Investors prepare for challenging year

Sharemarkets have rebounded from their sharp drop in December but investors shouldn’t be lulled into complacency by this upswing: the volatility seen in 2018 is expected to continue this year.

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Rising market values in January have made back about half of the 20 per cent loss seen late last year. It’s a nice start to the year but let’s be clear: ANZ’s Chief Investment Office team believes this will be a challenging year for investors.

"There’s plenty of risk in the sharemarket because economic growth is slowing while pressure is increasing on wages and prices rise.”

Expect volatility

There’s plenty of risk in the sharemarket because economic growth is slowing while pressure is increasing on wages and prices rise, especially in the US.

Not to mention other matters such as the US-China trade war, Brexit, China’s debt-laden and slowing economy and so on. Investors are already nervous and markets twitchy.

Such sensitivity means sharemarkets can respond with volatile swings to positive or negative news in these areas. This is what has been seen so far.

Slower, but still solid

In response, governments and central banks are striving to maintain growing economies.

The US Federal Reserve will likely pause rate hikes for all or much of this year which would support momentum in the world’s most important economy. China is easing monetary policy and cutting taxes. .

However, investors should note these efforts are likely only to stabilise growth rather than lead to a genuine re-acceleration in 2019.

It’s a similar story for Australia. Growth will likely slow but remain solid. Public spending, business investment and net exports should all contribute to keep growth around trend. However, wages growth is expected to remain weak with falling house prices in both Sydney and Melbourne adding to concerns.

Despite these risks the government budget is in good shape. The Reserve Bank of Australia’s cash rate is likely to remain at 1.5 per cent for at least another year.

The end is not nigh

To be clear, while slowing, Australia and the global economy still have a solid outlook. The recent correction means it’s just returning to a ‘trend’ level after a number of years of above-trend growth.

The fall in the share market  from its highs of 2018 also means they shares are now fairly valued, not over-valued, putting sharemarkets on a more sustainable footing, improving the prospects for returns this year.

This is all nicely balanced but the risks on the outlook are downward as we are now late in the investment cycle. We’ve been in an upward growth phase for about 10 years, and that is something that simply cannot last.

There is always a cycle to investment market performance and it can’t go on for ever. The question is what form will it take?

Gradual slowdown

ANZ predicts three main forms a downswing could occure this year. While the base case suggests a market downturn, the two risk scenarios are not so rosy.

The most likely scenario is what ANZ’s Chief Investment Office is focused on – a gradual slowdown. The investment and economic cycle is continuing to slow with inflation only gradually lifting. Central banks will balance attempts to dampen any financial market ‘exuberance’ while working against recessionary forces. This isn’t a bad outcome.

In terms of risks, while a relatively low probability, a sharper lift in inflation would be very concerning because it would make it harder for the US Federal Reserve to pause rate rises. Such a situation could lead to negative returns for investors and a sharp loss of sharemarket value.

A mild recession is a little more likely than this. This will occur if US rates stay on hold and the economy slows. Company earnings would be negative due to higher costs and lower growth. Tariff escalation due to the US-China trade war would compound this situation.

ANZ’s view is cautious towards growth assets such as shares for the coming year. While share valuations have improved, analysis shows the global economy has slowed. All up, returns are expected to be below the average of recent years.

Mark Rider is Chief Investment Officer – Wealth at ANZ

The views and opinions expressed in this communication are those of the author and may not necessarily state or reflect those of ANZ.

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