ASX 200 gives tick of approval to fiscal stimulus extensions

Last week’s tactical addition of more cyclical/value exposure relative to growth/momentum played well, with value factors across US indices outperforming momentum factors and the Russell 2000 and Dow outperforming the Nasdaq and tech heavy S&P. In Australia, value and cyclical factors also outperformed, with momentum underperforming as tech stocks and the bubbly “buy now, pay later” stocks came under pressure. The question now with the Nasdaq staging a clear break out overnight, albeit on significantly reduced breadth, whether to maintain the tactical increase in cyclical exposure?

The global COVID-19 case count continues to rise and return to “normal” becomes ever distant, economies remain on life support with ongoing central bank liquidity injections, bond buying and fiscal assistance the norm. With this, evidence is mounting that permanent job losses are stacking up, consumer caution is creeping higher as the virus has remained rampant into Q3, and the road to global recovery is emerging as long and winding. The speed of the rebounding data we have seen to date is unlikely to be maintained as recovery curves flatten, consistent with slowly plateauing recoveries fizzling out beyond the initial bounce back. However, this does not matter to financial markets at present, with risk asset pricing having detached from the real economy. A reminder that momentum and liquidity, alongside fiscal support, remain big drivers of the broad-based melt up in risk assets off the March lows. The support from central banks, ready and willing to act as and when is necessary, immunising financial markets against the fundamentals of the real economy. Incipient bubble or not, central banks have pledged ongoing support and liquidity, thus detaching asset prices from fundamentals and green lighting the hunt for yield. A dangerous dynamic in the long run, but not today’s focus. 

Plateauing recoveries, virus uncertainties and liquidity driven markets with a highly speculative flavour continues to support the allocation toward positive momentum trades – mega-cap technology, communications, software, growth and earnings duration. Multiple expansion remains a key driver of continued upside, with the low interest rate environment and lack of alternatives providing a premium for the high forecast future cash flows.

However, the growth factor trades at an extreme premium, with expectations running high as Q2 earnings kick up a notch in the US this week. Although this premium reflects a greater ability to capitalise off the COVID-19 acceleration of trends toward cloud computing, Saas, wfh, digitisation, and e-commerce, leaving these companies well positioned for the post-pandemic world. Essentially meaning “value” can be found in growth. There is a highly speculative portion of the recent advance in these stocks that may be due for a breather, unless the companies can meet and beat the lofty expectations embedded. Consequently, a temporary pause within a rising trend. Although we believe the companies leveraged toward these secular growth thematics will outperform in the medium/long run, valuations and excessively one sided positioning make us tactically cautious with respect to entry or increasing allocations at present.

The inability for the real economy to recover with the persistently rising virus case count globally and the threat of true second COVID-19 waves, as opposed to uncontrolled first waves once colder weather returns in the Northern Hemisphere keeps business investment and consumer sentiment capped. The nascent economic recovery is marred by the realisation that living with the virus is the new normal as many US states pause reopening, in Australia Melbourne locks down once again and NSW remains on high alert, with permanent job losses mounting and confidence dropping off. These factors being key deterrents to reflation trades and a broad based rotation into more economy dependant cyclicals. Without this value>growth remains nothing more than a tactical trade at present. Cyclical sectors will continue to trade at a discount, and the capacity for beaten down stocks and sectors to re-rate fully without the participation of the real economy is limited. Although there is scope for individual outperformance at the company level if companies meet lowered earnings estimates, given positioning is low. Investors will have to become more selective with respect to stock picking as the patchy recovery and post pandemic changes shape new investment paradigms.

Outside of equities, precious metals continue to perform, upholding the case for their place within a diversified portfolio. Silver remaining of interest as we flagged in early May, breaking through resistance at $19.65, the 2019 high, clearing the path to take aim at the 2016 highs. The gold/silver ratio continues to move lower as silver capitalises on a weaker dollar, industrial metal complex upside, and the positive momentum in gold. Gold is also shooting higher making fresh highs for the year. The monetization of deficits, debasement of fiat currency, low rates and YCC speculation, as real yields continue their march lower reduce the opportunity cost of holding gold, propelling the metal higher. As well, virus uncertainties compounding macro-economic unknowns and geopolitical risks continue to provide additional momentum for gold demand, with fresh all-time highs on the cards, likely by year-end. Beyond new all-time highs, a run at $2,000, an important psychological level, should be the next hurdle.

Australia Focus

In Australia, as expected the JobKeeper and JobSeeker payments have been extended at a lower rate for another six months. The scars of the global pandemic that leave realities of persistently high unemployment with permanent job losses mounting, prolonged social distancing measures and other restrictions impinging business margins, and resounding uncertainties that weigh on business and consumer confidence are yet to be felt. The extension of these support measures is critical in avoiding the harmful “fiscal cliff” effect that was due in September, particularly with Melbourne in lockdown and NSW cases rising, which has dampened consumer confidence once more, a critical driver of recovery. The ABS Payrolls data is consistent with the rebound in jobs plateauing and the labour market remaining depressed. To date the jobs recovered have been largely part-time and reflective of industries like hospitality and retail rebounding post lockdown. High frequency data is beginning to reflect the impact of fresh lockdowns in Melbourne that will drag on the recovery. Google/Apple mobility data, restaurant bookings, footfall, credit card spending, and new job postings are all dropping off or stalling. Despite the true unemployment rate being higher than outlined in the monthly jobs data, discretionary spending has remained supported by the government’s stimulus payments and early access to superannuation, which has insulated the Australian economy from some of the more dire predictions that emerged in February/March. Combined reflective of the ongoing need for the fiscal support measures as the economy sits on the precipice of the COVID-19 induced recession and a considerable degree of uncertainty remains. Particularly as the boost from the early access to superannuation fizzles, in some ways a wild card given the impact on discretionary spending is difficult to forecast.

Governor Lowe, speaking today, also reiterated the need for ongoing fiscal support for the Australian economy. With the transmission of monetary policy now somewhat limited when it comes to reinvigorating economic growth, the baton must be passed to fiscal support. Utilising Australia’s balance sheet capacity in reviving investment, productivity and confidence, alongside returning the labour market to potential. The cost of borrowing at the effective lower bound is not a hindrance to businesses or consumers, the uncertainties surrounding the economy and the virus are the primary issues. To which the answer is fiscal, with monetary policy playing second fiddle.