US political protests, inflation and rising bond yields

Key points

  • US protests are only an issue for investments markets if they significantly impact economic activity.
  • Global and Australian recovery will boost bond yields and there is good reason to believe that (after yet another false ending) the now nearly 40-year super cycle decline in bond yields may be at or close to over.
  • But the end of the bond bull market is likely to be gradual and so shares and real assets are likely to still see some benefit from a search for yield.


New years often start with a few events to challenge any calm investors may have achieved over the Christmas/New Year break. Some of these prove short lived like the global growth scare at the start of 2016 or the US inflation and interest rate scare in early 2018. Others have a more lasting impact such as the coronavirus pandemic. This year we have seen the year start with an attempted “insurrection” by a mob of Trump supporters and a sharp back up in bond yields. This has all come at a time when share markets have become a bit vulnerable to a correction after a strong run up. The rise in bond yields begs the question whether we have at last seen the end of the near 40-year bull market in bonds. But let’s first have a look at US politics as it will likely impact where bond yields go.

US protests largely ignored by markets

As disturbing and dramatic as recent events have been in the US – with President Trump provoking a mob of armed supporters to march on the Capitol leading to several deaths and some chanting “hang Mike Pence”, then Trump telling them “we love you”, all leading to him being impeached for a second time with even many Republican supporters turning against him – they had little impact on investment markets. And even as the protests by Trump supporters continue around Joe Biden’s inauguration, they are unlikely to have a big impact. This is because unless there is a significant disruption to economic activity and/or the sound working of the political process then they are of little relevance to investment markets. This was also the message from the Black Lives Matter protests in mid-2020 (not that they are really comparable) and past incidents such as the 1995 Oklahoma City and 1996 Atlanta Olympic Park bombings as well as numerous other terrorist attacks (bar 9/11 which was on a far greater scale). More fundamentally it seems that every so often the US goes through a catharsis only to emerge stronger – the Civil War, the Great Depression and the 1970s come to mind. There are three reasons for optimism.

  • First, US democratic institutions held firm – with electoral officials, judges and politicians giving precedence to the law and their duty opposed to their political allegiance (think Georgia Secretary of State Brad Raffensperger).
  • Second, the violent invasion of the Capitol highlighting a lack of respect by Trump and his supporters for US institutions and how this leads to violence has likely further alienated mainstream Republicans (many of which see the GOP as the party of law and order) and Americans.
  • Finally, it puts more pressure on the Biden Administration to do something about the drivers of extreme social division and polarization in the US – such as inequality. This is something Trump tapped into to get elected but didn’t address. And the Democrat clean sweep with control of the Presidency, House and now the Senate gives them scope to do this. Maybe it’s necessary to save capitalism from itself! Which over time will likely mean higher bond yields.

Bonds 101

It’s first worth a quick refresher on how bonds work. If the government issues a bond for $100 and agrees to pay $3 a year in interest, this means an initial yield of 3%. The higher the yield the better, but in the short term the value of the bond will move inversely to the yield. If growth or inflation slows and the central bank cuts interest rates, investors might snap up the bonds paying $3 till the yield is pushed down to say 2%. In the process, the value of the bond goes up giving a capital gain. This is what’s happened in recent decades and explains why bonds have had good returns despite ever lower bond yields. But if growth or inflation pick up and bond yields rise, investors suffer a capital loss. And if you buy a bond yielding 2% and hold it for its term to maturity (say 10 years) the return will be 2% pa!

A bit of context around the big picture in bond yields

The next chart shows US and Australian bond yields from 1860.

Since the 1940’s there’s been two secular moves in bond yields:

  • A near 40 year super cycle rise in yields into the early 1980s driven by rising inflation on the back of expansionist economic policies after the Great Depression and WW2, monetary financing of the Vietnam War, rising commodity prices, protectionism and slowing productivity along with rising economic uncertainty resulting in higher real yields.
  • A near 40 year super cycle decline in bond yields from the early 1980s on the back of a sharp fall in inflation driven by aggressive inflation fighting central banks in the early 1980s and 90s, supply side reforms, globalisation, lower costs and increased competition flowing from digitalisation, rising inequality depressing spending, spare capacity and reduced worker bargaining power with worries about deflation in recent times combined with safe haven investor demand for bonds, rising demand for safe income yielding assets as populations age & central bank bond buying since the GFC.

Since their record lows at the height of the pandemic driven market panic in March/April, 10 year bond yields have risen in the US from 0.5% to 1.09% and in Australia from 0.6% to 1.08%, with the latest leg in the last few weeks. The drivers have been economic recovery, increasing optimism about a further recovery as vaccines are deployed with the likelihood of more stimulus in the US following the Democrats gaining control of the US Senate. Surveys of US investors now show inflation and higher rates as bigger concerns than coronavirus.

However, the bond bull market since the early 1980s has seen several reversals associated with cyclical economic upturns only to see the declining trend resume. There have been numerous attempts to call the end of the super cycle bond bull market (including from me!) only to see new deflationary shocks – the GFC, the Eurozone debt crisis, the 2015-16 global growth scare, US trade wars – push yields even lower. In this context, the recent rise in bond yields is just another uptick in a long-term downtrend. In fact, higher bond yields and steeper yield curves are perfectly normal in cyclical economic recoveries.

We may be at/close to the end of the bond bull market

However, more fundamentally, a range of factors suggest we may have seen/come close to the bottom in the 40-year super cycle decline in bond yields and that the trend may shift up:

  • Central banks are now throwing everything at boosting inflation – much as they did in the early 1980s in trying to get inflation down. This is evident in massive money printing and central banks committing not to raise rates until inflation is sustainably at target with tolerance for an overshoot.
  • Massive fiscal stimulus provides an avenue for rising money supply to boost spending and hence inflation in contrast to last decade when easy money was offset by fiscal austerity.
  • The political pendulum in Anglo countries is swinging back to the left with more intervention in the economy – in the US under President Biden this is likely to focus on reducing inequality (which is positive for spending) and policies designed to shift power back to workers from companies.
  • Globalisation is starting to reverse – reflecting a desire to bring the production of some things back onshore to protect supply chains along with tensions with China.
  • Bond yields around zero seem to have hit a bit of a natural barrier and the bond bull market is now long in the tooth. 
  • It’s hard to see negative or near zero interest rates being sustainable on a very long-term basis. Over the long-term nominal bond yields tend to average around long-term nominal GDP growth. Even on the basis of our conservative long-term nominal economic growth expectations, 10-year bond yields are well below sustainable levels.

Bond yields well below long term sustainable levels


  • Finally, the crowd is very long in bonds as indicated by cumulative inflows into US bond funds & ETFs as opposed to equity funds and ETFs. These positions could be shaken if bond yields rise significantly leading to capital losses.

But a rising trend in yields is likely to be gradual

The end of the four-decade super cycle decline in bond yields will likely be gradual and unfold over several years:

  • Historically, bond yields have gone through a base building process over several years after a long-term downswing as it takes a while for growth and inflation expectations to turn back up. See the circled areas for US and Australian bond yields in the earlier chart.
  • While growth will likely bounce back this year, spare capacity – evident in still high levels of unemployment and underemployment – remains high and will keep wages growth weak limiting any pick up in underlying inflation over the next year or two, even though commodity prices are up.
  • Major central banks and the RBA in Australia remain a long way off from starting to tighten so global monetary policy will remain easy for a while yet.
  • Inflation expectations are anchored at low levels, in contrast to the 1970s and in 1994 – which makes it harder for short term price spikes to turn into permanently higher inflation.
  • Finally, central banks will not be powerless to deal with above target inflation when it eventually comes. In fact, high debt levels mean that interest rate increases will now be more potent than they used to be – so the RBA won’t have to raise rates as much to control inflation as in the pa

Implications for investors?

There are several implications from an eventual end to the bull market in bonds. Firstly, expect mediocre returns from sovereign bonds as they will no longer be boosted by declining yields driving capital growth. 10-year bond yields of 1.1% in Australia imply bond returns over the next decade of just 1.1%! And in the short term, rising bond yields will mean capital loses.

Secondly, higher bond yields will impact share market returns as they make shares more expensive. Shares will be okay if the rise in bond yields is gradual and so can be offset by rising earnings – as we expect this year – but a large, abrupt back up in bond yields will be more of a concern.

Thirdly, a bottoming in bond yields will favour share market sectors that can benefit from economic recovery via higher earnings – like industrials, banks and resources stocks.

Fourthly, for real assets like unlisted commercial property and unlisted infrastructure, the search for yield may still support investor demand unless bond yields rise aggressively. But both sectors still have some issues to work through from the pandemic reducing demand for shops, offices and airports.
And for home borrowers we are probably at or close to the bottom in fixed mortgage rates in Australia.

Dr. Shane Oliver, Head of Investment Strategy and Economics and Chief Economist, AMP Capital

Concentrated Performance in the Stock Market 

Posted August 4, 2020 by Ben Carlson

In 2010, Exxon Mobil was the largest company in the S&P 500 with a market cap north of $350 billion.

By 2015 it was still the 5th largest company in the S&P with a market cap as high as $380 billion.

Since then the energy industry has fallen on rough times and Exxon now has a market cap of roughly $180 billion. It’s still one of the largest companies in the country but now ranks only in the top 30 by market cap.

Last Friday Apple was up more than 10% after beating earnings expectations. The increase in their market cap that day was an Exxon, rising by around $180 billion…in a single day!

The numbers for the biggest tech stocks are getting silly.

Apple now has a market cap within a stone’s throw of $1.9 trillion. Microsoft, Amazon and Google all have trillion-dollar market caps as well. Facebook is the 5th largest corporation in the index with a market cap of more than $770 billion, more than double Exxon’s size when it was king of the mountain.

This chart from Goldman Sachs is pretty telling in terms of how things have gone in the stock market this year because of the growth in these gigantic names:

The biggest tech stocks have only gotten bigger. Here are the year-to-date returns compared to the S&P 500:

It’s a miracle the S&P 500 is now up more than 3% on the year but that number looks tiny compared to the returns of our tech overlords.

So tech stocks are ruling the day yet again and remain the only stocks doing well this year, right?

Not necessarily.

Yes, these gargantuan companies continue to pile up huge returns even as they have reached market caps in the cuatro common club. But that chart from Goldman Sachs is a tad misleading, even though it’s technically accurate.

While the S&P 500 is up a 3% or so this year, there are 142 stocks (as of yesterday’s close) in the S&P 500 that are up at least 10% or more. On the other hand, there are 220 stocks down 10% or more this year.

This is a list of the top 30 performers in the S&P 500 through yesterday:

The big stocks are on here but it’s not all of these stocks are the mega-caps. It’s just that the mega-caps have a bigger share of the market.Here’s an update of the distribution of returns within the S&P 500 this year:

There is always a wide range of returns within the stock market itself. The best performer this year (Carrier Global) is up more than 130% while the worst performer (Norwegian Cruise Lines) is down almost 80%.

When Exxon was the largest company in the S&P 500 in 2010 the largest 5 companies made up less than 11% of the index. Today, the 5 largest companies make up nearly 23% of the entire S&P 500.

The nature of market cap-weighted strategies means the companies with the largest market caps will always have a say in the performance. The market has been this concentrated in the past but it’s been a while since the numbers have been this high.

It’s just that now the concentration in the index is so much greater than it was in the recent past so the biggest stocks are going to have an outsized impact on the results.

This year the biggest stocks have helped performance. In future years they could hurt results.

Right or wrong, the winners write the history books in the stock market. And for now, Apple, Amazon, Microsoft, Google and Facebook are the winners.1

Further Reading:
Explaining the 2020 Stock Market

1Until one or more of them are displaced by other companies in the future. It doesn’t feel like it now but this will happen.


Ausbil Investment Management Limited

ABN 26 076 316 473 AFSL 229722

– Australia

Australian house prices starting to fall – collapse likely averted but expect more weakness ahead – Oliver’s Insights

Key points: 

  • Australia capital city home prices fell -0.5% in May.
  • Significant policy support & the earlier reopening of the economy have made our worst-case scenario for a 20% decline in average Australian house prices unlikely.
  • However, our base case is for home prices to fall around 5-10%, as “true” unemployment will remain high, government support measures and the bank payment holiday end in September, immigration falls and new supply is likely to be boosted via government measures. 


Back on 19th March when we first looked at the impact of the intensifying shutdown of the Australian economy on the housing market we concluded that the impact would depend on how high unemployment rose. Our base case was a recession that saw unemployment rise to around 7.5% and would push average home prices down around 5%, but the risk was that a deeper downturn with say 10% unemployment could see a 20% fall in prices. Subsequent government support measures along with an earlier reopening of the economy have reduced the risk of worse case scenarios for home prices.

So far so good 

Since March property sales have slowed to a crawl.

The combination of the need for social distancing and the banning for a while of traditional on-site auctions led to a sharp decline in properties for sale. In addition to this, the Federal Government’s JobKeeper scheme keeping around 3.5 million people in paid employment and a doubling in unemployment benefits along with bank mortgage payment holidays, all of which are for the six months to September, have helped head off an increase in forced sales that might have occurred given the size of the hit to the economy. So, while property demand has fallen, it’s been matched by a collapse in supply, which has left the property market in a bit of a twilight zone.

While listings have started to pick up a bit lately, they are still very low and this has all helped soften the blow to house prices that would have otherwise occurred, but prices are still starting to fall. According to CoreLogic, after slowing to just 0.2% growth in April, average capital city home prices fell -0.5% in May. Prices fell in all cities except Adelaide, Hobart and Canberra, with Melbourne -0.9%, Sydney -0.4% and Perth -0.6%. This has seen the monthly change in capital city home prices collapse from a peak of 2% in November.

So where to from here?

The positives for the property outlook

There are basically five “positives” for property prices. 

  • Mortgage rates have fallen to record lows with deals around 2 to 3%. This is keeping mortgage debt interest costs as a share of household income well below historic highs even though the ratio of household debt to income is at a record high of around 200%. Low mortgage costs also make the funding costs for an investment property very low.

  • As noted above, while listings remain low.
  • Government support measures have provided a huge boost to household income, supported businesses, supported employment for around 3.5 million workers, prevented a confidence zapping surge in measured unemployment & with bank mortgage payment holidays (which has seen around 440,000 mortgage deferrals) are preventing a sharp rise in mortgage delinquencies and hence forced sales.
  • The shutdown, impacting mostly services jobs, has hit women and younger workers harder in contrast to past recessions which have hit male breadwinners harder and this may have helped keep down debt servicing problems.
  • China is running 2-3 months ahead of Australia with respect to the coronavirus shock and its experience provides some guide. While property sales were near zero in the peak lockdown month of February average property price growth slowed but did not go negative and is now picking up a bit.

The negatives 

Against these positives, there are these big “negatives” for property prices flowing from the coronavirus shock. 

  • High unemployment. We have long regarded the combination of high house prices and high household debt as Australia’s Achilles heel and so we feared back in March that a large rise in unemployment could trigger debt servicing problems, forced sales and so sharp falls in prices. As it’s turned out, measured unemployment is being suppressed and household incomes supported by stimulus measures. This is by design to help businesses, jobs and incomes hold up through the shutdown period. It’s likely headed off the worst case 20% decline in house prices scenario we saw in March. But once the support measures end later this year, measured unemployment will likely rise to around 8% and take a long time to fall back to the pre coronavirus levels around 5.2%. This in turn is likely to lead to some increase in mortgage defaults as bank payment holidays (for around 440,000 mortgages) end, boosting forced sales and act as a drag on property demand, albeit it’s unlikely to be anywhere near what would have occurred in the absence of support measures through the shutdown.
  • A big drop in immigration. Thanks to travel bans, the Government expects net immigration to fall to just below 170,000 this financial year and to around 35,000 next financial year from 240,000 last financial year. This is a huge hit and if it occurs – the Government could always allow a faster return of immigration – it will take population growth over 2020-21 to just 0.7%, its lowest since 1917.

It will imply a hit to underlying dwelling demand of around 80,000 dwellings over the next 12 months taking it down to around 120,000 compared to underlying demand last year of around 200,000. This risks resulting in a significant oversupply of dwellings, reversing years of undersupply that has maintained very high house prices since mid-last decade. A cut to immigration is not something China has had to deal with, so its property market experience is not directly translatable to Australia.

  • Falling rents and rising vacancy rates. Vacancy rates rose sharply in April and this plus rent relief is putting downwards pressure on rents. This will be further impacted by very low immigration. It will further weigh on investor demand and may cause problems for heavily geared property investors.

  • Measures to boost housing construction. Faced with a big reduction in housing construction activity over the year ahead, governments appear to be working on plans to boost activity to protect home builders’ jobs via new home building grants and possibly the construction of social housing. Normally first home buyer grants provide a boost in overall demand. But if the focus is just on boosting supply at a time when underlying demand is very low reflecting lower immigration it could add to downwards pressure on average prices. (Proposed moves from stamp duty to land tax in some states could provide a short-term boost to home prices but should be long term neutral if the same revenue is raised and it’s unclear whether or when it will occur.)

Concluding comment 

Our worst-case scenario for a 20% decline in prices and those of others seeing 30% plus falls are unlikely thanks to support measures and the earlier reopening of the economy. To get these worst-case scenarios would require a “second wave” of coronavirus cases & so a renewed shutdown or another down leg in the economy in response to a surge in bankruptcies.

However, further falls in prices are still likely, as “true” unemployment (to become clear after September) remains high for several years, government support measures and the bank payment holiday end after September, immigration falls and likely government measures boost housing construction. Our base case is for national average prices to fall around 5-10% into next year. Sydney & Melbourne are likely to see 10% falls as they are more exposed to immigration and have higher debt levels whereas Adelaide, Brisbane, Perth & Hobart are only likely to see small falls and Canberra prices are likely to be flat.

This may be seen as a reasonable outcome in terms of making housing more affordable but without posing a big threat to the economy (via a downwards spiral of falling prices and negative wealth effects on consumer spending) at the same time.

Dr. Shane Oliver, Head of Investment Strategy and Economics and Chief Economist, AMP Capital

Market Update 15 May 2020 – Dr. Shane Oliver

Investment markets and key developments over the past week

Global share markets pulled back over the last week on worries about “second waves” of the COVID-19 virus, the economic outlook and tensions with China. For the week, US shares fell 2.3%, Eurozone shares fell 4.3%, Japanese shares lost 0.7% and Chinese shares fell 1.3%. Australian shares were hit too, through concerns about trade tensions with China and worries about the banks, but good gains in materials, telecommunications and healthcare shares saw the market end up 0.3% for the week. Bond yields were little changed. Copper prices fell, but the iron ore price rose above $US90/tonne and oil prices rose 20% as oil production fell and demand rose (with US gasoline demand up 46% over the last five weeks). The Australian dollar fell as the US dollar rose in line with risk aversion in most share markets.

The picture is little changed with coronavirus. New global cases are continuing to trend sideways.

Europe is continuing to see a decline in new cases despite occasional clusters. Japan looks to have got its early April breakout under control. New cases look to have peaked in the US and UK. However, various less developed countries are driving a still-rising trend in the rest of the world. This includes Brazil, India, Mexico, Iran and Russia.

Australia is continuing to see a low number of new cases, but still has some problems with clusters.

Reflecting this, deaths per million people remain very low in Australia at around 4, which is similar to Korea, Japan, Singapore and China. This contrasts with the UK and Italy where deaths are around 500 per million people which if the same had occurred in Australia would have meant around 12,500 deaths as opposed to around 98.

The progression to easing lockdowns has continued across Europe, the US and Australia. Japan has also lifted emergency restrictions for 39 of all 47 prefectures, covering about 50% of Japanese GDP. The risks are probably greatest of a second wave in the US, as some states and cities have moved ahead of the medical checkpoints in the Government’s reopening Guidelines – although many of those states are less densely populated and therefore less at risk. Nearly 80% of US GDP is located in states seeing declines in new coronavirus cases. Australian states have generally moved to implement the Federal Government’s reopening roadmap, albeit with Victoria moving more slowly.

While economic activity remains weak (with US retail sales down 16% in April), high frequency data continues to indicate that activity may have hit bottom. Our weekly economic activity trackers for the US and Australia (based on high frequency data for things like restaurant bookings, confidence, retail foot traffic, box office takings, credit card data, mobility indexes and jobs data) are up a little from their lows in mid-April; and more so in Australia. In Australia, weekly consumer confidence has risen for six weeks in a row, surveys show a pick in consumer spending and traffic flows have picked up. In fact, the traffic last Saturday in Sydney seemed to resemble a normal Saturday (even without kids’ sport!)… which all tells me that there is a bit of pent up demand out there.

On the policy stimulus front, there were a few more developments over the past week:

  • India announced a headline stimulus package of around 10% of GDP – although details are lacking and in terms of actual fiscal stimulus it’s likely to come in below 5% of GDP.
  • New Zealand increased its fiscal response to around 20% of GDP, which looks consistent with budget deficits running around 10% a year.
  • The Reserve Bank of New Zealand (RBNZ) left its cash rate at 0.25% but almost doubled its bond buying Quantitative easing (QE) program and signalled that negative rates are likely in early 2021. Direct purchase of bonds from the government has not been ruled out.
  • On negative rates, US Federal Reserve (Fed) Chair Powell reiterated that they are not being considered, that evidence as to their effectiveness is “very mixed” and that forward guidance and QE are the Fed’s core tools now. He did however repeat that the Fed will basically do whatever is necessary, while urging more fiscal support be provided given downside risks to the economy.
  • Speaking of which, the process towards another stimulus package is now underway in the US. Republicans have, as expected, rejected a Democrat $3 trillion stimulus (13.6% of GDP) plan, but it does look as if a path to a more realistic plan is starting (slowly). The question is whether it will get there without much prodding from markets, or whether another market tantrum is needed? I suspect it’s the latter.

Will the Reserve Bank of Australia (RBA) move to negative rates and the direct buying of bonds if, say, New Zealand does? I doubt it. Soon after RBNZ Governor Orr expressed an openness to negative rates last year, RBA Governor Lowe dismissed them in relation to Australia. Like the Fed, the RBA can’t see much benefit from the negative rates experience in Europe and Japan (and nor can I). Lowe has regularly stated that 0.25% is the effective lower bound; and his 21 April speech emphasised that the RBA is not buying bonds directly and spoke in favour of the separation of monetary and fiscal policy. Further, don’t forget New Zealand’s lockdown was more severe than Australia’s, and so the hit the economy was greater and thus it requires more desperate measures (Ha ha… I can say that as my Mum is a New Zealander and after Australia there is no better place than NZ!).

How serious is the threat posed by China’s threatened tariffs on Australian barley and the suspension of beef imports from four Australia abattoirs (including one which is owned by a Chinese company)? It’s hard to know. On the Australian side, this is seen as tangled up with Australia’s call for an independent inquiry regarding the coronavirus outbreak. China however also has trade gripes with Australia; with the barley and beef issues having been around for a while and a concern regarding tariffs put on Chinese steel, aluminium and chemical imports, which are seen by many as protectionist (e.g. a 144% on Chinese steel pipes!) Such issues have flared up before, only to calm down again before they spread (as seen last year, with bans on imports of Australian coal to various Chinese ports). Hopefully the same happens this time around again – because so far, our exports appear to be benefitting from the recovery in the Chinese economy (with iron ore export volumes out of Port Hedland up 11% year-on-year in April).

For now, shares are still at risk of a further pull back after the strong run up since 23 March. It may turn out to be no more than a consolidation, but a deeper pull back is risk. However, providing we are right, and April or May prove to be the low point in economic activity, then given the massive policy stimulus already seen, shares should be higher on a 12-month outlook. Three big risks remain: a second wave of coronavirus cases (that’s a low risk in Australia, but high in the US); collateral damage from the shutdowns resulting in a delayed or very slow recovery; and an escalation in US/China tensions. On the latter, the risks will likely escalate dramatically if Trump’s approval rating collapses, leading him to conclude that he has nothing to lose by trying to “wag the dog”.

Major global economic events and implications

US retail sales plunged 16% in April, industrial production fell 11% in April and job openings fell 12% in March consistent with our expectations for a 10% or so contraction in June quarter GDP. However, consumer confidence rose slightly, the Empire manufacturing conditions index rose 30 points to -48.5 in May and while jobless claims remain high, they fell for the sixth week in a row; suggesting unemployment may be close to peaking. Retail sales may be at or close to the bottom with store foot traffic, weekly retail sales and some confidence measures improving slightly. Inflation fell sharply, with core inflation falling to 1.4% year-on-year.

The never-ending Brexit story still hasn’t gone away. It’s fallen off the market radar given coronavirus…but not a lot of progress has been made in trade deal negotiations between the UK and EU and the mid-year deadline to extend the transition period from year end (after which free trade between the UK and EU comes to an end, if there is no deal) is rapidly approaching. It will mostly likely be extended, but there is a risk that the UK decides to allow a disorderly exit given its economic impact will be swamped by that of the coronavirus shock.

The Chinese economy is continuing to recover. Over the year to April, industrial production rose a stronger than expected 3.9%, but this is up from a -13.5% fall in January and February. Retail sales fell -7.5% year-on-year, but this is up from -20.5% in Jan/Feb. Investment fell -10.3%, but this is up from -24.5% in Jan/Feb. The recovery is also evident in passenger car sales, which were down 82% year-on-year in February, but have since picked up to be down just 2% year-on-year in April. Growth is not yet strong enough to stop unemployment rising to 6% in April, but the recovery in activity is consistent with high frequency data showing that the low point in the Chinese economy was in February. For example, traffic congestion in major cities is back around normal levels. Meanwhile, Chinese money supply and credit growth accelerated in April, reflecting policy easing and inflation fell sharply, with core CPI inflation of just 1.1% year-on-year.

Traffic congestion in major Chinese cities

Australian economic events and implications

Australian jobs data provided a confusing picture, with a much smaller than expected rise in unemployment to 6.2% masking a significant deterioration in the labour market. Basically, while roughly 600,000 jobs were lost last month, around 500,000 people left the workforce, which meant that the unemployment rate “only” rose to 6.2%. The decline in workforce participation was presumably because laid off workers didn’t look for work due to either the lockdown or on the assumption that they will just go back to their old job when the lockdown ends. The changed rules enabling people to access JobSeeker without having to seek paid employment may have also encouraged many to temporarily leave the workforce. Were it not for the fall in participation, the unemployment rate would have been 9.6%. There is still however a huge hit to household income due to a 9.2% drop in hours worked, with 2.7 million workers either leaving employment or having their hours reduced (as indicated by a rise in underemployment to 13.7% and a rise in labour underutilisation to around 19.9%). Of course, were it not for JobKeeper, employment would have fallen a lot more than the 594,000 decline reported – in fact over 5.5 million workers are now protected by JobKeeper (thankfully!) The other piece of “good news” is that Australia has avoided confidence-zapping headlines around “surging unemployment.” We still see unemployment rising from here, but the April report gives us more confidence that it won’t get above 10%. In fact, it may not get much above 8%, given that the big hit to the economy and jobs was in April. The main risk will be after September if the economy hasn’t recovered much and JobKeeper and the enhanced JobSeeker ends, seeing more workers defining themselves as unemployed.

Our view remains though that by September the economy will be on the mend, consistent with the easing in the lockdown. Consistent with this, both business confidence (as measured by the NAB survey) and consumer confidence (as measured by the Westpac/MI and ANZ/Roy Morgan surveys) have moved up from their lows, with consumers less negative on the labour market.

The slump in housing construction will continue well into 2021, though with HIA data showing a fall in new home sales to record lows and the cancellation of 30% of new projects and reports of a sharp rise in rental vacancy rates according to SQM. Housing starts are probably on their way to around 120,000 this year, down from a peak in 2017-18 of 230,000. This is part of a necessary rebalancing of the housing market to allow for a collapse in immigration. Governments may have to start thinking about enhanced first homeowners’ grants and allowing immigrants back in to restart housing construction.

What to watch over the next week?

Markets will likely remain focussed on continuing evidence that the number of new Covid-19 cases is slowing and on progress in easing lockdowns.

In the US, business conditions PMIs for May (Thursday) are likely to bounce a bit after the sharp fall seen in April, helped by economic reopening. Meanwhile, expect the NAHB home builders’ conditions index for May (Monday) to rise slightly, but housing starts (Tuesday) and existing home sales (Thursday) to fall sharply. The minutes from the last Fed meeting (Wednesday) are likely to remain dovish.

Eurozone business conditions PMIs for May (Friday) will also be watched for a bounce after the extreme low seen in April helped by moves towards reopening.

Japanese business conditions PMIs will also be released Thursday and inflation for April (Friday) is likely to have fallen.

China’s delayed National People’s Congress (Friday) will be watched closely to see if it sticks to a 2020 GDP growth target of around 6% or accepts something more realistic like 2%. Given the 10% March quarter GDP slump either will require strong growth from here and anything like 6% will necessitate a lot more policy stimulus.

In Australia, the ABS’ household impacts of coronavirus survey (Monday) and weekly payrolls and wages data (Tuesday) will be watched for signs of stabilisation after the sharp fall in employment reported into mid-April. Preliminary retail sales for April (Wednesday) are likely to fall by 15% or so after March’s 8% panic buying driven rise. CBA business conditions PMIs (Thursday) for May will be watched for a bounce after sharp falls into April. The minutes from the last RBA meeting (Tuesday) are likely to remain dovish with the RBA reiterating that it is committed to “do what it can to support jobs, incomes and businesses.”

Outlook for investment markets

After a strong rally from March lows shares are vulnerable in the short term to a pull back or consolidation. But on a 12-month horizon shares are expected to see good total returns helped by an eventual pick-up in economic activity and massive policy stimulus.

Low starting point yields are likely to result in low returns from bonds once the dust settles from coronavirus.

Unlisted commercial property and infrastructure are ultimately likely to continue benefitting from the search for yield but the hit to economic activity and hence rents from the virus will weigh heavily on near term returns.

The Australian housing market has slowed in response to coronavirus. Social distancing has driven a collapse in sales volumes, and a sharp rise in unemployment, a stop to immigration and rent holidays pose a major threat to property prices. Prices are expected to fall between 5% to 20%, but government support measures including wage subsidies along with bank mortgage payment deferrals along with a plunge in listings will help limit falls as will a reopening of the economy in the months ahead.

Cash & bank deposits are likely to provide very poor returns, given the ultra-low cash rate of just 0.25%.

The hit to global growth from Covid-19 and its flow on to reduced demand for Australian exports and lower commodity prices still risks pushing the $A lower in the short term. But expect a rising trend once the threat from coronavirus recedes, particularly with the US expanding its money supply far more than Australia is via quantitative easing and with China’s earlier recovery likely to boost demand for Australian raw materials.

Chinese April exports were strong, but imports were weak which is surprising given a gradual return of domestic demand but falling global demand. Expect much weaker exports in May.

Australian economic events and implications

Australia saw a record 8.5% surge in retail sales in March and a record $10.6bn trade surplus, but lots of other data is consistent with a big contraction in the economy this quarter. Real retail sales rose 0.7% in the March quarter and net exports or trade looks likely to contribute around 0.3 percentage points to March quarter GDP growth. While it’s possible, this probably won’t be enough to stop a contraction in March quarter GDP given a fall in car sales and consumer services, but it should keep it moderate at around -0.2%, ahead of a 10% or so plunge in the June quarter. The surge in retail sales was driven by panic buying and so will reverse from April to be combined with a slump in discretionary spending to probably result in a record fall in retail sales.

Meanwhile, a range of other data highlights the impact of the shutdown on the economy with car sales down 52% in April, ANZ job ads down 53%, ABS payroll data indicating a 7.5% fall in payrolls since mid-April (which according to the ABS suggests a 650-700 thousand fall in employment) and over 70% of business seeing reduced cash flows. Building approvals only fell 4% in March but are likely to fall more in subsequent months.

The good news though is that so far over 720,000 businesses have applied to the JobKeeper program covering around 4.7 million workers. And while it’s still very weak the ANZ Roy Morgan weekly consumer confidence index has now risen for 5 weeks in a row.

Overall, there is nothing here to change our view that the economy contracted by around 10% or so in the current quarter, April is likely to have been the low point and that with an easing in the lockdown the economy will grow in the second half.

Finally, the Melbourne Institute’s Inflation Gauge for April showed a fall to 1.2% year-on-year, highlighting that the shutdown is more deflationary than inflationary.

What to watch over the next week?

Markets will likely remain focussed on continuing evidence that the number of new Covid-19 cases is slowing and on progress in easing lockdowns. Economic releases will continue to show the impact of coronavirus shutdowns, but markets will likely be on the lookout for signs of improvement.

In the US, expect a sharp fall in small business confidence (Monday), 10 to 15% falls in retail sales and industrial production (Friday) and a big drop in job openings and hiring (also Friday). However, the New York Fed’s manufacturing conditions index is expected to improve a bit for May after a sharp fall into April. CPI inflation for April is expected to plunge to just 0.5% year-on-year from 1.5% in March.

Chinese economic activity data is expected to confirm a further gradual improvement in economic momentum for April, with industrial production growth rising to 1.5% year-on-year (from -1.1%), retail sales growth improving to -5% (from -15.8%) and investment growth improving to -9% (from -16%). Credit and money supply growth is expected to remain strong.

In Australia, the main focus will be on jobs data for April to be released Thursday which is expected to show a record 750,000 drop in employment in response to the shutdown resulting in unemployment rising to around 10%. This is consistent with a collapse in job ads, survey hiring plans and ABS payroll data with a decline in workforce participation partly muting the rise in unemployment. Were it not for the JobKeeper wage subsidy program, unemployment would likely be nearer to 15%. In other data, expect the NAB business survey (Tuesday) to show a further decline in business conditions but a slight bounce in business confidence after the plunge to -65.6 in March, consumer confidence for April to rise slightly consistent with a rise in the weekly ANZ/Roy Morgan consumer confidence index and wages growth for the March quarter to have remained around 0.4% quarter-on-quarter or 2% year-on-year. The Treasurer will also provide a statement to parliament on Tuesday regarding the impact on the economy from the shutdown and the Government’s response, but it’s doubtful this will add much to a speech he made in the last week.

Outlook for investment markets

After a strong rally from March lows, shares are vulnerable in the short term to a pull back or consolidation. But on a 12-month horizon shares are expected to see good total returns helped by an eventual pick-up in economic activity and massive policy stimulus.

Low starting point yields are likely to result in low returns from bonds once the dust settles from coronavirus.

Unlisted commercial property and infrastructure are ultimately likely to continue benefitting from the search for yield, but the hit to economic activity, and hence rents, from the virus will weigh heavily on near term returns.

The Australian housing market has slowed in response to the coronavirus. Social distancing has driven a collapse in sales volumes, and a sharp rise in unemployment, a stop to immigration (through the shutdown) and rent holidays, which all pose a major threat to property prices. Prices are expected to fall between 5-20%, but government support measures (including wage subsidies, along with bank mortgage payment deferrals) and a plunge in listings will help limit falls, as will a reopening of the economy in the months ahead.

Cash & bank deposits are likely to provide very poor returns, given the ultra-low cash rate of just 0.25%.

The hit to global growth from Covid-19 and its flow on to reduced demand for Australian exports and lower commodity prices still risks pushing the Australian dollar lower in the short term. However, expect a rising trend once the threat from coronavirus recedes, particularly with the US expanding its money supply far more than Australia is (via quantitative easing) and with China’s earlier recovery likely to boost demand for Australian raw materials.

Shane Oliver, Head of Investment Strategy & Economics and Chief Economist

Why super and growth assets like shares have to be seen as long-term investments – Oliver’s Insights

Key points:

  • As we’ve seen recently growth assets like shares have periods of bad short-term performance versus bonds & cash. But they provide superior long-term returns which is essential to grow retirement savings. It makes sense for superannuation to have a high exposure to them.
  • The best approach is to simply recognise that super and investing in shares is a long-term investment


This is an update of a note I wrote last November, but after the recent plunge in shares and the associated 10% or so loss in balanced growth superannuation funds through the March quarter, it’s particularly relevant now. When share markets plunge as they did into March the standard questions are: What caused the fall? What’s the outlook? And what does it mean for superannuation? The correct answer to the latter should be “nothing really, as super is a long-term investment and share market volatility is normal.” This may sound like marketing spin. But, except for those who are into trading or are close to or in retirement – shares and super really are long-term investments.

Super funds, growth assets & compound interest 

Superannuation is aimed (within reason) at providing maximum (risk-adjusted) funds for use in retirement. So typical Australian super funds have a bias towards shares and other growth assets that grow in value with the economy, particularly for younger members, and some exposure to defensive assets like bonds and cash to avoid excessive short-term volatility. These approaches aim to make the most of the power of compound interest which sees returns build on returns over time. The next chart shows the value of a $100 investment in Australian cash, bonds, shares and residential property from 1926 assuming any interest, dividends and rents is reinvested along the way.

As return series for commercial property and infrastructure only go back a few decades I have used residential property as a proxy. Over the period shown since 1926 cash has returned 5.4% per annum, bonds 6.9% pa, property 10.7% pa and shares 10.9% pa. Because shares and property provide higher returns over long periods the value of an investment in them compounds to a much higher amount over long periods. So, it makes sense to have a decent exposure to them when saving for retirement. The higher return from shares and growth assets reflects compensation for the greater risk in investing in them – in terms of capital loss, volatility and illiquidity.

But investors don’t have 90 years?

But while the above chart covered more than 90 years of returns, our natural tendency is to think very short term. Particularly so in times of uncertainty like now. And this is where the problem starts. On a day to day basis shares are down almost as much as they are up. See the next chart. So, day to day, it’s pretty much a coin toss as to whether you will get good news or bad on shares. But if you just look monthly and allow for dividends, the historical experience suggests you will only get bad news around a third of the time. If you go out to once a decade, positive returns have been seen 100% of the time for Australian shares and 82% for US shares. So while it’s hard given the bombardment of financial news these days it makes sense to look at your returns less because then you are more likely to get positive returns and less likely to make rash decisions based on short term bad news.

This can also be demonstrated in the following charts. On a rolling 12 month ended basis the returns from shares bounce around all over the place compared to the relative stability of cash (and bonds). See the next chart.

However, over rolling ten-year periods, shares have invariably outperformed, although there have been some periods where returns from bonds and cash have done better, albeit briefly.

Pushing the horizon out to rolling 20-year returns has almost always seen shares do even better, although a surge in cash and bond returns from the 1970s/1980s has seen the gap narrow. Over rolling 40-year periods – the working years of a typical person – shares have always done better.

This is all consistent with the basic proposition that higher short-term volatility from shares – often reflecting exposure to periods of falling profits and a risk that companies go bust – is rewarded over the long term with higher returns.

But why not try and time short-term market moves? 

The temptation to do this is immense. With the benefit of hindsight many swings in markets like the tech boom and bust, the GFC and maybe in the years ahead the current episode look inevitable and hence forecastable and so it’s natural to think “why not give it a go?” by switching between say cash and shares within your super to anticipate market moves. Fair enough if you have a process and put the effort in. But without a tried and tested market timing process, trying to time the market is difficult. A good way to demonstrate this is with a comparison of returns if an investor is fully invested in shares versus missing out on the best (or worst) days. The next chart shows that if you were fully invested in Australian shares from January 1995, you would have returned 8.5% pa (with dividends but not allowing for franking credits, tax and fees). 

If by trying to time the market you avoided the 10 worst days (yellow bars), you would have boosted your return to 11.7% pa. And if you avoided the 40 worst days, it would have been boosted to 17.1% pa! But this is not easy as many investors only get out after the bad returns have occurred, just in time to miss some of the best days. For example, if by trying to time the market you miss the 10 best days (blue bars), the return falls to 6.3% pa. If you miss the 40 best days, it drops to just 1.9% pa.

The following chart shows the difficulties of short-term timing in another way. It shows the cumulative return of two portfolios.

  • A fixed balanced mix of 70 per cent Australian equities, 25 per cent bonds and five per cent cash;
  • A “switching portfolio” which starts off with the above but moves 100 per cent into cash after any negative calendar year in the balanced portfolio and doesn’t move back until after the balanced portfolio has a calendar year of positive returns. We have assumed a two-month lag.     

Over the long run the switching portfolio produces an average return of 8.6% pa versus 9.9% pa for the balanced mix. From a $100 investment in 1928 the switching portfolio would have grown to $185,869 compared to $595,510 for the constant mix.

Key messages 

First, while shares and other growth assets go through periods of short-term underperformance relative to bonds and cash, they provide superior returns over the long term. As such, it makes sense that superannuation has a high exposure to them.

Second, switching to cash after a bad patch is not the best strategy for maximising retirement savings and wealth over time as it locks in the loss with no hope of recovery.

Third, the less you look at your investments the less you will be disappointed. This reduces the chance of selling at the wrong time or adopting an overly cautious stance.

The best approach is to simply recognise that super and investing in shares is a long-term investment. The exceptions to this are if you are really into putting in the effort to getting short-term trading right and/or you are close to, or in, retirement.

Dr Shane Oliver, Head of Investment Strategy & Chief Economist 

Light at the end of the Coronavirus tunnel – what does it mean for investors? Olivers Insights

Key points:

  • After a strong rally, in the short-term shares are vulnerable to bleak economic and earnings news.
  • However, positive news on the coronavirus outbreak is starting to get the upper hand – with evidence of curve flattening, an easing in lockdowns and massive policy stimulus pointing to a possible return to growth in the second half, which should ultimately underpin a rising trend in share markets beyond short-term uncertainties.


The blanket coverage of coronavirus and its impact on the economy can lead to a lot of confusion right now. Some reports are hopeful of anti-viral drugs, others say a vaccine is at least a year away. There is talk of curve flattening but still rising cases and deaths. There is news of an easing in lockdowns but also worries about “second waves”. All this against a backdrop of collapsing economic data and surging unemployment. Some prognosticators say now is a great buying opportunity for investors whereas others see more financial pain ahead. This is a horrible time for humanity and particularly those directly affected by coronavirus, but I must say if ever there was a time to turn down the noise and listen to The Carpenters or Taylor Swift, this is it. Here is a summary of where we are currently at. First the bad news and then the good. I will keep it simple.

The bad news

  • The reported number of coronavirus cases globally is still rising and has now gone through 2.5 million.
  • The reported death rate is still rising and is now up to 6.9%.
  • Many worry about a “second wave” of cases. This occurred in the 1918 Spanish flu outbreak, and Singapore and Japan which had been cited as models for containment are now cited as examples of this (although they really still seem to be in part of a first wave as their quarantining efforts failed).
  • Most medical experts still say a vaccine may be a year or more away. I remember around 1984-85 constantly hearing a vaccine for HIV was a year away – but we are still waiting.
  • In the absence of a vaccine some worry about coronavirus outbreaks every winter as it migrates around the world.
  • Economic activity data is literally falling off a cliff. This was highlighted last week by the IMF’s forecast for a contraction in the global economy of 3% this year and in advanced economies of around 6%. And this masks a likely 10 to 15% slump in GDP centred on the June quarter. Falls of that magnitude have not been seen since the Great Depression. The collapse in economic activity in the US and Australia is highlighted by weekly economic activity trackers we have constructed based on data for things like restaurant bookings, energy usage, confidence, foot traffic and jobs.

  • We are constantly hearing forecasts of unemployment going to 10%, 15% and maybe even 30% in the US (which does not have the benefit of Australian JobKeeper wage subsidies – if you are having a salary paid by JobKeeper then you will not be unemployed).
  • This in turn is creating much consternation around whether there will be an economy left once the shutdowns end and/or how governments will get their debt down.
  • Finally, the blame game is on. While partly politically motivated, US China tensions seem on the rise again.

The good news

  • While the total number of coronavirus cases is rising, new cases appear to be levelling off or in decline.

  • Numerous European countries, led by Italy, look to be following the same path as China which saw a blowout in new cases, a lockdown followed 2-3 weeks later by a peak in new cases and then falling new cases. Australia appears to have been very successful in following this path (with the peak coming faster) and the US now seems to be following the same path, albeit its yet to show a decent downtrend in new cases. Social distancing clearly works! (Just out of interest – with various countries following the same pattern China has reported it makes me think the Chinese data on new cases is roughly right despite emerging scepticism.)

  • Following this, the focus is shifting towards an easing of lockdowns. Various European countries and New Zealand have already announced some easing, allowing some shops to open/activities to occur. The US has released guidelines for states to move through a three phased reopening if they meet various criteria (in terms of falling new cases & hospitals coping) before moving to each new phase.
  • While Australia’s PM Scott Morrison has indicated that current restrictions will remain broadly in place for another few weeks, he has indicated three criteria for an easing in restrictions: better testing; better contact tracing; and confidence in containing outbreaks all of which makes sense given the risks Australia faces coming into winter. Of course, successful anti-virals and/or a vaccine would make it all a lot easier, but we can’t rely on either just yet.
  • Most countries talking of easing are well aware of the risk of a second wave (although President Trump’s bravado about “liberating” states is worrying). Hence a focus on phased easing only once certain criteria – around testing, new cases and quarantining – have been met. This is very different to what happened in relation to Spanish influenza where there really wasn’t any testing. For Australia this is likely to mean a gradual opening up from May. In the absence of a vaccine, full international travel is likely to be the last thing to return. That’s not great but given that in net terms its worth less than 0.5% of GDP to the Australian economy, it’s trivial compared to the 10-15% hit that’s come from shutting or partially shutting about 25% of the economy as it would be this mainly domestically driven activity that would bounce back as the shutdown is eased.
  • Fiscal and monetary stimulus has been ramped up to the point that they should help minimise second round effects on economies enabling them to bounce back faster. This is particularly the case in Australia where the focus has been on job subsidies to preserve jobs, support businesses and low-cost RBA funding has enabled banks to offer loan payment holidays. Yes, there may be longer term issues in paying down debt, but they are small compared to the cost of allowing a bigger and deeper hit to the economy from not protecting businesses and incomes through the shutdown.

If, as appears likely, an easing of the lockdowns becomes common place in May/June, then April or maybe May should be the low point in economic data much as February was in China. This does not mean that things will quickly bounce back to normal – some businesses will not reopen, uncertainty will linger, debt levels will be higher and business models will have to adapt to different ways of doing things around working and shopping. On our forecasts it will look like a deep V recovery in terms of growth rates, but looked at in terms of the level of economic activity it will take a lot longer to get back to normal and this will mean that it will take a while to get unemployment down – from a likely peak in Australia of around 10%. But at least growth will be able to return and spare capacity and high unemployment will mean that it will take a while for inflation to pick up and so low rates will be with us for a long time.

This is all very different to five or six weeks ago when there was talk of six-month lockdowns, no confidence as to whether they would work and the policy response was seen as inadequate.

What does it mean for investors?

From their high in February to their low around 23 March, global shares fell 34% and Australian shares lost 37% as all the news was bleak. Since that low to their recent high, shares have had a 20% plus rally helped by policy stimulus and signs of coronavirus curve flattening. But this strong rally has left them a bit vulnerable in the short term – particularly as we have now entered a period which is likely to be see very weak economic data and news on profits. The ongoing dislocation in oil prices – to a “record low” of -$40 a barrel for West Texas Intermediate – has added to this, although lower petrol prices are ultimately more of a help than a hindrance to a recovery in economic activity. So, the very short-term outlook for shares is uncertain and a re-test of the March low cannot be ruled out.

However, shares are likely to be higher on a 1-2 year horizon as evidence of curve flattening, easing shutdowns combined with policy stimulus ultimately see a return to growth against a background of still very low interest rates and bond yields.

From a fundamental investment point of view the historical experience that covers recessions, wars and even pandemics (in 1918) tells us that the long-term trend in shares and other growth assets is up and that trying to time bottoms is always very hard. No one will ring the bell at the bottom, which by definition will come at a time of maximum bearishness when all the news is horrible. Maybe the low was back in March, maybe it wasn’t. To borrow from John Kenneth Galbraith’s famous quote on forecasters I will admit that I know that I don’t know1. So a good approach for long-term investors is to average into markets after bear market falls over several months.

 Dr. Shane Oliver, Head of Investment Strategy & Chief Economist 

What signposts can we watch to be confident shares have bottomed? – Oliver’s Insights

Key points:

  • While shares have rallied 15-20% from their March low and may have started a bottoming process, it’s still too early to say with confidence we have seen the low for this bear market.
  • Key signposts to watch for are: signs that the virus can soon be contained (here the evidence is starting to look better); monetary & fiscal stimulus to minimise collateral damage to economies (this gets a tick); signs that collateral damage is being kept to a minimum and growth momentum is bottoming (it’s too early for this one – albeit this may partly be a lagging indicator); and technical signs of a market bottom (some tick off).


After a roughly 35% plunge from their February high point to their lows around 23rd March, global and Australian shares have had a 15-20% rally. What’s more this rally has occurred despite increasingly bleak economic data ranging from plunges in business conditions surveys or PMIs (see the next chart) to a record 10 million surge over two weeks in claims for unemployment payments in the US. Volatility remains very high but at least we are seeing up and down volatility rather than all down as was the case into mid-March.

Markets usually lead and so may have already factored in the worst. And we have seen massive fiscal and monetary stimulus over the last few weeks to match the coronavirus threat to economies. So maybe we have already seen the low for shares? Or maybe not? There is still a lot of bad news ahead regarding the virus and the economic hit and we still don’t know how long the shutdown will be for and hence it’s hard to gauge the size and duration of the economic hit, when the recovery will come and what it will be like. What’s more past bear markets have often been interrupted by strong rallies, eg, October/November 2008 saw two 19% rallies in US shares followed by the ultimate low in March 2009. This could be the case here even if we have entered into a bottoming process.

So, what should investors look for in terms of when we can expect a bottom or be at least somewhat confident that the bottom has been reached? Not that anyone will ring a bell at the bottom or that investors will be bullish at the bottom.

The following are what we are looking for1:

  • confidence the coronavirus can soon be contained;
  • measures to minimise collateral damage to the economy;
  • confidence collateral damage is being kept to a minimum & signs that growth momentum is bottoming; &
  • technical signs of a market bottom.

Confidence the coronavirus will soon be contained

This is important as it will give guidance as to the duration of the shutdowns and their severity and hence the first round hit to the economy. There are several key things to watch:

  • The severity of suppression measures.After containment policies (quarantining & contact follow up) failed to control the virus (South Korea may be an exception), most countries have moved on to suppression, ie social distancing. This has been made necessary to allow hospital systems to cope without a blow out in deaths as in Italy. The question is are they being applied rigoursly. The evidence suggests that they are. Of 41 major countries nearly 80% now have severe restrictions in place, including Australia.

  • Is suppression working?The best thing to watch for is a turn down in the number of new cases. Italy is a good one to watch as it went into national lockdown around 9 March and if they get it under control it gives other countries hope. And there are some positive signs here with a downtrend in new cases evident in Italy, Spain, Germany, the EU generally and Australia. In the US it’s too early to tell, but it’s New York epicentre is showing a decline in new cases.

  • Based on China’s experience: 11-21 days after the lockdown new cases peak, and a month or so after that, the shutdown can start to be relaxed, which is why Chinese economic indicators started to improve in March. (While some question the reliability of China’s Covid19 case data, directionally it looks right and lines up with President Xi’s March 10 Wuhan visit & the restart of its economy.)
  • This would suggest that the lockdown in Italy and maybe even Australia may be able to be relaxed later this month or in May, if the number of new cases continues to trend down.
  • Of course, if the lockdown is eased too quickly this may risk a second wave of cases (as occurred in relation to the 1918 Spanish flu pandemic). To guard against this, quarantining of new cases and contact follow up will have to be aggressive and international travel bans would likely have to remain in place to prevent imported new cases (as China has found). There are two things that could short circuit this.
  • Antibody tests. It’s likely the actual number of coronavirus cases is being significantly underestimated because those with mild or no symptoms are not showing up for testing, but mass testing for antibodies to Covid19 would reveal what proportion of the population have already been infected and recovered. They will likely no longer be transmitters of the virus and should be able to return to work. Some estimates suggest that it’s already 40-60% of the Italian and UK populations. If so, there would already be a degree of “herd immunity” making it easier to safely relax the shutdowns. Such testing may still be several months away though.
  • Anti-virals or a vaccine. A vaccine may still be 12 months away but anti-virals are being rapidly tested.

The bottom line on this is that there are a lot of balls in the air but the decline in the number of new cases in several countries including Australia indicates that shutdowns are working which in turn holds out the hope that they can be relaxed in a month or so (providing containment measures are rigorous). International travel will likely be the last restriction to be lifted.

Policy measures to support the economy

The past month has seen a massive ramp up in monetary and fiscal measures globally and in Australia to support businesses, jobs and incomes through the shutdown period and to keep financial markets functioning properly. These are discussed here and here. Some (eg in Australia) are better than others (eg in the US) but with policy makers committed to doing whatever it takes they provide confidence that second round damage from the shutdowns will be kept to a minimum, which will enable economies to recover once the virus is under control. We rate this as positive, although more may still need to be done.

Collateral damage being kept to a minimum/growth indicators bottoming

There are a range of indicators to track on this front, including:

  • Credit spreads. Corporate & government bond yield gaps need to narrow. They are off their highs, but above normal.
  • Money market funding costs. As measured by the gap between 3 month borrowing rates and expected official rates these have narrowed in Australia but remain high in the US.
  • Default rates up only slightly. This is important in terms of assessing whether public support & debt/rent payment holidays are working. It’s too early to tell in most countries.
  • Daily activity indicators (eg, for energy production and traffic congestion) stabilising. This has been a good indicator in China, but it’s too early in developed countries.
  • Business conditions PMIs stabilising/improving. They’ve improved in China but are still falling elsewhere.

Technical signs of a market bottom

Market bottoms usually come with a bunch of signs.

  • Extreme oversold conditions. This got a tick in March.
  • Apocalyptic investor sentiment. It’s very negative but maybe not apocalyptic yet.
  • Signs of falling downwards momentum. This may only become apparent on a re-test of the March low.

Signpost table

The following provides a summary. The key ones are in blue.

Concluding comment

Many of these signposts tick off positively so we may have seen the low. But given the uncertainty around the length of the shutdown, risks of a second wave and very poor economic data to come it’s still too early to say that with confidence. Trying to time market bottoms is always very hard so a good approach for long term investors is to average in over several months.

Dr Shane Oliver, Head of Investment Strategy & Chief Economist

The Coronavirus pandemic and the economy – a Q&A from an investment perspective

Key Points:

  • Significant government support is essential to enable parts of the economy to successfully hibernate.
  • This will be financed by borrowing and is affordable given Australia’s relatively low public debt and low borrowing rates.
  • Central bank support to keep financial markets functioning properly is also essential and quantitative easing is part of this.
  • We are more likely to see a U-shaped recovery than a V or L.


Along with the horrible human consequences, the coronavirus pandemic is having a huge impact on the way we live and as a result investment markets. This has raised a whole bunch of questions: why does a big part of the economy have to go into “hibernation”? how long might it be for? how big will the hit to the economy be? what does it mean for unemployment? why is it so important for governments and central banks to protect businesses and workers? can we afford all this stimulus? This note provides a simple Q&A for most of the main issues from an economic & investment perspective. To the extent simple answers are possible in this environment!

Why do we need the shutdowns?

This is a medical issue, but it drives everything that follows. The answer is simple. Something like 15% of those who get coronavirus need hospitalisation and 5% need intensive care. And this is not just elderly people. And there is little to no community immunity to it. So, if a lot of people get it at once the hospital system can’t cope and the death rate shoots higher. Italy shows this with a death rate of 11.7%. So, unless we want to see the same surge in deaths as Italy we have to “flatten the curve” of new cases so the hospital system can cope. And to do this we have to practice social distancing which means meeting up with as few as people as possible which means staying at home wherever possible. This in turn means a big part of the economy gets shutdown.

Which Sectors of the economy are most impacted?

Roughly 25% of the economy is being severely impacted and this covers discretionary retailing, tourism, accommodation, cafes, clubs, bars and restaurants, property and various personal services. But there is also likely to be a flow on to construction and parts of manufacturing as uncertainty leads to less housing construction for example. Only about 20% of the economy – communications, healthcare and public administration – will really get a boost.

How big will the hit to the economy be?

It’s impossible to be precise, but if 25% of the economy contracts by 50% with other sectors offsetting each other, that will drive a 12.5% detraction in economic activity mainly in the June quarter which is basically what we are assuming. This will the biggest hit to the economy seen since the Great Depression. Of course, if this leads to collateral or second round effects as, for example, businesses and households default on their loans the impact could be much greater and longer.

But why all the talk of hibernation?

The hibernation concept is a good way to look at it. As a result of the shutdown many businesses are seeing a massive loss in their sales and some must partially, or in many cases fully, shutdown until the virus is contained and the shutdowns can end. But rather than shutdown forever the best outcome is for them and their employees to effectively go into “hibernation” for a period so they can go back into business and resume their normal lives once the virus is under control but without being encumbered with so much more debt and rent arrears, etc, that they go bust anyway.

Why the need for massive government support?

This is where government and central bank action comes in. Since coronavirus became a global pandemic last month and countries progressively ramped up social distancing policies, governments and central banks have swung into action to help economies weather this storm. This is absolutely necessary. Such support is unlikely to stop a recession or depression like contraction in the economy. But it’s needed to minimise the collateral or second round impacts of the shutdowns and enable the economy to start up again when the threat from the virus abates. Australia has announced three fiscal stimulus tranches now totalling around $200bn or 10% of GDP, which is nearly double that of the GFC stimulus. Other countries have also announced massive stimulus with the US just signing off on one package worth $US2 trillion and now talking of another. The policy response is now of a magnitude that it’s starting to tip the risk scales against some sort of long depression/recession.

How will it be paid for?

Simple, the Government will issue bonds & borrow the money.

But can we afford such a surge in the deficit and debt?

First, to stress it’s absolutely necessary. The hit to the economy from the shutdowns could be 10 to 15% of GDP. This requires a similarly sized stimulus program to offset it otherwise we risk immeasurable collateral damage to the economy and people’s lives (causing an even bigger budget deficit).

Second, it makes sense for the public sector to borrow from households and businesses at a time when they are stuck at home and can’t spend due to the shutdowns or won’t spend due to uncertainty and for the Government to give the borrowed funds to help those businesses and individuals that are directly impacted. Using the funds to subsidise wages is a particularly smart move as it keeps people employed and keeps them linked to their employer. The trick is to curtail the stimulus once the economy bounces back otherwise the competition for funds will boost interest rates and create problems for the economy. So, the support programs are set to end after 15 months.

Third, Australia’s public debt is relatively low. Net public debt as a share of GDP is a quarter of what it is in the US. So, Australia has far greater scope to do fiscal stimulus than other countries.

Fourth, the cost of borrowing for the Federal Government is very low at just 0.25% for three years and 0.75% for ten years.

Finally, the budget blowout may risk a downgrade in Australia’s AAA sovereign debt rating, but Australia’s public finances will still look better than others. And I would rather a rating downgrade than a deep depression/recession any day.

When the dust settles Australia will be left with higher net public debt at maybe around 45-50% of GDP. It will be the price we paid to (hopefully) minimise the loss of life from the virus and at the same time minimise the hit to people’s livelihoods from the shutdown. This may necessitate forgoing the next round of tax cuts or a new deficit levy. And it may put a burden on future generations as wartime spending did. But I reckon that’s a cost most Australians are prepared to wear.

Why is monetary stimulus necessary? Low interest rates won’t get us to spend when we are stuck at home

Yes, people can’t spend much now, but as with government stimulus much of the central bank easing has been aimed at “protecting” the economy. This has three key elements:

  • lowering interest rates to make it easier for borrowers to service their loans – eg, the RBA has cut interest rates and targeted lower bond yields to cut long term borrowing costs;
  • pumping money into financial markets to make sure they keep functioning. As the crisis intensified bond yields perversely started to rise (as fund managers had to sell their liquid winning assets to meet redemptions) and corporate borrowing rates surged as investors feared defaults so the Fed pumped money into the US bond and credit markets to push yields back down. The ECB has done something similar in Europe by buying Italian bonds; and
  • ensuring cheap access to funds for borrowers – eg, the RBA has provided funding for banks for 3 years at 0.25% which has enabled the banks to cut rates and offer debt payment holidays. The Fed is even undertaking direct lending.

How does quantitative easing help the government stimulus measures? Won’t it cause inflation?

Quantitative easing – which the RBA has now joined the Fed, ECB and Bank of Japan in doing – involves using printed money to buy government bonds in order to help keep interest rates down. The central bank buys these bonds in the secondary market (eg from fund managers) so it’s not directly providing the money to the government and those bonds must still be paid back when they mature. So, it’s not really “helicopter money” – which would see the RBA print money and give it to the Government which it would then spend. But of course, it is aiding the government’s stimulus program by helping to keep bond yields down. In the meantime, the balance sheet of the RBA will rise as it holds more bonds, but this is not a major issue unless inflation starts to rise due to all the extra printed money in the system. The Fed, ECB and Bank of Japan have been doing QE for years with no rise in inflation, so the RBA has a long way to go before it becomes a problem. Put simply there is no magical right or wrong level for the RBA’s balance sheet so if you are worried about it, just ‘chillax’.

How high will unemployment go?

We see unemployment rising well above 10% in the US (possibly to even 25%). But in Australia, there is a good chance that the Government’s wage subsidy scheme will keep up to 6 million workers in the most affected parts of the economy in a job and this may contain unemployment to below 10% here. The decline in unemployment though will likely be slow though depending on the shape of the recovery.

Will the recovery in the level of economic activity look a V, a U or an L?

Much will depend on how long it takes to control the virus. An L shaped (or no real) recovery is unlikely given: evidence that shutdowns will slow down the number of new cases as occurred in China and may now be starting to occur in Italy; the chances of a medical breakthrough; and all the stimulus which should aid some sort of recovery. By the same token a quick V style recovery is unlikely given that absent a quick medical solution the shutdowns will be phased down only gradually (with international travel being perhaps the last restriction to be removed). This suggests a U-shaped recovery is most likely.

Could anti-virals or a vaccine improve the outlook?

Put simply yes. A study of past epidemics and the medical response to them by my colleague Brad Creighton shows an ability of governments working with scientists and the medical community to rapidly speed up the development and deployment of anti-virals and vaccines. There is now a massive global effort on this front and some drugs are promising. So, it’s not out the question that there is a breakthrough enabling a quicker relaxation of shutdowns.

When will shares recover?

The historical record of share markets through a long litany of crises tell us they will recover and resume their long-term rising trend. The massive global policy response to support economies in the face of coronavirus driven shutdowns is starting to tilt the risk scales against a long depression scenario. This is why share markets have started to get some footing over the last week or so after seemingly being in free fall for a month. Key things to watch for a sustained bottom are: signs the number of new cases is peaking – with positive signs emerging in Italy; the successful deployment of anti-virals; signs that corporate and household stress is being successfully kept to a minimum – too early to tell; signs that market liquidity is being maintained and supported as appropriate by authorities – this has improved; and extreme investor bearishness – investor panic is already evident but it can get worse.