” Goldman Sachs said in a note to clients Thursday.
Gold fell to 1,222, down 0.29% suggesting that investors are still preferring the US dollar and Copper was down 0.78% on Friday to 2.796. Bitcoin rose to 8,160 up 2.51%. This week we discussed the potential for Bitcoin and compared it with other forms of money. The bottom line is; it may have a place. See our post “Some Myths Around Bitcoin”.
And so finally, back to the property market. CoreLogic reported that last Saturday the combined capital cities returned a final auction clearance rate of 57 per cent last week, improving on the 52 per cent over the week prior across a similar volume of auctions. There were 1,257 homes taken to auction last week, increasing slightly on the 1,178 held the previous week. While one year ago, a higher 1,748 auctions were held with a 69.9 per cent success rate. And the number listed for auction, but not taken to auction rose again.
Melbourne returned a final auction clearance rate of 59.9 per cent across 613 auctions last week, increasing on the 56.2 per cent over the week prior when fewer auctions were held (559). Sydney’s final auction clearance rate came in at 55.2 per cent last week, rising on the week prior when the city returned the lowest reading since Dec-2012 with only 46.9 per cent of auctions successful. Auction volumes were virtually unchanged over the week with a total of 407 held. As usual the performance across the smaller auction markets was mixed last week, with clearance rates improving in Adelaide and Brisbane, while Canberra, Perth and Tasmania saw clearances rates fall week-on-week.
The Gold Coast region was the busiest non-capital city region last week with 49 homes taken to auction, although only 33.3 per cent sold. Geelong was the best performing in terms of clearance rate with 61.5 per cent of the 32 auctions successful.
This week, the final week of July will see a total of 1,430 homes taken to auction; a slight increase on the 1,257 auctions held last week as at final figures, although lower than the 1,987 auctions held on the same week last year. They say that while it is not unusual to see auction activity cool off throughout the winter period, this year has seen weekly volumes trend lower when compared to the equivalent June- July period last year. With clearance rates at their lowest levels since 2012 there is some clear reluctance in the auction market as capital city dwelling values soften. Melbourne is set to be the busiest auction market this week, with 746 homes scheduled for auction, while in Sydney, 443 homes are scheduled for auction this week. Across the smaller auction markets, Brisbane and Perth will see a higher volume of homes taken to auction this week, while Canberra and Tasmania have fewer scheduled auctions and activity across Adelaide will remain steady.
Prices are still weaker in most markets, and this trend is likely to continue. And the averages mask significant differences across individual locations. For example, at the Sydney SA4 level, units in the Baulkam Hills and Hawkesbury areas have fallen 19% from their peaks, while houses in the City and Inner South have fallen 13.6%, and 10.5% in the Inner West. Prices fell by 10.6% in Ryde, 8.7% in North Sydney and Hornsby and 6.8% in Blacktown. Once again this underlines the importance of getting granular when it comes to the property market.
And remember that the household debt to GDP ratio in Australia is very high, on an international basis, at 121.7%, just behind Switzerland. Canada in at 100%, the UK at 86.7% and the USA 78.7%. We are full of debt. And our baseline modelling and household surveys signal more weakness in the months ahead, and those spruiking a soft landing and an imminent recovery seems to be missing the obviously tighter credit tightening, selective discounting for some lower LVR refinances, and the impending issue of Interest Only refinancing. Combined these forces will remain potent.
