Market Update: September
- RBA leave rates on hold for a second consecutive month
- Early signs of an improvement in housing markets
- Yield Curve Inversion: False Signal or Red Flag?
|Opening Value at
7 August 2019
|Closing Value at
3 September 2019
|Dow Jones Index||26,029.52||26,118.02||88.50||0.34%|
|RBA Cash Rate||1.00%||1.00%||–||–|
The Reserve Bank of Australia decided to leave the cash rate unchanged at 1.00% after making consecutive cuts in June and July. However, RBA Governor Philip Lowe said that growth in the Australian economy is continuing to disappoint “with household consumption weighed down by a protracted period of low-income growth and declining housing prices and turnover,”.
The RBA maintained that, “It is reasonable to expect that an extended period of low-interest rates will be required in Australia to make progress in reducing unemployment and achieve more assured progress towards the inflation target”. If further rate cuts are to eventuate, with markets expecting another rate cut by November at the latest and a second likely in the new year, this will further depress mortgage rates, albeit with diminishing returns, helping support those with leverage.
Expectations for future rate cuts by the US Federal Reserve have solidified with the market expecting a cut of at least 25 basis points when the Federal Reserve meets in the middle of September. Whilst US consumer prices increased in July, with the 12-month core consumer price index measuring in at 2.2%, above the Fed’s 2% target, markets still expect a reduction in rates based on the downside risks of the escalating trade war.
The recovery in housing values accelerated in August with national dwelling values increasing by over 0.8% over the month with the RBA noting that there have been “further signs of a turnaround in established housing markets, especially in Sydney and Melbourne.”
This has been consistent with a sustained increase in auction clearance rates as a deeper pool of buyers compete over a smaller pool of available properties. Auction clearance rates for the last few weeks have been around 70 – 75%, their highest point in over two years. The current increase in buyer confidence, and subsequent increase in prices, is being attributed to “the positive effect of a stable federal government, as well lower interest rates, tax cuts and a subtle easing in credit policy.”
Over the coming months, it will be interesting to see if the current improvement continues and whether it spreads from Sydney and Melbourne to other capital cities and regional markets.
Yield Curve Inversion
The US yield curve, commonly referred to as the difference between the yield on the US 10-year Treasury and the US 2-year Treasury inverted midway through August, where the 2-year Treasury had a higher yield than the 10-year Treasury. Inversion of this yield curve has long been a reliable indicator of a coming recession, having predicted all seven of the previous recessions. The yield curve inversion can highlight either that current monetary conditions are too tight, or that investors are worried about future economic growth and wish to reduce their risk by increasing their demand for long-term bonds, thereby increasing the price of these bonds and decreasing their yield.
The more pronounced inversion occurred after the recent escalation in the trade war following announcements by China of its retaliatory tariffs and Trump’s immediate response of additional tariffs highlighting the fear investors have that the Trade War could result in a severe slowdown.
It is important to note that the yield curve has given false signals in the past and that no two situations are exactly the same. In particular, rapid advancements in technology and the effects of several rounds of quantitative easing could very easily have resulted in a structural shift in the global economy towards a new paradigm of low inflation and low-interest rates causing the historical link between the yield curve and economic growth to have decoupled. However, to quote legendary investor John Templeton, “the four most expensive words in investing are: ‘This time it’s different.’”