The stage looks set for equities to grind higher into next year and continue climbing the “wall of worry”, supported by receding risks on the geopolitical front and an accommodative stance from central bankers across the globe, particularly as central bank balance sheets are growing once more. The much anticipated Phase One trade deal has laid the foundations for the market to continue its ascent into year end, but as the reality of this interim deal being not much more than a face saving way to step back from further tariff hikes sinks in, the onus will be focussed on continuing green shoots in global economic growth and central bank liquidity to fuel upwards moves.
Signs of a nascent stabilisation in growth continue to crop up, JP Morgan global manufacturing PMI is on the up and back above 50 after bottoming in July. OECD leading indicators are also signalling a potential stabilisation in growth into 2020 and the data dump from China today adds to the notion of a growth stabilisation in progress, even before any interim trade detail or tariff rollback. Industrial production and retail sales both beat economists’ estimates, signalling that economic activity is perhaps turning a corner in China.
This as we enter a seasonally strong period for equity markets. Over the last 10 years the average gain for Aussie stocks in December has been 1.9% with the market higher in eight of those ten years. And as the political risk premium recedes into year end and confidence in green shoots endures, Santa should deliver for risk assets.
The key question for 2020 is whether green shoots actually translate into a self-sustaining growth pulse. Without a full tariff rollback and once UK/EU trade negotiations begin, the notion of “receding risks” on the geopolitical front may falter. And given that we believe monetary stimulus to date will not be enough to produce a prolonged recovery in growth, so unlikely to do more than stabilise growth at low rates, it is likely growth concerns materialise again in 2020.
But the market is looking past realities of languishing economic growth and lacklustre corporate earnings growth, with Australian stocks on course for the Asian regions worst profit growth next year, and is instead fuelled by multiple expansion given interest rates are a more powerful determinant of asset prices. The equity dividend yield premium of the ASX relative to Australian government bonds is hovering around decade highs which continues to entice investors up the risk spectrum, favouring equities, this dynamic is set to persist into 2020 as the RBA continue to ease monetary policy.
Come February reporting season in Australia market performance and economic realities may be forced to converge once more. But with the Fed, the RBA and a whole raft of central banks remaining in easing mode, rate hikes and “normalization” are not on the horizon in the foreseeable future, and yields around the world will remain low. This means we continue to see any corrective moves being bought as investors sitting on the sidelines with dry powder step in when valuations correct. One lesson learnt from QE infinity and excessively accommodative monetary policy; asset price inflation.
In our view this means sticking with risk assets into 2020 remains favourable, but given a lot of optimism is already priced, return expectations for the year ahead should be more moderate, particularly as the year begins on a very different footing to last. Without a large correction in valuations or peaking pessimism. A diversified portfolio of stocks and bonds remains a good strategy, staying focused on long-term investment objectives.