The Overnight Report: Breaking The Barriers

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By Greg Peel

The Dow closed up 74 points or 0.4% while the S&P rose 0.3% to 2404 and the Nasdaq gained 0.4%.

Bubble Burst?

Australian residential building work fell -4.8% in the March quarter thanks to a -3.8% in house construction, -5.5% for apartments and -6.3% for renovations. It’s the biggest quarterly fall in sixteen years.

Should we panic?

Overall construction fell -0.7% when a -0.5% fall was forecast. Year on year construction is down -7.2% following a revision of the December quarter number to 0.6% gain from a previous -0.2% fall. Residential construction is down -2.8% year on year, following several years of surge.

Engineering construction rose 2.2% in the quarter to mark the first quarterly rise since June 2015. This segment is being boosted by infrastructure spending by state governments on the one hand, and supported by an apparent end to the long decline in mining sector construction on the other. We recall that the December quarter GDP included a small rise in mining investment.

Non-residential building rose 1.0% in the quarter to be flat year on year. Given there remains a solid pipeline of infrastructure spending plans, economists expect the combination of growth in engineering and non-residential will help offset the fall in housing construction that we all knew was coming. CBA economists suggest yesterday’s construction data will affect “a small subtraction” for the March GDP result.

When the data were released at 11.30am yesterday, the stock market wobbled. The ASX200 had chopped its way up around ten points at the time and pulled back slightly, but recovered to be up 16 points at lunchtime.

But then came the news that Moody’s, having had China in negative credit watch for some time, had downgraded the country’s credit rating by one notch, citing slow reform, falling productivity and debt fuelled growth.  Total Chinese credit represented 260% of GDP at the end of 2016, up from 160% at the end of 2008.

Beijing fired back of course, but in Australia all eyes were on the iron ore price, which started to plunge. The spot price ultimately closed down over -4%. A tightening of the Chinese credit market would imply less demand for rocks, particularly speculative demand, and hence the miners were all sold off yesterday afternoon, led by iron ore pure-play Fortescue Metals ((FMG)).

The materials sector fell -0.7%. The banks still can’t find any love, and they closed slightly negative. Utilities have been popular again of late, but they fell -0.8%.

Every other sector rose, to provide the net 8 point gain for the index. Industrials (+1.2%) were the winners on the day thanks to strong earnings reports from ALS Ltd ((ALQ)), sending that stock up 12%, and Programmed Maintenance ((PRG)), worth 4%, while WorleyParsons’ ((WOR)) investor day also sparked a 4% gain.

Usually when a listed medical services/pharma company crashes and burns it’s due to a shift in the government policies such companies are so inexorably dependent upon. But Sigma Healthcare's (previously known as Pharma) ((SIG)) -31% rout yesterday is because Chemist Warehouse is switching suppliers.

The healthcare sector nevertheless managed to post a 0.6% gain. Supermarkets finally found some bargain hunters, with consumer staples rising 0.7%.

The bottom line is if we take out the miners, it was quite a strong session for the market considering the ominous weakness of the session before. But realistically we’re still bouncing around in a range, looking for a sign.

What about another new all-time high on Wall Street?

Not Quite Baked In

The minutes of the April Fed meeting reinforced that the FOMC considered weak US economic growth in the March quarter to be transitory. On that basis, a June rate hike is still expected. But this is based upon the Fed’s expectation of the June quarter showing healthy 3% GDP growth, and the Fed will not move if the data in the meantime do not support such a forecast.

Data over April and May have proven underwhelming. The June Fed meeting is not until mid-month so there are plenty more data releases to come, including the May jobs numbers. It may be that the Fed does decide to hike in June, fearing a fall behind the curve if it doesn’t. Frustrating the monetary policymakers is a total lack of clarity on fiscal policy plans that would prove stimulatory, and drive up inflation, if actually implemented.

Maybe if June does see a rise but GDP disappoints, further rate hikes this year will be under question. Yet the minutes also suggested the Fed will begin reducing its balance sheet, gradually, beginning this year. This is achieved by not replacing bonds in the balance sheet that reach maturity, meaning the Fed is no longer an incumbent buyer in the bond market.

Without the Fed putting downward pressure on yields, balance sheet reduction is a rate hike by any other name.

Wall Street does not seem bothered, however. The S&P500 punched through to close just above brick wall resistance at 2400, setting another new record. The Dow regained the 21,000 level.

The drivers of last night’s rally were those sectors benefitting from a slower pace of Fed tightening, specifically utilities and consumer staples. It was not a “risk on” session, and the banks closed flat. The US dollar index fell, US bond yields fell, and gold rallied.

The fresh high suggests Trump’s impeachment is not something Wall Street is really thinking about anymore.

Commodities

Iron ore fell -US$2.60 to US$59.30/t.

Base metals are all weaker, although only nickel’s fall of -2.5% exceeded -1%.

The US dollar index is down -0.3% at 97.05 and gold is up US$7.90 at US$1258.60/oz.

After five sessions of clawback ahead of tonight’s OPEC meeting, West Texas crude is down -US16c at US$51.33/bbl.

The weaker greenback has helped the Aussie up 0.4% to US$0.7593 when one might have expected pressure on the currency from the weak domestic construction numbers and the China rating downgrade.

Today

The SPI Overnight closed up 12 points or 0.2%.

As noted, OPEC meets tonight.

On the local stock front, Aristocrat Leisure ((ALL)) reports earnings today while Suncorp ((SUN)) offers a quarterly update. AMP ((AMP)) and ALS Ltd host investor days.

Rudi will travel to Macquarie Park to make an appearance on Sky Business today, noon-2pm.
 

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