MARKET UPDATES

Cash

The Reserve Bank of Australia (RBA), left interest rates unchanged at 7.25% in May. They also kept interest rates unchanged at their recent meeting on 1 July.
The RBA cited concerns around inflation, noting rising fuel costs, more subdued household spending and weakening demand.

Australian bonds

The UBSA Composite Bond All Maturities Index returned 0.3% in June. Government securities rose 0.8%, with 10 year yields at 6.45% (down from 6.53% in May). The high inflation rate kept yields elevated.

There were tentative signs of an easing in labour market conditions in June, with employment falling by 19 700 in May. This was weaker than consensus expectations, and was the first fall in 19 months.

Spreads on some credit securities are at close to historical highs. They might offer good long term value in an environment where the prospect for further capital losses is limited, and spreads may not widen much further.

Australian corporate bond issuance slumped to its lowest level in five years as high borrowing costs and bouts of credit market volatility affected company’s ability to raise funds. Issuance fell to its lowest levels since 2003, totalling $39 billion, down from $63.1 billion over the same period last year. The decline mirrors a global fall in issuance of 26% in the first quarter.

international bonds

International bond markets rose 0.1% in June (Lehman Global Aggregate - hedged, $A). Yields on US 10 year bonds fell 3.97% (down from 4.06% in May). Bond yields rose during the first half of the month on inflation concerns and then fell back during the second half of the month on market fears.

The US Federal Reserve left rates unchanged – a sign to some investors that it may move to tighten monetary policy later this year. The Federal Reserve noted high uncertainty about inflation in making its decision. Policymakers elsewhere in the world have expressed concern about inflationary risks, reducing their focus on downside threats to global growth.

US investors looked to low-risk government bonds due to jitters about the stock market. However, bond gains were limited by record oil prices which stoked inflation concerns. Oil hit $140, and soft commodities rose sharply, with corn (up 21%) and sugar (up 20%) the standouts.

Australian listed property securities

The S&P/ASX 300 A-REIT index was down 11.3% in June, underperforming the S&P/ASX 300 Accumulation Index by 3.7%. For the financial year, the index fell 37.7% compared to the broader Australian share market at -13.7%.

Over the month, Retail (-6.5%) and Commercial (-10.0%) outperformed the Property Index while the Industrial, (-20.8%) and Diversified (-15.0%) sectors underperformed.

The top performers in June were Commonwealth Property Office Fund (-1.6%), who benefited from its defensive characteristics (low gearing and domestic focus); Westfield Group (-4.6%) and Mirvac Group (-7.7%).

The worst performing trusts for the month were APN European Retail Trust (-37.0%), who announced a lower-than-expected distribution as a result of higher overheads, interest costs and lower net income. Centro Properties Group (-35.5%) and Valad Property Group (-28.8%) also significantly underperformed.

international listed property securities

The UBS Global investors Index (hedged, A$) fell 10.5% in June. Japan (-9.6%) and Australia (-10.4%) where the better performers, while Singapore (-12.5%) Continental Europe (-12.0%) and the UK (-11.3%) underperformed. REITs around the world have struggled in an environment of rising borrowing costs and aversion to high corporate debt levels.

In the UK, falling demand from the Financial Sector has led to the volume of vacant office space in London nearly doubling over 12 months. Figures for the second quarter of this year show the vacancy rate in London increased 90% to 10.2% in the second quarter, compared to the same period last year. A combination of increasing supply and falling demand as the financial sector shed jobs is putting downward pressure on rent. Prices have fallen over 15% since the peak of the market in August last year.

In the US, data released this month showed that REITs rose strongly in the first five months of 2008, but began to sink in June. With the economy slowing, real estate operators face the prospect of rising unemployment, which typically leads to lower demand for office and retail space.

The graph overleaf shows the performance of international listed property securities (year to 30 June).

Australian shares

Australian shares fell 7.6% in June (S&P/ASX 200 Accumulation Index).

Performance in Australian equity markets mirrored global themes. Just 27 stocks in the Top 200 gained over June. Of these stocks, 20 were energy companies (helped by BG’s hostile move on Origin Energy) or commodity plays including iron ore producers BHP and Fortescue, as a bullish 2008 pricing settlement with the Chinese was confirmed.

Elsewhere market sentiment turned negative towards diversified financials (with the debt concerns of Babcock & Brown), REITs and infrastructure stocks. Names exposed to the slowing domestic economy like media (Channel Ten profit warning) and retailers were hit as local economic data took a turn for the worst. Those subject to rising input costs like oil (Alumina, Goodman Fielder, Qantas, Transfield, Toll) also suffered.

Local banks and insurers also continued to be sold off with US investment banks and mortgage lenders, as were fund managers, due to the falling equity markets. A number of other profit warnings (APN, Boom Logistics, Commander, Fosters, Futuris, Mirvac, Valad) did not help lift market sentiment.

international shares

The rising oil price, weak US economic data and more credit-crunch woes for financials saw May’s share market pause turn into a significant fall in June. The MSCI world Ex Australia Index (hedged, $A) fell 7.9%.

Energy shares outperformed, along with other bulk commodity (coal, iron ore, gas) and gold (as a currency hedge) stocks. Perceived ‘safe-haven’ health care shares also outperformed. Other sectors finished June down, particularly Financials, as broker and credit ratings were cut (Lehman and Citigroup confirmed more sub-prime losses). Insurers also suffered (capital fears over bond insurers and accounting issues at AIG).

The rising oil price and dispiriting economic data (home prices, producer prices and unemployment) saw automakers and airlines suffer, as did many discretionary retailers and cyclical industrials.

Euro exchanges also suffered big falls (France -11.6%, Germany -9.6%, UK -7.1%). Performance in these markets followed the global oil price theme and local economic and credit crunch woes. Asian markets (Japan -6%, Hang Seng -9.9%) also fell.

The performance of international equities is shown in the graph below (year to 30 June).

global emerging markets

The MSCI EM index (in $A, div reinvested) fell 10.6% in June. Emerging markets have also tumbled 19.3% so far this year, led by China and India. The once booming Indian and Chinese stock markets have fallen 32% and 26% respectively over 12 months. This compares to countries like Russia or Brazil, who are down only 2.4% and 1.9% respectively.

Policymakers have voiced concern about growth and inflation. The emphasis has shifted from downside threats to growth to greater anxiety about inflation risks. Recent sharp rises in the cost of oil, and to a lesser extent, food, have hit emerging markets hard. Food comprises between 30-50% of what consumers purchase, compared to 10-15% in advanced economies. In the year to 31 May, wheat, soybeans, rice and corn have risen 114%, 1125%, 172% and 175% respectively. In addition, emerging nations consume between 20-100% more energy per unit of GDP than OECD countries.

China, India, Russia, Brazil and Mexico have tightened monetary policy recently. Macro-economic policy among emerging markets is focused on restraining inflation. In China, headline inflation (7.7%in May), remained well above the 4.8% target. The government (who subsidises the cost of fuel) lifted petrol prices by 16.7%. India’s fuel price rises of 10% (to 17% in June) was attributed to 94% of June’s inflation figure.

investment markets data

table 1 – investment market performance to 30 June 2008

table 2 – breakdown of Australia and international fixed interest market performance to 30 June 2008

table 3 – performance of major Australia share market indices to 30 June 2008

table 4 – breakdown of Australian share market performance to 30 June 2008*

*Based on S&P/ASX 300 Accum Indices (reclassified in accordance with the Global Industry Classification Standard “GICS”).

top 5 performing Australian shares in June 2008*

bottom 5 performing Australian shares in June 2008*

*Based on the universe S&P/ASX 100 Index.

table 5 – breakdown of international share market performance by country to 31 May 2008

Note: all returns are calculated in local currencies

table 6 – breakdown of international shares market performance by sector to 31 May 2008*

*Based on MSCI world Indices (reclassified in accordance with the Global Industry Classification Standard “GICS”).

Note: all returns are calculated in local currencies

economic indicators

Cash

The Reserve Bank of Australia (RBA), left interest rates unchanged at 7.25% for the second month in May. The RBA noted some evidence that the highest borrowing costs in 12 years are slowing the economy enough to cool the fastest inflation growth since 1991. The RBA expect demand growth to remain moderate for the remainder of 2008.

Australia’s five largest lenders, led by Commonwealth Bank of Australia, have added an average of approximately 90 basis points to home-loan interest rates this year. The Reserve Bank has added just 50 basis points in that time.

Australian bonds

The UBSA Composite Bond All Maturities Index returned only 0.1%. Government securities fell 0.6%, with 10 year yields at 6.53% (up from 6.28% in April).
Australian government bond yields are being influenced by two opposing forces – declining global economic conditions and rising domestic inflation. Short term bond yields are significantly below the official cash rate in expectation that a slowdown in growth will be sufficient to take the pressure off inflation. The belief is that the RBA is nearing the end of policy tightening.

Spiralling fuel prices are putting pressure on consumers, who are already experiencing high interest rates and rising food and housing costs. This is helping to constrain spending while exacerbating inflation concerns. Gross domestic product slowed to 0.6% in the first quarter from the previous three months, when it expanded 1.1%.

international bonds

International bond markets fell 0.5% in May (Lehman Global Aggregate - hedged, $A). Yields on US 10 year bonds rose to 4.06% (up from 3.73% in April).
Bond yields rose sharply around the world on rising inflation fears. The price of oil exceeded $US134 a barrel for the first time, doubling its price from 12 months ago. Risk aversion encouraged investors to switch to less risky assets, such as government debt.

Headline US CPI rose 0.2% month on month (and 3.9% year on year in April). Consumer spending, which accounts for more than two-thirds of the US economy, increased at a 1.0% annual rate in the first quarter. This gain was the smallest since the 2001 recession.

The US economy grew more than previously estimated in the first quarter, as consumers shunned imports and exports climbed to a record. The 0.9% annual increase in GDP compared favourably with an advance estimate of 0.6%. However, the US Federal Reserve expects the economy will grow by only 0.3% to 1.2% in 2008, down from their January prediction of 2.0%.

Australian listed property securities

The S&P/ASX 300 A-REIT index (previously S&P ASX300 Property Trust Accumulation Index) was down in May, it’s worst relative underperformance against the broader share market since July 1987. Australian listed property securities have underperformed the broader market over a three month (-7.8%), six month (-16.7%) and one year (-26.5%) periods.

Commercial (-6.3%) and Retail (7.0%) led the way, while the Leaders (-9.8%), and Diversified (-12.2%), underperformed the index
The top performers were Valad Property Group (5.2%) and Bunnings Warehouse Property Trust (-1.5%). Valad Property Group was the only A-REIT to post a positive return, on speculation that it may be a future M&A target. Although posting a negative return, Bunnings Warehouse Property Trust outperformed the market as its defensive characteristics continued to be favoured. It was also buoyed by the acquisition of another Bunning’s Warehouse in NSW.

The worst performing trusts for the month were Mirvac Group (-21.7%), Centro Properties Group (-16.5%) and Macquarie Countrywide Trust (-14.8%). The market continued to question the quality and sustainability of Mirvac’s earnings. Centro continued its volatile ride, and two class action claims against Centro were announced in May, weighing on returns. Macquarie Countrywide Trust fell on negative sentiment associated with the US retail environment as well as worries about domestic retail sales.

international listed property securities

The UBS Global investors Index (hedged, A$) fell 1.6% in May; with Japan (4.4%) and the US and Canada (0.4%) the only regions to post positive returns. The UK (-8.8%) and Europe (-1.8%) fell as lending and transaction activity slowed.

Tokyo’s office market is extremely tight, and office vacancy rates in Japan are at a near 20 year lows (2.1% in April). As the economy recovers, companies have started to hire more staff, placing pressure on office space. This bodes well for Real Estate developers. Japan’s largest real estate developers were in talks with their tenants during May to raise office rents in central Tokyo by between 10 – 20%.

Similarly, rising demand for office space in India is putting pressure on rents. In Mumbai, India’s main trading hub and home to the nation’s biggest companies, office rentals have doubled over the past two years. Only around 3% of offices in Mumbai are vacant, reflecting strong demand. India, the fastest growing major economy after China, is forecast to expand as much as 8.5% in the year to March 2009, according to the Central bank. The economy has doubled in the last six years, growing by an average rate of 8.7% since 2003.

The graph below shows the performance of REITs in the 12 months to 31 May 2008. It highlights an improvement in the asset class since January 2008.

Australian shares

Australian shares returned 1.7% in May (S&P/ASX 200 Accumulation Index) despite being confronted with an environment of rising interest rates and slowing growth.

Resources led the way, up 19.9%. Origin Energy (11.8%) closed the month at $15.60 after rejecting the BG Group bid at $15.50. Santos (32.7%) surged after Malaysian-based Petronas agreed to pay $2.6 billion for a 40% stake in its planned LNG development, setting a new benchmark in valuing gas reserves. Arrow Energy gained 42.3% on the same theme. Optimism on demand growth (despite increased prices) fuelled both corporate transactions and equity market enthusiasm.

Fortescue Metals (43.7%) surged past $30 billion in market capitalisation as investor excitement grew after its first shipment to China.
In the Financial sector, corporate activity again featured with Westpac’s (-2.2%) bid for St George Bank (28.7%), the key news. The bid by Westpac received board approval.

On the negative front, weakness was dominated by the property sector and other stocks struggling under the burden of excessive leverage. Mirvac Group (-21.7%) and Macquarie Countrywide (-14.8%) were amongst the weakest, although declines were widespread.

international shares

April’s share market rally continued, albeit at a slower pace in May as investors were concerned about the impact of high oil prices on a weakening US economy. The MSCI World ex Australia Index (hedged, $A) rose 2.0% in May (down from 6.3% in April). Oil jumped 12% to new record highs (due to fears of a continuing supply/demand squeeze and a weak US Dollar). The spike in oil caused energy shares to surge.

Hewlett Packard’s takeover offer for EDS gave technology stocks a boost as did a good result from Dell. Financials were hit due to more downgrades, poor results from AIG and MBIA, more losses from UBS and a jolt to ratings agencies with news that some securities were wrongly awarded AAA ratings. The high oil price and a profit warning from Ford had a negative impact on the auto sector and poor results from Lowe’s and Home Depot hurt retailers. .

The UK market dropped 0.6% due to falls in banks. German (2.1%) and French (0.4%) markets did better while Asia was mixed (China -7.0%, HK -4.7%, Japan 3.5%).

The graph below shows the performance of international shares in the 1 months to 31 May, An upwards trend is evident from mid March 2008.

global emerging markets

The MSCI EM index (in $A, div reinvested) returned 0.7% in May. The best performing emerging markets were Russia (15.7%), Argentina (15.6%) and Brazil (11.4%). The worst performers were Pakistan (-23.5%) and India (-10.3%). Emerging markets continued to benefit from strong material prices and increased economic development.

One such example is Brazil. Thanks to a newfound economic stability, Brazil is less tied to the fortunes of the US. Brazil is benefiting from a combination of factors. High commodity prices, pushed by a demand from China, have brought in foreign currency and created jobs. Foreign investment doubled in 2007 to $US34.6 billion, much of it invested into the stock market, which is one of the fastest growing in the world. The currency is strong, and is likely to strengthen given Standard and Poor’s decision in May to raise Brazil’s investment grade rating. Inflation is under control and the economy continues to grow.

Brazil’s middle class is growing. Unemployment is falling and wages are rising, leaving more Brazilians with more wealth. The economic boom means that houses, cars and electronics are within reach of up to 20 million more Brazilians than ever before. This consumer demand is helping company profits.

investment markets data

table 1 – investment market performance to 31 May 2008

table 2 – breakdown of Australia and international fixed interest market performance to 31 May 2008

table 3 – performance of major Australia share market indices to 31 May 2008

table 4 – breakdown of Australian share market performance to 31 May 2008*

*Based on S&P/ASX 300 Accum Indices (reclassified in accordance with the Global Industry Classification Standard “GICS”).

top 5 performing Australian shares in May 2008*

bottom 5 performing Australian shares in May 2008*

*Based on the universe S&P/ASX 100 Index.

table 5 – breakdown of international share market performance by country to 31 May 2008

Note: all returns are calculated in local currencies

table 6 – breakdown of international shares market performance by sector to 31 May 2008*

*Based on MSCI world Indices (reclassified in accordance with the Global Industry Classification Standard “GICS”).

Note: all returns are calculated in local currencies.

economic indicators