Transcript The Rebuilding of Global Economies

“The Rebuilding of Global Economies”
Presenter - Brian Nash
Director/Authorised Representative
Merlea Investments Pty Ltd
Australian Financial Services Licensee No. 226415
Disclaimer
This presentation has been prepared for the general
information of investors and not having regard to any
particular person’s investment objectives, financial
situation and particular needs. Accordingly, no
recipient should rely on any recommendations
(whether expressed or implied) contained in this
document without having obtained specific advice
from their adviser. Brian W. Nash & Merlea
Investments make no representation, give no
warranty and do not accept responsibility for the
accuracy or completeness of any recommendation,
information or advice contained herein and Brian W.
Nash & Merlea Investments will not be liable to the
recipient or any other persons in contract, in tort for
negligence or otherwise for any loss or damage
arising as a result of the recipient or any other person
acting or refraining from acting in reliance on any
recommendation, information or advice herein except
insofar as any statutory liability cannot be excluded.
Some predictions listed in the media to worry about…. These are
examples of negative press that can cause investors to stay on the
sidelines and not invest.
1.
The Fed to reduce its $85 billion a month liquidity injection within the next 12 months.
2.
The much-touted current housing recovery will stall and single home price increases will slow and
perhaps even level off.
3.
Manufacturing and U.S. exports to slow still further.
4.
There will be still be no sustained recovery of jobs over the coming year.
5.
The Eurozone sovereign debt crisis will again worsen and the banking system grow more unstable.
6.
More economies in the Eurozone will slip into recession, including Denmark and perhaps Sweden.
7.
France’s recession will deepen.
8.
Germany will block the formation of a bona fide central bank in the Eurozone and the UK will vote
to leave the European Union.
9.
China’s growth rate will continue to drift lower and it will be forced to devalue its currency, the
global currency war, now underway, will intensify.
10. Global trade will continue to decline.
11. Japan’s risky experiment with massive QE and modest fiscal stimulus will prove disastrous to the
global economy.
When economies are recovering, central banks typically start to
think about the exit and take the foot off the accelerator
Four reasons why we expect
central banks to stay easy.
1. Global growth is slow, and
unemployment is still high.
2. Inflation is low.
3. The Bank of Japan is being particularly
aggressive, which will force other central
banks to ease.
4. Central banks don’t want bond yields to
jump yet.
Outlook for non oil commodities
•
Demand will remain relatively subdued in
2013, constrained by weak OECD growth and
slower Chinese growth.
•
Rising incomes and ongoing urbanisation in
the developing world will underpin mediumterm demand growth in industrial raw
materials.
•
We now expect the food, feedstuffs and
beverages (FFB) index to fall by nearly 9%
this year (6.6% previously).
•
Nominal commodity prices will remain
historically high in 2013-17, but prices will
ease in real terms.
Inflation receding worldwide, but still a concern in some
developing countries
Soft growth, large output gaps, and high
unemployment rates in the past couple of
years have significantly reduced price
pressures, with the rate of inflation down
between 2011 and 2012 in all but one
region.
This benign state of affairs is likely to
continue through 2013, despite worries
about the inflationary potential of the
massive amounts of liquidity sloshing
around the global economy, and despite
the recent rise in food prices (which is
likely to be temporary).
In fact, in the developed world and some
emerging regions (notably Asia, the Middle
East and Africa), inflation will continue to
drift down over the coming year.
Central bank near-term bias
Investors are anticipating a tapering of the US
Fed’s programme of bond purchases in
September. This has led to a back-up in global
bond yields.
Emerging markets have been badly hit, with sharp
increases in yields on both local and hard
currency debt.
The reigning in of US monetary expansion will be
gradual: we do not expect rates to rise until 2015.
Even so a gradual tightening of global liquidity will
create headwinds for the world economy.
Monetary expansion in Japan will provide only a
partial offset to US tightening.
Continued exchange-rate volatility
If and when global imbalances start to creep up again, surplus countries with fixed exchange rates policies
and massive foreign reserve pots are likely to once again come under pressure to change course.
But the bottom line - for now - is that the world has decided to agree with the Fed chairman Ben Bernanke
that the super-loose monetary policies being followed by Japan, the US, the UK and the rest are not zero
sum "beggar-thy-neighbour" policies but "enrich-thy-neighbour" policies which, if successful, will leave
everyone better off.
America
Investors have begun pricing in a tapering of the US Fed’s bond
buying programme
Fed forecasts
We have cut our 2013 economic growth forecast
for the US, to 1.6% from 2% following a
downward revision to first-quarter output to 1.1%.
But growth accelerated to 1.7% in the second
quarter, driven by strong consumer spending and
a pick-up in business investment.
Investors have begun pricing in a tapering of the
US Fed’s bond buying programme as early as
September.
This has pushed up US bond yields: 10-year US
Treasury yields have risen from 1.7% in May to
2.8% in mid August. This has triggered a sell-off
of risky assets.
Market consensus
US GDP growth with forecasts
Consumer spending is not as robust as in previous recoveries
•
•
•
•
Consumer confidence is at a low level (consumer confidence is at a standstill).
Consumers appear to be unhappily in debt. Debt levels have increased.
Employment growth is improving.
The housing market is improving but prices are still low.
The Fed has based the implementation of this plan on the
U.S. emerging in improved shape
The fact is that there are still doubts about
the real strength of the recovery underway in
the U.S.
•
The residential construction sector is showing
great strength, though in part this has been
supported by very favourable financial
conditions that are beginning to reverse.
•
Consumption remains stable.
•
Employment is not showing signs of
particularly robust growth.
•
The last round of stimuli helped boost job
creation again to around 200,000 new jobs
per month, not much more previous periods in
which a new round of fiscal stimuli was
eventually necessary.
The start of a cycle of normalization of financial conditions, with
higher interest rates
The last time rates were this high, was in July 2011 when they hit 4.55%. This came on
speculation that the Fed would soon reduce its bond purchase program after the bullish June
jobs report. Many are concerned that this will me a major headwind to the housing recovery.
Manufacturing recovery gains momentum as order growth
hits seven-month high
PMI rises to five-month high, signalling moderate
growth of manufacturing sector:
• New orders increase strongly
• Employment rises for second month running
• Input price inflation slows
Bottom Line for the US Economy
Positives
• QE to infinity will inflate asset prices.
• The US Federal Reserve has forecast rates will remain unchanged until at least 2015.
• In the long term, demographics and returned energy self-sufficiency bode well.
Negatives
• National debt: USD16.5tn and rising; debt to GDP: 106% and rising. This is absurdly unsustainable.
• QE to infinity promises currency debasement, rising prices and lower discretionary spending.
• Foreigners are buying fewer, and selling more US Treasury bonds.
• The debt ceiling “temporarily suspended” plus QE to infinity may result in a currency crisis in a couple of
years.
We remain in unknown territory
• Too many people have been unemployed for too long.
• National banks are holding too much cash.
• Corporate profits are no longer tied to employment growth.
Western Europe
Is the Eurozone emerging from the longest recession in decades?
We have raised our 2013 GDP forecast for the
euro zone, to -0.5% from -0.8%.
Most economies in the currency bloc performed
better than expected in the second quarter, led
by Germany. We have edged up our 2014 euro
zone growth forecast to 0.7%.
High unemployment, excessive debt levels and
fiscal austerity remain constraints on growth.
Having cut its main interest rate by 25 basis
points to 0.5% in May, the ECB said that rates
would remain at low levels for an extended
period.
Eurozone recessions
% fall in GDP, peak to trough
Width denotes length of rececession
0.0
-1.0
1980
-2.0
1974-75
1982
-3.0
-4.0
-5.0
-6.0
Funding for firms and households in the periphery
remains scarce and costly.
2011-13
1992-93
Source : Oxford Economics/Haver Analytics
2008-09
And restructuring of banks’ balance sheets barely started
•
Balance sheet obstacles to sustained demand
growth mean the EU faces two or three more
years of recession and tepid cyclical recovery,
even if EU policy makers enact the right
measures as fast as their glacial decision-making
process allows.
•
The balance sheet recession is caused by
excessive leverage: zombie banks throughout the
EU, excessive sovereign debt, deficits in the
periphery and excessive household indebtedness
in many countries.
•
Sovereign debt restructuring by bailing out
private creditors will not remain confined to
Greece. Cyprus, Portugal and Spain are also at
risk. Even Italy’s sovereign creditors are
threatened because of the seeming inability of its
political institutions to deliver growth-enhancing
structural reforms.
Eurozone recovery gains momentum with fastest growth for over
two years
The euro area’s economic recovery gained
momentum in August, with manufacturing and
service sector companies reporting the strongest
pace of expansion for just over two years.
So far, the third quarter is shaping up to be the
best that the euro area has seen in terms of
business growth since the spring of 2011.
“France Is Not Bankrupt” – Really?
France is in recession and has been for
almost two years.
•
The number of new industrial plants
created by foreigners fell 25% last year,
and new job creation fell 53%.
•
French industrial output is still falling, and
both the manufacturing and service PMIs
are among the worst in Europe — far
worse even than those of Italy and Spain,
both of which are clearly in financial
disarray.
•
The level of French debt is at post-war
highs and is beginning to approach that of
the peripheral countries.
•
The French unemployment level is at a 15year high of 11.2% and has risen for 26
consecutive months. French youth
unemployment stands at 25.7%.
French government spending is already at 56% of GDP, and
debt-to-GDP is over 90%.
French pay-as-you-go social welfare system is
completely unfunded. The scheme has grown to
preposterous proportions. French welfare spending
now outstrips the rest of the world by a
considerable margin.
French tax rates are already among the highest in
Europe. At a 75% top tax rate, young
entrepreneurs and businesspeople are leaving the
country in droves.
Like the peripheral Eurozone countries, France has
started to run a significant trade deficit.( you
cannot reduce your debt and run a trade deficit at
the same time).
This has been one of the key problems in Greece,
Portugal, Spain, and Italy. Restructuring a trade
deficit is painful in that it requires either a
downward currency adjustment or a reduction in
labor costs (or an increase in labor productivity).
Europe’s latest unemployment statistics are a horror story
A high unemployment rate of young people,
those under the age of 25, is a huge
problem in an economy because in the long
run, an economy can only grow based on
how much the labour force grows, in
addition to how productive that labour force
is.
With Europe, if that many unemployed
people are essentially not working, it raises
real concerns for us. Countries such as
Spain and Greece still have unemployment
rates well over 25 per cent.
Meanwhile, markets remain focused on the
fact that the worst of the European
recession appears to have past.
Europe Conclusions
Positives
•
There are signs that the European economy is emerging from recession, but the recovery will be slow and
uneven.
• Cities will generally perform better than average once the recovery takes hold thanks to their strong
service sectors and ability to tap into external markets.
• But the disparity between southern European cities and those elsewhere will widen.
Negatives
• A one-off weather-related rebound (German and French construction picked up after a long, slow, cold
winter), as well as a boost in export demand from outside Europe that German manufacturers themselves
say probably won’t continue.
• Credit is still tight, which will constrain business investment, and while consumer spending has picked up a
bit, French and German shoppers can’t make up for a lack of demand in countries like Spain, Italy and the
Netherlands, which are still in recession. Meanwhile, some 20 million people in the euro zone are still out
of a job — a record 12.1%. That’s unlikely to change anytime soon.
• And of course, there’s still nobody talking about the elephant in the room, which is the fact that the
Germans will need to go much further in shifting toward a consumer-spending and higher-income model,
even as southern European countries work on reforming their labour markets and trimming their budgets.
Asia and China
Capital has fled emerging markets
•
Capital has fled emerging markets
since June as investors anticipate less
bond-buying by the US Federal
Reserve.
•
More episodes of volatility in global
capital markets are in prospect and
emerging markets with large financing
requirements could come under strain.
•
For China following 7.5% Y-on-Y GDP
growth in the second quarter, we
maintain our 2013 GDP forecast at
7.5%. We expect growth to continue
to slow over the medium term.
•
We have made further downgrades to
our growth forecasts for the other
BRIC economies.
Growth in emerging economies has slowed in recent months, while
mature economies have performed better
Private capital in-flows to EM economies are forecast
to fall in 2013 and 2014.
Market volatility amid concerns about an end to
ultra-easy U.S. monetary policy will continue to
weigh on flows.
Weaker growth in emerging economies contributes
to the worsening outlook.
Some EM economies seem vulnerable to a
retrenchment of foreign capital.
Other EMs have become important sources of
external financing in the global economy, with EM
private out-flows projected to rise to $1 trillion this
year.
China: A turning point?
At a time when the global economy is
modestly accelerating, China appears to be
faltering. For now, it seems likely that
economic growth will decelerate, credit
growth will slow down, and the country’s new
leadership will try to address fundamental
issues in the economy instead of resorting to
stimulus.
The weakness in economic activity reflects
weak overseas demand—especially in
Europe—and a slowdown in domestic
spending on infrastructure and other forms of
investment.
For now, it appears likely that the economy
will grow slowly, that credit growth will slow
down, and that the authorities will seek ways
to gradually shift the financial system away
from dependence on non-traditional forms of
financial intermediation.
With over 64 million uninhabited apartments,
China's ghost cities are sad, lonely places to live.
China has been treading a dangerous path
China doesn’t have to look too far for a cautionary tale. Japan in the late ’80s and early ’90s
faced a similar slowdown in economic growth.
Like China today, it sought to compensate by first unleashing a flood of credit, creating a
real-estate bubble, and then engaging in infrastructure spending on the proverbial bridges
to nowhere.
But it didn’t work, despite the fact that Japan, like China today, boasted a high savings rate,
plenty of fiscal capacity, and little foreign deb.
Positives
Summary
The China economy seems to have bottomed out – China's factories have picked up the pace in August, the
latest sign that growth might be stabilizing in the world's second-largest economy.
The Chinese government has recently announced a series of micro stimulus plans that signify the
government has the fiscal and monetary strength both to absorb losses and to stimulate the economy if
necessary. The Ministry of Finance decided to reduce the tax burden on small and mini enterprises since
August 1, with the tax cut reaching nearly 30 billion RMB annually.
China surpassed the US to become the world’s biggest trading nation last year, as measured by the sum of
the export and imports of goods, official figures from both countries show.
Inflation remained subdued at 2.7%, below the government's annual inflation rate goal of 3.5%. Industrial
production and trade figures were also better than expected, adding another positive sign to the mix.
Negatives
China has been spending the equivalent of over 70% of its GDP in fixed asset investment in order to achieve
its growth targets.
All this QE (quantitative easing) money has lead to a massive credit inflation bubble in Asia.
Australia
Australian PMI data for July shows a stumble into the new
financial year
Key Findings
•
The recent drop in the Australian dollar appears to have had little real benefit for manufacturers thus far (although many indicated they are
hopeful it will do so soon).
•
One third of respondents in July noted extreme weakness in local demand and/or consumer confidence.
•
The seasonally adjusted Australian Industry Group , ‘Performance of Manufacturing Index’ (Australian PMI®) fell by 7.6 points to 42.0 in July
2013.
Australia's declining terms of trade means nominal economic
growth is very weak.
1.
We would argue that within a year or two China's
growth rate will be under 5% (assuming China's
leadership is serious about rebalancing). That will
cause more red ink spillage for the next budget.
2.
If the terms of trade fall back to anywhere near
'normal' levels. It might even mean we should
expect real cuts to spending, not just cuts to
spending growth plans.
3.
Australia will mostly likely walk the path of other
major developed economies. That is, keep spending,
increase deficits, and let the central bank buy up
surplus debt issuance if it comes to that.
Source: ABS National Accounts
‘Mining boom’ is shifting gear
The new phase will see lower capital investment
in mining but actually more ore being shipped.
•
Natural gas will start increasing strongly in
2015.
•
The value of new resources projects has
declined and is forecast to fall hard.
Capital expenditure – intentions FY12/13 and 13/14
•
In the six months from October 2012 to April
2013, the value of projects at the ‘committed
stage’ of development decreased by $799
million.
•
In the past twelve months around $150
billion of projects have either been delayed,
cancelled or have had re-assessed.
Structural Change in the Australian Economy
Over time, the structure of the Australian
economy has gradually shifted away from
agriculture and manufacturing towards services,
with the mining industry growing in importance
recently.
Economic activity has also shifted towards the
resource-rich states of Queensland and Western
Australia.
Changes in the structure of the economy have
been driven by a range of factors including rising
demand for services, the industrialisation of east
Asia, economic reform and technical change.
In recent years, the rate of structural change
appears to have increased, driven by the rise in
resource export prices and mining investment.
The USD/AUD exchange rate has fallen to 89 cents, its lowest
level since September 2010
The recent depreciation of the Australian dollar will
help to improve the competitiveness of Australian
exporters and import-competing businesses that
have had to contend with an exchange rate above
parity for much of the past three years.
Less positively, a depreciation in the exchange rate
could cause an unwelcome increase in the price of
imported consumer and investment goods and
therefore in the inflation rate.
If consumer inflation starts to accelerate again, this
could prompt the Reserve Bank of Australia (RBA)
to refrain from further cuts to the official cash rate.
The RBA have raised the need for caution in a low-interest rate environment, to avoid an
undue lift in debt levels.
The RBA Minutes are out and shows a bank in half-easing bias
A set of structural factors at work to boost
inflation:
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Demographics pressuring rents and house prices
Asian growth story means high oil and other commodity
prices
Global pressures to drive global food inflation
Infrastructure requirements are boosting utilities and
other government taxes and charges
Natural disasters pressuring insurance levies.
The RBA & Monetary Policy:
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The RBA describes policy settings as being “modestly
accommodative”. RBA’s downgrading of GDP and
inflation forecasts points to lower rates ahead.
Global uncertainty and market volatility has RBA noting
“scope for monetary policy to provide some support to
demand, should that prove necessary, especially in light
of Europe’s sovereign debt woes”.
RBA has used rate cuts as short-term confidence
booster in past.
The housing market – an improving story?
If we are not very careful, Australia is going to have the mother of
all dwelling booms. What we are seeing is a three-pronged boost to
prices. First is a dramatic push to lift the demand for dwellings by
banks offering cut mortgage rates thanks to Reserve Bank Governor
Glenn Stevens.
But second, and just as importantly, there is reluctance by banks to
fund new supply. In any commodity if you inflate demand and
squeeze supply, prices go through the roof.
Thirdly taxpayers will subsidise the boom via a massive increase in
the use of negative gearing via both personal and superannuation
tax breaks.
Longer term, that will damage the economy and the Reserve Bank
will have to take responsibility for pulling the price boom trigger.
The market accepts further interest rate cuts but surely the Reserve
Bank board members will now have second thoughts about future
cuts.
Most of the demand will be from investors, including those using
their self-managed funds, plus the Chinese. First home buyers will
obviously contribute at the lower end.
Major economic and demographic trends over the next two
decades will produce opportunities for investors These trends include an
ageing population, food and water shortages, and the shift in the economic axis from West to East .
•
The ageing population is well-recognised in Australia but it is a global issue.
•
At least an ageing population has predictable needs and aspirations - Health care, assisted accommodation, hearing aids, eye
care and orthopaedics industries obvious winners.
•
Each year Sonic Healthcare (SHL) serves more than 75 million patients through referring doctors, hospitals, and community
health centres in Australia, the United States, Germany, Belgium, Switzerland, the United Kingdom, Ireland and New
Zealand.
•
In the third quarter of 2013, 91% of ResMed’s (RMD) revenues were earned outside of the Asia-Pacific region, and other
healthcare companies like Cochlear (COH) could be big winners due to the large portion of sales that occur outside of
Australasia.
•
There is a huge choice and finding a winner may require a portfolio of them, but stocks that invest in diagnostics or medical
aids have more certainty.
Food and water shortages CSIRO identified a mega trend for
food and water prices to rise faster than average inflation.
1. Food production will need to rise by 70 per cent by 2050
to meet global demand. Productive farmland shrinking
due to over-cultivation and urbanisation.
2. Food prices in real terms are likely to rise as incomes
grow in the developing world and as land is diverted into
biofuel production.
3. There are few food or agribusiness stocks left in Australia.
Consider Ruralco, a servicer rather than a producer.
4. Alternatively, Incitec Pivot, although it also has an
explosives business. Ridley Corporation provides feed
supplements or a listed phosphate miner. Nufarm
produces crop protection products against weed, pests
and disease.
5. Water usage in Australia is tipped to rise 42 per cent by
2026. The closest investors can get to water rights is
Tandou. Phoslock Water Solutions owns technology that
removes algae from water.
Regional and sub-regional share of world increase in
phosphate fertilizer consumption, 2012-2016
West to East By 2025 the Asia Pacific region will not only be bigger
than North America and Europe as it is already, but bigger than both
combined.
• The rise of China and India, has already wrought
huge change on the Australian economy, boosting
income and forcing up the dollar.
• China’s growth boosted our terms of trade mainly
through iron ore prices – which are likely to fall .
• As China moves into the next stage of its industrial
development, its demand for more complex
resources will rise i.e. Mineral sands.
• Zircon and titanium dioxide are consumed in tile
manufacture and pigment production respectively.
Global zircon demand is 1.5 million tonnes
annually, with China consuming 40% of this.
• Higher urban living standards and larger floor
plates will drive higher demand for zircon going
forward, Iluka Resources is the global leader in
zircon and a major player in the titanium market.
Long term price for mineral sands
EAST to WEST cont ..Developing countries are expected to
grow slightly more than 4 per cent annually in the next six
years.
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A second wave will be tourists as China’s middle class
grows.
•
Based on current trends, Chinese residents will be the
most common visitor to Australia by 2016.
•
With rising wealth and urbanisation, the middle class in
the rest of Asia is increasing exponentially. Coming
decades will see over 1 billion people in Asia transition
out of poverty and into the middle-income bracket
between $US6,000 and $US30,000 per year.
•
This will create opportunities for Australian companies,
long used to serving a large middle class. Consumer
staples, luxury goods and cars, education, health care,
financial services and insurance.
•
International share funds will become more skewed to
Asian growth.
Domestic travel and tourism spending (USDbn)
The big themes to watch (in to 2014)
these themes in longer term are positive for equities.
Automotive
• China and US will account for 60% of global growth.
• Chinese car firms will come to Europe
• Rising Chinese wages helps other emerging countries
• Erosion of economies of scale
• Mass customisation and shrinking supply chains
• 3D printing
• Emerging markets impressive :India closing on Russia
Entertainment - It’s all about digital
• Online video games outstrip boxed games
• Growth in e-books, e-music far outstrip physical versions
• Rise of tablets and phones as a companion device to TV
IT software and services
• US leads in cloud, big data, apps.
• Mobile internet. More mobile web devices than desktops
• Technology winners e.g. Kenya mobile banking; and losers e.g. bricks and mortar
• Web no longer a separate place.
Where are we in the economic and stock market cycle?
We are in the expansion
phase
Sector Rotation Model
Stage:
Full Recession
Early Recovery
Full Recovery
Early Recession
Consumer Expectations:
Reviving
Rising
Declining
Falling Sharply
Industrial Production:
Bottoming Out
Rising
Flat
Falling
Interest Rates:
Falling
Bottoming Out
Rising Rapidly
Peaking
Yield Curve:
Normal
Normal (Steep)
Flattening Out
Flat/Inverted
Where to Invest in 3rd Quarter 2013

Financial (reduce property trust and bank stocks as they are becoming
expensive)

Consumer cyclical (reduce exposure durable –non durables)

Energy

Transport

Technology

Capital goods

Mining

Infrastructure
Australia faces the challenge of managing prosperity
As for the local Australian economy, it seems to be surviving if somewhat
patchy in some areas, it’s the solid performance of the resource sector that is
backing it, which is also attracting and generating continued business
investment.
Conditions in some parts of the economy are likely to remain challenging,
with unsettled global conditions, the high Australian dollar, ongoing consumer
caution and changes in expenditure patterns all expected to weigh heavily on
some sectors.
Although unemployment remains within the 5 to 6 per cent range, some
economic variables are showing significant changes, which is leading to an
increase in unemployment in some sectors of the economy. In particular the
sustained high Australian dollar has hurt export competitiveness and dampened
the tourism sector.
Thank you for your time…