The month of August has been another really interesting month. The focus has been on the domestic company reporting season. While we’re still around 70-75% through the reporting period, from our perspective, it’s been a flat to slightly disappointing reporting season with earnings surprises (companies outperforming their guidance/market expectations) actually down around 2%.
However, within the broader market there has been a high level of divergence. To this end there have been certain sectors that have clearly underperformed market expectations. For example, despite the sector being up significantly over the last 12 months, the earnings surprise in the technology sector is actually down ~12% relative to expectations. The telecommunications sector is also down ~7%. While, this may change as we get to the end of reporting season, it does highlight some of the market challenges. On the flip side, financials have been the best part of the market up about ~4% so far.
In addition, when we look at the forecast earnings growth, it’s clear the corporate outlook for earnings growth has moderated with full year 2020 forecast earnings growth on the ASX 200 of only 2.5% to 3%. When we compare this to the prior reporting period, earnings guidance was pointing to around a 5% uplift. So, it’s clear that through the course of 2019 we are looking at a softer earnings outlook for the second half of 2019 into 2020.
In our view, this is happening due to the macroeconomic backdrop, both global and domestic. From a global perspective, we’re continuing to see an escalation in the US China trade dispute and that’s having a material impact in terms of economic activity. This is leading to a slowing global growth outlook, both here and in offshore markets. In addition, it’s now starting to have an impact in terms of the performance of financial markets. So far through the month of August, the ASX 200 is about 4.5% lower, while the US S&P 500 Index is also down around 3%.
From our perspective, a lot of this is due to inconsistent policy rhetoric coming out of the US, principally the White House. The protests in Hong Kong are also having an impact in terms of investor confidence levels more broadly around Asia. However, with equity markets remaining strained, bond markets have continued to rally as people move out of high risk assets into defensive assets. Bonds have been the biggest beneficiary of that with the Australian 10 year bond now below 1%. We’ve also seen a sharp decline in the US 10 year treasury, which is now just touching about 1.5%. In fact, over the course of the month we have seen the 10 year bond yield in the US invert, highlighting the extent to which the outlook for economic activity has slowed.
With this backdrop, from a portfolio standpoint we’re maintaining a slightly more defensive bias across our portfolios. While we appreciate the value that we can generate from equities over the medium term, and they remain an important allocation across our portfolios, we’re overlaying this with some defensive tilts. Whether this be through increasing our alternatives exposure or additional fixed income across our core multi-asset portfolios.
As we head into September, we continue to expect that it will be a challenging market environment. Given we don’t expect that the trade dispute will be resolved anytime soon, and with other global economic and market challenges (like Brexit), expectations that markets will continue to trade in a volatile manner remain our base case.
As always, if you have any questions, please speak to your advisor.
Piers Bolger is Chief Investment Officer at Viridian Advisory
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