In stark contrast to the fourth quarter of 2017, the March quarter of 2018 saw share markets generally decline around the globe, with the Australian market ending the quarter down 3.9%. Although the US and other major countries had equity market falls, returns for Australian investors were assisted by the weakening Australian dollar (AUD), resulting in international equities (unhedged) returning 0.8% in AUD. Emerging market equities were the best asset class over the quarter, returning 3.4%, whilst bond markets had moderate returns of 0.9%.
Economic indicators in both developed and emerging markets generally remain sound. Australia is in a similar position where unemployment remains low despite a small increase from 5.5% to 5.6% in February. Low inflation has also allowed the Reserve Bank of Australia (RBA) to leave official interest rates at a record low of 1.5% for the 20th month in a row. The RBA has remained in a neutral position on interest rates as jobs and wage growth remain low and the lacklustre retail sector continues to create uncertainty on economic growth. Despite this, the RBA is not concerned that the economy is at any major risk but would like to see an increase in spending and jobs growth before raising interest rates. Also, the RBA understands higher interest rates may place significant stress on the housing market and they are expected to maintain the current level of rates until late this year at least.
After a year of exceptionally low volatility in share markets, 2018 began with higher uncertainty. Strong gains in January were followed by sharp falls and a subsequent rebound in February before further falls in March. Much of this volatility was driven by expectations that the US Federal Reserve (the Fed) would sharply increase interest rates coupled with fears of a trade war developing between the US and China. The higher interest rate expectations in the US were driven by higher inflation data that surprised the market in January, but subsequent data and comments from the Fed reduced some of these concerns, resulting in markets rebounding in February. Higher inflation itself is not necessarily bad for share markets, but it implies higher interest rates which can lead to increased borrowing costs for business.
By the end of the quarter, the US share market was down 2.7%. Other markets were worse off, with the UK down 7%, Japan down more than 6% and Europe down 3.7%.
The increase in volatility was long overdue after an extended period of very low volatility since early 2016. These type of market ‘blow-offs’ are healthy and part of normal market behaviour, so investors shouldn’t panic but rather focus on the long term positive returns that share markets provide.
Later in the quarter volatility spiked again as trade tensions between the US and China dominated headlines. The Trump administration announced steel and aluminium tariffs causing concerns in equity markets that retaliation from China could potentially escalate into a ‘trade-war’, which is generally negative for business and share markets. Indeed, China has already responded by placing tariffs on specific goods imported from the US. There is however still hope that peaceful negotiations will prevail and the current tensions will have little impact on markets.
Australia has been excluded from the US tariffs, but given our strong ties with China, there could be knock-on impacts that hurt Australian business as well. The US/China trade negotiations are likely to remain in the headlines for some time, so may continue to cause markets to move up and down as both positive and negative headlines are released.
March also saw Facebook’s share price declined by more than 10% as allegations of improper handling of user data raised significant consumer privacy issues. Facebook’s CEO Mark Zuckerberg has testified before Congress, and while investors seemed to take comfort from this, with the share price recovering somewhat, the issue of user privacy is relevant to many technology companies and may be in the headlines for some time to come.
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