Welcome to our April monthly market update.

Positioning

Despite the recent rally in equity prices off their mid-February lows, the local equity market faces a number of headwinds from lower commodity prices, higher potential bank capital requirements and profit margin pressures in the major supermarket chains. The recent rise in the Australian Dollar is also not helping companies exposed to offshore earnings, export sales or inbound tourism.

Internationally there are a number of risk factors on the horizon, including political uncertainty in the United States and Europe. Noticeably the British vote toleave the EU on 23 June 2016 looms as a major risk point for markets. The most recent US earning seasons have been disappointing with the market being supported by share buybacks.

Against this backdrop, we recommend investors adopt a more conservative portfolio positioning, with a slight underweight exposure to equities in favour of cash, property and alternative investments.

Summary of policy developments

European Central Bank over-delivers

The ECB cut its deposit rate from -0.3 to -0.4% per annum and cut its lending or refinance rate to zero. It also expanded monthly asset purchases to €80bn (from €60bn), widened the types of assets that it can acquire and introduced four new targeted loan programs that encourage banks to lend.

What’s changed in March?

• Equity and commodity markets continued to recover off their mid-February lows helped by reasonable economic data and improved sentiment:
• Developed share markets gained 5.3% in March helped by a 6.8% rise in US shares, while Australian shares returned 4.7%.
• Emerging market shares returned 8.4%, led by Brazil, which rose 17%, and China which was up 11.8%.
• 10-year government bond yields rose marginally in the major bond markets – up 2 – 11 basis points.
• US corporate bond index credit spreads narrowed from 205 to 170 basis points and high yield bond index spreads narrowed from 775 to 705 basis points over US Treasury bond yields.
• The US Dollar weakened against most currencies with the Euro, Pound and Australian Dollar up materially against the US Dollar.
• Commodity prices were 5% higher with oil prices up by US$4.20 per barrel to US$36.94 per barrel, while gold rose by about US$2 per troy ounce.

Macro monitor

March was a good month for equity investors with the rally in equity prices off February lows. It was helped by reasonable economic data and accommodating central banks in Europe and the US.

In the United States, the soft GDP and ISM manufacturing readings, which concerned investors early this year, have surprised on the upside in recent months. GDP growth in the fourth quarter was again revised higher, from an initial reading of 0.7% annualised, to 1.4% annualised. Meanwhile, the ISM manufacturing survey also recovered into expansion territory, rising to 51.8 in March from 49.5 in February.  Despite stronger data and higher inflation, the Fed appears to be worried by developments in China and the oil market. They acknowledged that interest rate rises may be slower than anticipated in December when they first lifted interest rates.

In Europe, as expected, the European Central Bank introduced additional measures to combat deflation. In addition to cutting the deposit rate further into negative territory, the main surprise was the larger asset purchase program, up from €60 billion, to €80 billion per month, and widened to now include high quality corporate bonds.

In China, February data on the export side of the economy was weak. Annual industrial production growth of 5.4% was the weakest since November 2008, while exports contracted by 25.4% compared with year ago levels.  However, the March official manufacturing PMI index recovered from 49.0 in February to 50.2 in March, which was the best reading since June 2015.  And the March non-manufacturing PMI rose by a similar amount to 53.8, the best reading since December. This suggests that government stimulus measures may be starting to work.

In Australia, employment growth was a little disappointing in February with just 300 new jobs created.  However, over the past year, employment has grown by 2.1%, which is well ahead of current rates of population growth and substantiates the unemployment rate falling to 5.8% in February.  Other activity indicators have also been reasonably favourable: for example the NAB survey of business conditions rose in February from +5 to +8, which is the best reading since November and a little above the long-term trend.