Key events of the week: Tug of war between policy support and infection rates
- It was another mixed week for global equity markets as the now familiar tug-o-war between “government support” and the “virus infection rates” continued. In the end, the virus appears to have come out on top with a raft of unfortunate records being set on rising infection rates as well as deaths and markets marginally lower for the week. The US has become the epicentre of the crisis with over 200k confirmed cases while Italy has now seen over 13k deaths. To date, there are now 4 countries which have surpassed China’s death toll (Italy, Span, France and USA) with a number now not far behind (Iran and the UK). Despite a short rally driven off the back the US fiscal stimulus, it was a rather acrimonious end to the quarter with global equities suffering their worst decline since 4Q08 falling 21%. It was the worst calendar quarter for Australian equities (-23.1% total return) since the 1987 crash, underperforming both its global and regional counterparts. Energy, Real Estate and cyclicals (Consumer and Industrials) led the declines which for the most part was representative of global sector movements.
- While markets remained rather directionless, there were further signs that internals are showing some signs of improvement. We have seen further spread contraction in credit markets, no signs of funding stress in money markets, a decline in both bond and equity volatility and a much more orderly dash for cash out of US Treasuries. It is not a stretch to say markets have felt calmer in the past 5 days (perhaps less chaotic is more apt) even though volatility has remained high. There are still only 4 big issues driving markets at present. The first is the trend in infection rates in the US/Europe and within key emerging markets (India, Brazil, Indonesia); The second is the stability and function of financial markets; the third is the burgeoning fiscal response to an inevitable recession; and the fourth is the energy crisis. On a positive note, the oil price was up sharply (Thursday) following an announcement by President Trump that an agreement between the KSA and Russia to reduce output was forthcoming. It was followed quickly by an announcement that OPEC would meet to discuss output, but expectations for the (rumoured) 10m/bbl cut have subsequently been downplayed. While a supply side response will be greeted well, the sector is also suffering from a substantial demand side shock as a result of COVID-19. Ultimately, we think, markets will continue to bounce around until there is more clarity on the economic fallout of the virus and infection rates.
- The Australian Government announced the third fiscal stimulus plan estimated to cost is a whopping $130bn over six months (6.5% of annual GDP). The basis was a JobKeeper wage subsidy which again showed the commitment by the government to cushion the economic blow from containment policies. Equities rallied strongly off the announcement but this enthusiasm generally faded into the week. On a positive note, bond yields remained well behaved at the long end (10 year bond yields at 0.76%) while the A$ continued to trade higher after reaching a late March low of US$0.55. However, we don’t think the market is convinced that all is well. There was a rush of capital raisings through month end, further downgrades and removal of earnings guidance as well as dividend downgrades (including the NZ operations for the banks). We think this will be an ongoing drag in the months ahead regardless of where valuations sit. Encouragingly, there were examples where equity raisings to shore up balance sheets were treated positively as removing a potential future risk.
Policy changes this week: Australia’s third fiscal stimulus package dominated the headlines this week.
Australia: Fiscal Stimulus Part III - Government steps up with BIG wage subsidies:
- The Australian Government announced that employers will be paid a JobKeeper wage subsidy at a flat rate of $1,500 per employee per fortnight for up to six months. There is no cap on the number of employees eligible for the subsidy at the firm level. This is a BIG wage subsidy, particularly for lower-paid and part-time /casual workers. It is equivalent to around 70% of the median wage (~60% of the mean) in Australia, but in industries like hospitality and retail it is equivalent to the full median wage.
- The estimated cost is a whopping $130bn over six months (6.5% of annual GDP). This implies that the Government/Treasury anticipate ~6.65 million workers – roughly half of all employed persons – will receive the payment. Eligibility criteria does apply at a company level although the threshold have been lifted to $79,000 from $48,000, enabling up to 400,000 additional workers to access the Jobseeker income support payment. Employees ordinarily earning more than $1,500/fortnight are to continue receiving their regular wage. Those employees usually earning less than $1500 per fortnight will receive the full $1,500 - i.e. they are better off.
- Will it be enough? This is a good move by the Government to keep some attachment between employers and employees and in combination with other stimulus proposals represents more than 10% of GDP due to fiscal stimulus and closer to 16% once monetary support is counted. At this stage, Macquarie's economists stick with their expectation that the unemployment rate is likely to rise to 8½-9% in coming months.
Global: Germany plays catch up:
- Germany has authorized a $610 billion lending fund, along with $172 billion in increased spending with most going to help small businesses and the self- employed avoid bankruptcies.
- The Bank of Canada was the only major central bank with a rate move this week, cutting the Overnight rate by 50 bps for the third time in less than a month, pushing it to 0.25%. The BOC has referred to this level as “the effective lower bound”. The Bank also announced a QE style program of $5 billion per week.
Equities - Best week since 2011: Australian equities rallied strongly this week with the ASX200 (+4.6%) delivering its best weekly return since December 2011 (+7.6%). The market remained volatile in both directions with last Friday’s decline (-5.3%) reversed on Monday (+7%) as the Federal Government announced its massive $130b stimulus package. This week we saw more companies withdrawing guidance (QBE, BOQ) and cancelling/deferring/reducing dividends (SGR, HVN, TCL) but the number of companies doing so was well down on last week. Positively, several companies were able to re- iterate guidance (CGF, IAG, ANN) which in the current environment is equivalent to an earnings upgrade. This week the focus turned to how a company will fund itself during the COVID-19 lockdown. Cochlear’s decision to raise equity last week, despite relatively low gearing, illustrated it is not obvious which companies will decide to raise funds. Similarly, just because a company has high gearing does not mean it will turn to the equity market. While we did see several smaller companies turning to equity markets (WEB, NXT, KMD), larger companies (TCL, URW, SCG, ALX, WOR) with higher gearing were able to renew/expand exiting banking facilities and tap debt markets to boost liquidity. Balance sheets are in much better shape than pre- GFC providing companies with more flexibility to expand debt facilities to avoid what would be highly dilutive equity raisings. The major banks were weak as offshore banks (Europe, UK, NZ) were told to suspend dividends and share buybacks. We are yet to see a similar directive domestically but our banking team’s analysis suggests ANZ and NAB are most at risk of suspending dividends in order to preserve capital positions.
Fixed income - Credit and funding markets continue to improve: Conditions in global funding markets continued to normalise as the Fed created repo lines with other CBs to deliver U$ in exchange for US Treasures. This served the dual purpose of delivering U$ to a cash hungry world but also eased strains on the US Treasury market as global CBs dumped Treasuries to raise cash. Global sovereign bonds (while showing some intra- week volatility) finished the week largely unchanged from the week prior. Credit spreads were broadly flat across cash bond markets, however the spreads in the more liquid credit derivatives market widened (IG: ~20bps to 123 bps and HY:~110bps to743bps) but remain below their peaks on the 23 March (IG:150bps and HY:871bps). New issuance for high grade corporates continued apace with 36 issuers raising approx. U$80bn for the week (ended Thursday). This takes the total raised to U$250bn since the 17th March - a 57% increase on the same period last year. Domestically, conditions continue to improve. There are continued signs of the success of the RBAs QE program with all years out to the 3 year part of the curve now sitting below the cash rate of 25bps - in line with forward guidance.
REITs - Rent relief for tenants: The REITs sector managed to outperform the broader equity market during the week. Several stocks were able to boost their liquidity by renewing/expanding existing banking facilities or tapping debt markets. However, other news was not so good for the sector, mostly revolving around talk of ‘rent holidays’ for tenants struggling with the impact of COVID-19 lockdown s. For example the Prime Minister and National Cabinet agreed on a “short-term, temporary moratorium on eviction for non-payment of rent to be applied across commercial tenancies impacted by severe rental distress due to coronavirus” among other measures designed to alleviate pressure on tenants.