Month in Review
Global equities enjoyed another good month in November, reflecting ongoing positive economic data and still relatively low global inflation and bond yields. Prospects for a US tax cut also helped to buoy sentiment over the month, while geo-political risks – such as North Korea – remained contained.
The MSCI All-Country Equity Index posted a net return of 1.3% in local currency terms, and a stronger 3.1% gain in $A terms – the latter reflecting further weakness in the Australian dollar during the month.
Source: Bloomberg. Asset Benchmarks Cash: UBS Bank Bill Index; Australian Equities: S&P/ASX 200 Index; Australia Bonds: Bloomberg Composite Bond Index; Australian Property: S&P/ASX 200 A-REITs; International Equities: MSCI All-Country World Index, unhedged $A terms; Commodities: S&P GSCI Light Energy Index, $US terms.
Australia’s S&P/ASX 200 Index also posted another good result, returning 3.1% after a solid 4.4% return in October. Easing fears of local interest rate hikes – following a benign consumer price inflation report – saw local bond yields to drop, and in turn supported the listed property sector – which returned 5.3% in the month.
Over the past twelve months, the best performing asset class was unhedged international equities, followed by Australian equities. Cash was the worst performing asset class, followed by commodities.
With global growth improving and a continued absence of inflationary pressure – which would cause central banks to withdraw stimulus more quickly – the overall outlook for global equities remains positive. The likely imminent approval of US tax cuts should further buoy sentiment.
As seen in the chart below, while global corporate earnings expectations eased slightly last month (after solid upgrades over recent months), the outlook remains encouraging. Even if earnings growth expectations stabilise at current levels, they’d be consistent with 10% growth in global forward earnings between end-November 2017 and end-December 2018.
Further modest interest rate increases in the US still seem likely in coming months (including next week), but should not stand in the way of further equity market gains.
As evident in the chart below, although the forward earnings ratio remains at an above-average level of 16, relative to still low bond yields the forward earnings-to-bond yield gap is still reasonably attractive at around 4%. This suggests scope for the PE ratio to hold up – or at least not fall by much – as and when bond yields gradually rise, as I believe they will, over the coming year.
Critical to this outlook remains continued low global inflation, which results in only a gradual lift in bond yields. In this regard, it’s worth noting that bond yields have already lifted notably since mid-2016 without as yet much negative impact on stock markets. Encouragingly, US wage and consumer price inflation data over the past month remained fairly benign.
Where to invest?
Within equity markets, favoured exposures remains skewed toward international equities – due to Australia’s more muted earnings outlook and likely further weakness in the $A. Within Australia, the challenges faced by our large-cap financial and resource companies suggest better growth opportunities may be available via the EX-20 ETF, as recently explained here. Given low interest rates, those looking for relatively defensive income opportunities may consider the BetaShares floating rate bond and hybrids funds, QPON and HBRD.
As previously explained, the prospective rise in US bond yields – along with US financial deregulatory moves – also favors the BetaShares Global Banks ETF – Currency Hedged (ASX Code: BNKS). A globally stronger $US should also favor relative performance by Japanese and European equities (currency hedged exposure available through BetaShares’ HJPN and HEUR ETFs).
Other investment themes for the current market could include buying the $US against the Australian dollar on a view that the $US could gradually strengthen (such as through the BetaShares funds USD or YANK).