Global economic data was generally positive in December, paving the way for strong returns from developed market equities, as well as Real Estate Investment Trusts (REITs). Selected bond markets experienced some weakness following a rate hike by the US Federal Reserve. The rate hike was widely anticipated, however the announcement revealed a greater likelihood of monetary tightening in 2017. December also saw the resignation of Italy’s Prime Minister Matteo Renzi following the constitutional referendum held early in the month and the surprise departure of New Zealand’s Prime Minister, John Key.
Global equity markets performed well in December as investors remained optimistic about the prospects for the global economy. In the US, the S&P 500 rose by 2% and the Dow Jones Industrial Average Index hit all-time highs, approaching 20,000. Consumers continue to be optimistic in the wake of Trump’s election, with one indicator, the Conference Board Consumer Confidence Index hitting its highest level since the Global Financial Crisis (GFC). Regardless of political views, both businesses and consumers have good reason to be optimistic about the economy, as the risks of a major upset to the current conditions of low unemployment (currently below 5%) and strong economic growth appear to be low.
The most significant announcement this month was the US Federal Reserve’s decision to raise the cash rate by 0.25%. This move was widely anticipated, however unexpected was the Fed’s view of three or more rate hikes in 2017, up from the previously expected two hikes. For some time Federal Open Market Committee (FOMC) members have been quite optimistic about the Fed’s ability to raise rates, but the market has been unconvinced (see the graph below showing the gap between FOMC and market expectations). However, in recent months this has changed as the gap between the Fed and market expectations has narrowed.
In Europe, employment data show that the Eurozone labour market in aggregate strengthened. Employment (seasonally adjusted) rose by 0.2% in the third quarter, however the employment situation in the Eurozone is far from optimal with unemployment currently at 9.8%. This headline figure conceals the reality for Greece and Spain which are experiencing unemployment rates of 23.4% and 19.2% respectively. The European Central Bank left rates on hold during the month, but announced plans to pare back their quantitative easing program from April 2017. Over the month the Euro Stoxx 50 returned +7.9%.
Emerging markets did not participate in the December rally. The Shanghai Composite returned -4.5% despite manufacturing and retail data indicating that the economy is still moving along at a handsome pace. Some of the weakness may be due to a rebalancing by investors away from emerging markets due to an improved outlook for the US. Reports indicate that the Chinese government is becoming increasingly concerned about capital outflows and authorities have moved to limit gold purchases.
In Australia, Gross Domestic Product (GDP) data was released which showed that the economy contracted by 0.5% in the third quarter, significantly underperforming expectations. On the employment front however, data showed that the labour market is holding up. The unemployment rate rose by 0.1% in November to 5.7% but was 0.1% lower than in November 2015. Despite the poor GDP, the local market performed in line with global markets, the S&P/ASX 200 returning +4.4%. Weakness in the Australian dollar also contributed, which fell by 2.4% against the US dollar and 1.9% against the Euro. The local bond market disappointed, returning -0.2% and underperforming global markets which returned +0.4%.
Economic sentiment in major developed markets is strong and little appears to stand in the way of strong global economic growth driven by the major economic powerhouses such as the US and China. However, markets are forward looking and as such it is crucial not to translate economic expectations to expectations of returns from capital markets. 2016 proved to be a solid year for each of the major asset classes despite bouts of significant volatility, however many investors consider that long term returns going forward will be lower than have been realised inrecent decades. Only time will tell of course, but in any case 2017 is set to be another interesting year, presenting both opportunities and threats for investors.
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