Overnight: Just Below Neutral

By Greg Peel

Hanging Around

The ASX200 opened up 9 points yesterday to mark its high for the session ten minutes in. The next twenty minutes saw a -30 point fall to mark the low for the session. Half an hour later we were back to square and the humans took over from the mindless computers.

Then the humans did nothing much. There was a bit of a dip early afternoon but the index closed as good as flat.

After Tuesday’s comeback it was time to take a breather and wait to see what happens next in the rest of the world, specifically, in the short term, the Fed chair’s speech, the latest Fed minutes and the US-China trade talks which I now believe are to be held on Saturday night Argentina time.

Tick one box – Jay Powell said all the right things last night and Wall Street has rallied.

The mid-session dip may well have reflected a surprisingly weak set of data for Australian September quarter construction work done. Total construction fell -2.8% in the quarter after a solid June quarter of 1.8% growth. Economists had expected 0.9% growth in September.

Housing construction unsurprisingly fell, by -1.0% from a record in June. Declining building approvals data suggest that a hole will soon open up once projects on the go currently reach completion. However, Rome wasn’t built in a day so this won’t happen tomorrow, and housing is coming off a very high base.

Public sector construction fell -0.1% but this sector remains the primary driver. The fall is also from a record in June, and there remains a huge pipeline of rail and road projects ahead, particularly in NSW-Victoria.

The real disappointment was private sector engineering, which dropped -4.5%. However, as ANZ economists point out, the Northern Territory chimed in with a whopping -40% fall. This likely reflects the fact the big Ichthys LNG project is nearing completion. Construction in WA and Queensland is also at low levels as the big LNG projects in those states have either been completed or just about.

Once the major build-out phase of the LNG wave is over, the decline to completion from this sector will cease to be a drag on the private engineering number. But that said, yesterday’s net result has meant a reduction in economist forecasts for next week’s GDP number.

In the stock market, IT (+1.3%) continued its comeback while lower commodity prices meant energy (-0.1%) and materials (-0.7%) balanced out gains elsewhere. Consumer discretionary (-0.5%) was the only other sector in the red, possibly because a turn-down in housing construction is an early warning of a decline in demand for furniture and appliances.

Other sectors were largely steady.

ASX200 winner on the day was oOh!media ((OML)), which rose 6.7% after winning a Brisbane street furniture contract. On the downside, commodity-related stocks dominated.

Hanging around was probably a good thing yesterday. Jay Powell’s speech had Wall Street surging and our futures up 40 points this morning.

Relief Part One

In an interview with the Washington Post earlier this week, President Trump said he was “not even a little bit happy” with his decision to replace Janet Yellen with Jerome Powell. Last night, however, Wall Street was very happy.

In October, the Fed chair said the funds rate “may go past neutral, but we’re a long way from neutral at this point, probably”. And we all know what happened to Wall Street in October.

Last night Powell said “Interest rates are still low by historical standards, and they remain just below the broad range of estimates of the level that would be neutral for the economy — that is, neither speeding up nor slowing down growth”.

So in the space of a couple of months we’ve gone from “a long way from” to “just below” neutral, despite no rate hike in the interim and no net movement in US bond yields.

Powell also reiterated the FOMC intends to tread lightly and take things as they come, in other words, data dependence. But for Wall Street, the conclusion drawn is that December will likely see a hike as expected, but 2019 may not see the Fed acting as swiftly as previously feared. “Just below” was worth 1.8% for the S&P, 2.2% for the Dow and 2.7% for the Nasdaq, bearing in mind the whole October-November correction began when Powell made that “long way” call in October.

But just how much of a policy shift does this really imply? The Fed rate is now just below “the broad range of [FOMC] estimates” of neutral. Given the range most recently provided, that’s like saying Australia is near the Pacific Ocean. There could still be plenty of rate hikes ahead to get a “mean” neutral and economists point out that Powell did not qualify his comments with any suggestion the US economy was slowing or inflation risk was easing.

But hey, Wall Street was happy to take it. Anything that might suggest the correction is over and Santa is back in business is currently welcomed. Tonight sees the release of the minutes of the Fed meeting back in early November, after Wall Street correction part one, so the market will be looking for further signs of a more dovish shift.

Then it will all come down to Trump and Xi to provide, maybe, Relief Part Two.

Commodities

The US dollar fell a full -0.6% on the Powell speech. This should have provided some welcome support for long suffering commodity prices.

But gold appears the only beneficiary. For the other metals it was mostly a case of not falling further.

For oil, it made no difference. The latest US crude production data continued the trend of the stuff being pumped out of the ground at a record pace.

Do we think the forex cowboys are still playing the Aussie short? On the greenback’s -0.6% fall, the Aussie’s up 1.2% to US$0.7307 despite the GDP forecast reductions that will flow from yesterday’s weak construction numbers.

Today

The SPI Overnight closed up 40 points or 0.5%. Despite the fact we typically don’t get quite as carried away as Wall Street (+1.8%), that Aussie is a bit of a drag.

Attention will be focused on the Fed minutes tonight and also on the PCE inflation number for October.

Locally, next cab of the rank in the GDP countdown is today’s private sector capex numbers.

Aristocrat Leisure ((ALL)) delivers its earnings result today while Bellamy’s ((BAL)) provides an investor update.

Estia Health ((EHE)) is among those companies holding AGMs today but the real fun will be over at the Premier Investments ((PMV)) AGM, ahead of the Myer ((MYR)) AGM tomorrow.

The Australian share market over the past thirty days…