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ESW 1-05-13 (1)

ESW 1-05-13 (1)

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Published by Belinda Winkelman

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Published by: Belinda Winkelman on May 01, 2013
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11/05/2013

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1 MAY 2013INSIDE
Strategy Update:
2
Weekly Feature
7
What We’re Watching
9
Weekly Analytics
11
- Positioning
11
- Sentiment
12
CONTRIBUTORS
Kerry DuceSenior Strategist+61 2 9227 1101
Kerry.Duce@anz.com
Warren HoganChief Economist+61 2 9227 1562
Warren.Hogan@anz.com
Tom KennySenior Economist,+61 2 9227 1741
Tom.Kenny@anz.com
Andrew McManusEconomist,+61 2 9227 1742
Andrew.McManus@anz.com
MACRO STRATEGYGLOBAL ECONOMICS & STRATEGY
ANZ RESEARCH
STRATEGY FEATURE: INVESTING IN AN EXTENDED LOW NOMNINAL GDPGROWTH ENVIRONMENT
 
Our core investment view is that the global economy remains in an extendedstable nominal GDP growth environment anchored by G3 central banks. Thisenvironment will continue to support global yield convergence with risks absorbedby central banks. The ANZ baseline is that cheap financing will support asynchronised recovery in global capital goods spending towards end 2013.
 
To date inflation expectations have remained anchored and this has supportedthe effectiveness of central bank policy. A sustained behavioural shift to incomeover growth could become self-reinforcing if capital spending is shelved. Growthcould then skid below the nominal GDP zone that supports riskier yield exposures.
WEEKLY FEATURE: EURO ZONE CREDIT CONDITIONS EASE BUT DEMANDSLUMPS FURTHER 
 
The latest ECB lending survey (released 24 April) highlights a modestimprovement in lending standards, albeit they remain restrictive. The survey alsoshows that the negative impact from the sovereign crisis on bank fundingconditions has largely faded. This is where the good news ends.
 
Poor growth prospects remain a major deterrent to credit demand (fromhouseholds and enterprises) in the euro zone (EZ). The lack of credit demandpoints to further contraction in the region. This poor prognosis along with thedisappointing read on Germany’s PMI in April should see the ECB ease policywhen it meets on 2 May — we expect a 25bp cut in the key policy rate to 0.50%.
WHAT WE’RE WATCHING
 
The US labour market continues to be of great importance for Fed policyexpectations and financial markets. We expect non-farm payrolls grew by 130k(private: +150k) and the unemployment rate remained at 7.6% in April.
POSITIONING/SENTIMENT
 
The consolidation in economic momentum through March and April has resulted ina modest easing in risk appetite. In particular, there have been corrections tocommodity prices, while high yield spreads and non-commodity based equitiesremain relatively well supported.
CHART OF THE WEEK
FIGURE 1. AUSTRALIAN EQUITY RETURNS SHIFT FROM COMMODITY INFLATION TOASSET INFLATION AS QE RAMPED UP
Sources: MSCI, Bloomberg, Thomson Reuters Datastream, ANZ
 
 
ANZ Macro Strategy / 1 May 2013 / 2 of 14
STRATEGY UPDATE
AN EXTENDED NOMINAL GDP ZONE: INCOMETRUMPS GROWTH
 
Our core investment view is that global nominalGDP will remain stable through an extendedmoderate growth cycle anchored by sustained G3policy support.
 
Currently fiscal tightening and easing global growthmomentum has lifted disinflation/deflation risksabove inflation.
 
The ANZ producer price monitor has corrected muchmore sharply than our lead indicator. In level termsANZ producer prices are approaching the July 2012cycle low when the ANZ lead indicator wassubstantially lower than at present.
 
In this environment yield convergence will besustained and income will continue to trump growth.This environment could become reinforcing if asynchronized lift in global growth does not unfold by2015.
 
Therefore disinflation/deflation remains theembedded risk and will provide the catalyst foradditional policy support.
INVESTING IN AN EXTENDED NOMINAL GDPZONE: INCOME WILLTRUMP GROWTH
Our core investment view is that
global nominalGDP will remain stable through an extendedmoderate growth cycle anchored by G3 policysupport.
Currently we consider disinflation/deflationrisks are moderately larger than inflation, althoughwe see neither risk overwhelming steady and stablenominal growth over the foreseeable future.In this environment yield convergence will besustained and companies (including growthcompanies) have an incentive to shift to dividends.The current loss of momentum in our ANZ global leadindicator is reinforcing the preference for income overgrowth.Clearly the risk is that this environment becomesreinforcing as capital spending plans are wound backto fund dividends. In essence central banks havepostponed the adjustment by supporting an extendedperiod of steady nominal GDP growth. The risk isthat nominal growth skids below the lower bound of nominal GDP where inflation expectations are reviseddown.
WILL FINANCIAL RISK APPETITE REMAINRESILIENT AGAIN IN 2013?
Despite the sharp loss of global growth momentumthrough 2012 ANZ global risk appetite
inflationexpectations remained very resilient throughthe slow down.
However, while financial assetprices continued to surge through 2012 measures of producer and commodity prices eased sharply withthe cycle (Figure 2). In short, financial risk has inpart disconnected from the cycle on central bankpolicy support. The risk is that support becomesembedded without generating a synchronisedrecovery.Currently our ANZ global lead indicators are easingand (as was the case through 2012) our estimate of financial risk appetite remains buoyant. However,while producer and commodity prices declinedthrough 2012 currently they are declining much moresharply than the cycle suggesting that disinflationaryforces could be gaining traction.Finally, the key challenge is to identify when thecurrent super cycle in financial asset prices peaks.We see two environments that would drive a peak:
o
 
A sustained lift in inflation as growth finallylifts to a sustained synchronised recovery; or
o
 
A sustained period of disinflation that edgestowards deflation as nominal GDP falls to thelower bound of the zone.To date inflation expectations have remainedanchored despite large output gaps and risingunemployment. It has been the
stability of inflation expectations and relatively steadynominal growth that remains the definingfeature of the current economic environment.
 
FIGURE 2. FINANCIAL ASSETS REMAIN RESILIENTDESPITE LOSS OF ECONOMIC MOMENTUM
Sources: Markit, Bloomberg, Thomson Reuters Datastream, ANZ
AUSTRALIA: A MICROCOSM OF GLOBAL CAPITALMARKETS
The
resilience of financial risk appetite andinflation expectations through an extendedperiod of steady nominal growth (as was thecase in 2012)
remains the key driver of markets. In
 
ANZ Macro Strategy / 1 May 2013 / 3 of 14
STRATEGY UPDATE
our strategy feature this week we analyse thisthematic through the prism of Australian capitalmarkets (the safe high yielding Australian equity andcorporate bond markets).The Australian equity market is essentially a barbellbetween global materials (mining) companies(leveraged to commodities via Chinese growth) andAA rated global banks (high quality financial assetsthat offer elevated safe yield). The Australian dollarclearly straddles both asset classes, although sincethe Q3 2012 and the Fed open ended asset purchaseprogram it appears to be tilting more towards safefinancial yield rather than commodity inflation.Overall in our strategy feature this week we identifythe core theme driving markets as the
continuedtransition from the commodity super cycle tothe yield super cycle anchored by a stablemoderate nominal GDP growth cycle
.We date the peak in the commodity super cycle inlate 2011 (likely earlier if we abstract from the largeChinese fiscal stimulus). Since late 2011 we haveobserved two commodity min-cycles. However, thepeak in each mini cycle has been slightly lower thanthe previous high while mini cycle troughs tend to belower.In contrast to the steady unwind of the commoditysuper cycle since late 2011, the
financial assetsuper cycle (the global race to the bottom inyields) has printed each peak above theprevious high
while mini cycle lows have beenshallower.
AUSTRALIAN EQUITIES: THE GREAT DIVIDEBETWEEN INCOME AND GROWTH WIDENS
We identify two structural shifts in the Australianequity market (and global capital markets) post theglobal financial crisis.1.
 
In
late 2011 we observed a largestructural capitulation in mining equitystocks
that marked the peak of thecommodity super cycle. Subsequent to thecapitulation we have observed two miningmini cycles in late 2011 and again in late2012. Both were a sell opportunity.2.
 
Since Q3 2012 (Fed announces openended asset purchases) we haveobserved a relentless shift to global yieldcompression
reflected in the Australian bondand equity markets. Each dip has marked abuy on the dip in yield.Subsequent to the collapse in the mining index in late2011 returns to the materials sector lagged thereturns to financial assets through to September2012. However, since September 2012 when the
Fedannounced its open ended asset purchases thereturns to mining have fallen sharply while thereturns to the financial sector have surged
.Clearly the market does not expect that open endedFed purchases will fuel commodity inflation (yet).Figure 3 clearly shows that since April 2012 the totalreturn Australian financial stocks have surged bysome 40%. Over the same period returns to miningand materials have slumped by 15%.The gap between financials and mining has widenedsharply since Q3 2012 when the Fed announce itsopen ended asset purchase program.In
short, the race to the bottom in global yieldsspurred by the Fed and now the Bank of Japanhas trumped the commodity super cycle sincelate 2011
.
FIGURE 3. LARGE DIVERGENCE BETWEEN FINANCIALAND MINING SECTORS BUILDS
Sources: MSCI, Thomson Reuters Datastream, ANZ
In figure 4 we plot the relative performance of theAustralian materials sector to financials against basemetals (in USD) and the Australian US dollar crosssince April 2011. This chart clearly shows the collapsein materials and base metals in August 2011 waslargely ignored by the Australian dollar that hasdisconnected from commodities and is trading more inline with high safe yield.Subsequently, we have observed two commoditymini-cycles with lower peaks in December 2011 andDecember 2012. Both cycles were truncated.

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