The RBA feels like it is playing catch up as we had another rate rise and expected to have another one in July due to the high increase in award wages starting on 1 July. The US has paused rate hikes, however it was also a lot more aggressive in getting there given they are sitting at 5%-5.25% compared to our 4.1%
The US is now at a 65% chance of recession with the whole global outlook trending weaker, however it feels like most of this has been priced in, and the market will react early to any good news.
Australian Fixed Interest
The Australian 10 year bond rate has risen to almost 4%, which is up 50 basis points for the month, however we are sitting in a (slightly) inverted yield curve (1 v 10 year) with an inversion of 35 basis points, though they usually say an inversion means recession, it is a scale, and the US is sitting at an inversion of 150 basis points.
The banks are predicting that we will see hit the cash rate hit 4.5%, however will most likely see a decline over the next two years. Our global currency position should also continue to improve as we negotiate the rate movements. Westpac are predicting 0.77 by the end of 2024 and NAB predict 0.73.
Australian shares have gone up 1.9% since the start of the year and 8.7% since last year. But they had a bad month in May, losing 2.5%, because of worries about the global economy (especially China) and the RBA raising interest rates. IT shares did well (like in other countries), but consumer shares did poorly. The prices of Australian shares are not too high or too low compared with their history. In June, Australian shares have gone up a bit so far.
The Australian economy is not growing very fast, but the RBA still wants to raise interest rates more to stop inflation from getting too high. Inflation is when prices go up over time. The RBA is worried that people and businesses will expect prices to keep going up and will raise their prices and wages more. This could make inflation worse. The RBA did not say that inflation expectations are stable, which is a sign that they are worried. Higher prices for houses and wages could also make inflation higher than the RBA’s target. Higher interest rates could hurt the economy more.
Some experts think the RBA will raise interest rates more than they said before. NAB thinks the RBA will raise interest rates to 4.6%. Goldman Sachs and Capital Economics think 4.85%. Higher interest rates could slow down the economy more, especially for sectors that borrow a lot of money.
The economy only grew by 0.2% in the first three months of 2023, which is much slower than the 0.6% growth in the last three months of 2022. The economy is now growing by 2.3% a year, which is barely faster than the population growth. The economy is still expected to grow, but mostly because of more people coming to Australia. The economy is not becoming more efficient or productive, and labour costs are going up.
The RBA said that they want to keep the economy stable as inflation goes back to their target of 2%-3%, but it is hard to do that without hurting the economy too much. If they make a mistake, the economy could crash, which would be bad for company profits.
The prices of commodities (things like iron ore, coal, oil, etc.) have gone down by 22.2% in international money and by 17.5% in Australian money in the last year. This is because they were very high before, but it still means a big drop and another risk for Australia, which sells a lot of commodities to other countries.
China’s economy is also slowing down, so China’s central bank has lowered interest rates to help it grow faster. This could be good for Australia, which trades a lot with China. But there are also worries about China having too much debt and having financial problems.
The prices of Australian shares are not too high or too low compared with their earnings (profits). The average price-to-earnings ratio (P/E) for Australian shares is 14.2 for the past year and 14.3 for the next year, with an average dividend yield (how much money you get from owning shares) of 4.8%. These numbers are similar to their historical averages.
International shares have done well in 2023, and most of them have gone up more than last year. The main reasons are that the global economy is doing better and some technology companies are doing very well, especially those that use AI. AI is artificial intelligence, which is when machines can do things like humans. More and more companies are using AI, not just the big ones.
But not all countries and regions did well in May. The MSCI All Country World Index, which measures how all shares in the world are doing, went down 1.3% in May. Shares in developed countries (like the US, Japan, and Europe) did better than shares in emerging countries (like China, India, and Brazil). China’s shares did badly because of its economic problems. Japan’s shares did very well and reached their highest level in 33 years.
Can international shares keep doing well? The S&P 500, which measures how US shares are doing, has gone up a lot recently. Some things could help international shares do well, such as AI and new technologies. The global economy has grown faster than expected in 2023, even though some regions like Europe have gone into recession. Recession is when the economy shrinks for two quarters in a row. Investors were not expecting the economy to do well, so they were surprised. There was also a lot of money available for investing, because the Bank of Japan printed more money and other central banks helped banks after Silicon Valley Bank collapsed. Silicon Valley Bank was a big bank in the US that had a lot of problems. International shares did not care much about central banks raising interest rates to stop inflation.
The global economy might grow slower in 2024, because of some things that could make it harder for businesses and consumers to spend money. These things include lower prices for commodities (things like oil, iron ore, coal, etc.), harder conditions for borrowing money from banks, and lower difference between short-term and long-term interest rates (this is called the yield curve). The World Bank is an organisation that helps countries with their economies. They said that the global economy will grow by 2.1% in 2023, which is better than their previous estimate of 1.7%. But they said that the global economy will grow by only 2.4% in 2024, which is worse than their previous estimate of 2.7%. They said that this is because central banks are making money more expensive and credit more scarce. The World Bank’s chief economist said that 2023 will be one of the slowest years for growth in rich countries in the last 50 years, and that growth will be low for many years.
Inflation is still high and interest rates might stay high for a long time. This could make the global economy grow very slowly and not recover quickly. This is called an L-shaped cycle. Inflation is when prices go up over time. Interest rates are how much it costs to borrow money or how much you get for saving money. When inflation is high, central banks raise interest rates to make people spend less and save more. This can slow down the economy and make inflation lower. But if inflation stays high and interest rates stay high, the economy might not grow much or recover fast. This is different from a V-shaped or U-shaped cycle, when the economy goes down fast but then goes up fast or slowly. How much the economy produces and spends matters as much as how fast it changes. There was a lot of money available for spending before, but now there will be less money available.
The global economy is not surprising us with good news anymore, but with bad news more often. The prices of commodities are going down, which means that the global economy is not growing fast enough to need more of them. The price of oil is an example of this. Some countries have less oil to sell, but this does not make the price go up much.
With investors now expecting interest rates to stay high for a long time, two important things to watch are liquidity and earnings. Liquidity is how much money is available for investing or spending. Earnings are how much profit companies make from their business.
The US Fed is the central bank of the US. They are taking away some of the money they printed before by selling some of their bonds every month ($95 billion worth). Morgan Stanley expects that the US government will also sell more of its short-term bonds (T-Bills) after they agree on how much debt they can have (this is called the debt ceiling). This means that there will be less money available in the US and in the world. Europe will also have less money available, because some banks have to pay back some of the money they borrowed from the European Central Bank in June. The European Central Bank will also start taking away some of the money they printed before in July. This is called quantitative tightening or QT.