United States shares closed out a dismal month (falling 2.8% on the last trading day of the month) as investors contended with a slew of headwinds, from central bank monetary tightening, rising interest rates, persistent inflation, COVID case spikes in China and the ongoing war in Ukraine. Added to this, on the domestic front, is the Federal Election which is due to be held on the 21st of May.
The Australian share market is expected to open sharply lower to start the month of May (following the United States lead from Friday). Nevertheless, for the month of April the benchmark All Ordinaries index was moderately down by 0.8%, closing the month at 7,725 points.
The Australian Dollar fell sharply in the month, declining by 5.2% with 1 Australian Dollar currently buying 71 United States cents.
The Reserve Bank of Australia (RBA) kept the official Cash Rate at 0.1% per annum in April. However, with domestic inflation increasing to 5.1% for the year to 31 March, some economists now expect the RBA board to increase rates in this week’s RBA board meeting (while others are more moderate in their views).
Global share market results for April were extremely volatile, with the United States Dow Jones index falling by 4.9%, the London FTSE gaining by 0.4%, the Japan Nikkei 225 falling by 3.5% and the Hong Kong Hang Seng Index falling by 4.1% for the month.
Inflation and how the central banks’ move to bring this under control appear to be the key theme driving markets now. Inflation is high in the United States, Eurozone and to a lesser extent in Australia (despite press coverage in the month) as shown in the chart below.
United States Inflation – Past 25 Years
Eurozone Inflation – Past 25 Years
Australian Inflation – Past 25 Years
Even the naivest person would expect central banks to begin increasing interest rates given the inflation results noted above. However, the speed and extent upon which interest rates are going to be increased globally is up for debate.
What must not be forgotten is that we are coming off near zero interest rate policy settings. Therefore, any increase to rates (in relative terms) will be significant and needs to be considered relative to wage growth and level of household debt.
In the United States, wage growth was 9.2% for the year to December. Compare this with Australia whereby wage growth has been meek at 2.2% over the same timeframe. Australia also has a higher household Debt-to-GDP ratio in comparison to the United States, making it much harder for the RBA board to increase rates at the same pace as the United States Federal Reserve.
Despite the above, the domestic bond market still offers a higher yield for a 10-year government bond relative to the United States (with Australian 10-year government bonds now trading at 3.24% per annum - gaining further in the month of April, and now some 0.30% per annum higher than United States equivalent bonds). For mine, this may be the biggest mispricing in markets that I have seen in decades.
Currency traders don’t appear to be as optimistic on the future direction of interest rates in Australia relative to the United States – with the Australian Dollar falling by more than 5% in the month April, and perhaps forming a trend that will continue over the coming months unless domestic wage growth can improve.
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This article is general information only and is not intended to be a recommendation. We strongly recommend you seek advice from your financial adviser as to whether this information is appropriate to your needs, financial situation and investment objectives.