Does Trump matter more than Morrison?

This week on Talking Finance:

• Chris Weston, Head of Research at Pepperstone Group, taps into what's behind the latest market rally;
• Diana Mousina, Senior Economist of AMP Capital, questions whether the declining global economy will drag Australian markets down too;
• Malcolm Farr, National political editor for news.com.au, talks about the government's policy overhauls and why they're keeping quiet on China; and
• Supratim Adhikari, Technology Editor at The Australian, discusses the high price of NBN and whether it can be sold down the track.

G’day and welcome to Talking Finance, I’m Alan Kohler and as always, it’s been a big week in the markets and the economies and things seem to be getting worse in Hong Kong and who knows what the hell is happening with the trade war between America and China. The latest news is that US is backing off a bit, making things a bit easier, it would seem, by staggering the proposed increase in tariffs on the last $300 billion dollars worth of exports from China to America, which Donald Trump says is a, ‘Christmas present for consumers just in case they’re paying some of the tariffs.’ Although, he’s previously said the consumers are paying nothing.

Anyway, just in case, he’s staggering it for Christmas and the markets had a bit of a jump on that, so markets are looking for anything to be happy about and they’re finding it a bit hard to find stuff to be happy about at the moment, that’s for sure. I think the best person to talk to about that is Chris Weston from Pepperstone Group, he’s terrific on all these matters global, so we’ll talk to him today, Chris Weston, the Strategist at Pepperstone. On the economy, it’ll be Diana Mousina from AMP Capital. Politics is Malcolm Farr, always worth talking to on that, although there isn’t a lot to talk about but he’s very amusing on the subject of the lack of stuff to talk about politics.

And on technology, it’s an NBN week, the NBN results came out on Wednesday and Supratim Adhikari, the Technology Editor at The Australian was there to find out what’s going on, so he brings us up to date with a scoop on that.

[Music]

Now we have Chris Weston from Pepperstone with the latest on markets.

Chris, you wrote yesterday you thought it was the end of the TINA trade, could you first explain what TINA trade is and why is it coming to an end?

CW: When I say TINA we say there is no alternative, and what that had effectively meant is that when money was going to fixed income we saw this relentless bid into bond markets, especially towards the sort of longer duration bonds and 30 year US treasuries, for example, has traded down to record lows. People are saying to themselves the Fed have got our back, there’s still decent liquidity coming through markets and therefore we want to be a high paying dividend stock so if you look at the ASX’s current earnings yield and dividend yield relative to the Aussie cash rate for example when you’re taking an Aussie bond or considered risk-free rate we’re getting significant divergence between the two so therefore we have to be in dividend paying stocks.

I think that trade is now over and I think the market has snapped to the point where they’re seeing business investment falling, trade values are obviously falling and lower bond yields now don’t push us into high dividend paying equity markets but that’s a sign that we’re actually quite concerned about the global economy and therefore stocks are going down when bonds are going down and I think that that wasn’t what we were seeing before, what we were seeing before, as I say, is lower bond yields push people into the stock market into the high divided paying stocks because there is no alternative. That has changed now, the market is looking at the bond market as a sign that we are seeing some fairly worrying signs over the next 12 to 18 months.

Right, and why did the market rally last night?

CW: Well, Alan, we have seen just such a clatter of negative news whether it’s various geopolitical headlines, we’re obviously concerned with what’s happening with Brexit, that’s coming up to a crescendo, Italian politics, German growth concerns, obviously what’s happening in Hong Kong looks like it’s got further to play out and I think right at the epicentre has been this diverging stance between Xi and Trump and there’s not really been a lot of good news for us to look at. When we see overnight that Donald Trump is trying to give the US consumer a Christmas present, or that’s at least how he has framed it by saying that he is going to stagger the 10% tariffs that he announced a couple of weeks ago on the 300 billion mostly based on the consumer goods the market were quite excited about that and we have seen a bit of relief rally.

The idea now that the 10% tax on, I think, 130 billion of that 300 from the 1st of September, the bulk of that one which will go up on the 15th of December, actually this is a glimmer of light, perhaps we are seeing some signs of very modest convergence. Basically, the market was very long yen, they were very long gold, very long Swiss Franc and they’re obviously are quite negative on the whole risk aspect. I think just that mere sense that he was willing to bulk effectively, or blink should I say, has caused a nice move in the market. We’re seeing a decent sell-off at the front end of the yield curve, you’ve seen the S&P up 1.5%, we saw a really nice move up in oil. Gold had a big collapse because that’s been a big hedge against all of this ballooning pool of negative yield and debt and sort of weakness and concerns about the economy. A bit of a reposition, the question we’re asking now is has this move got legs or is this an opportunity for traders to look to sell into.

I’ve been looking for the tweet that you talked about, can’t find it but I’ve noticed that there were 27 tweets from Donald Trump dated August the 13th, it is unbelievable. This tweeting by him it must be on its own upsetting markets.

CW: I’ll find the tweets and send them over to you. This is the sort of landscape that we’re in. If you’re a trader then you’re looking at the risk/reward and the probabilities in markets. We’ve gotten to the point that the market was so long, long at Japanese Yen, Swiss Franc, gold, but we just needed something to break the camels’ back and we got that in Donald Trump so it’s kind of what we’re up against. We’re up against some sort of tweet or some sort of – mainly from Donald Trump but it could be from one of the trade initiation teams like Robert Lighthizer for example. But this causes a big move in markets very quickly and that’s kind of what we’re up against. It’s usually now news recognising algorithms which will be first to the post by quite some margin.

Obviously if you’re an investor then that changes the dynamic as well and one of the best things you can do as a long term investor is not look at the markets every day, not look at your portfolio every day and not get caught up into the emotion and noise, obviously leverage yourself to goo companies with great cash flow. I sort of represent the short term world and one of the biggest driver of markets we see time and time is Donald Trump and his twitter machine.

UBS wrote yesterday that buying the dips is probably going to be a losing trade now, do you agree with that? And what are you doing with the rises? Do you think it’s actually time to sell into the rises as opposed to buy the dips?

CW: That’s why I look at the long term prospects of risk assets. Let’s take equity markets for example, I think the upside is definitely restricted. I struggle to see where we’re going to get the earnings growth to justify the valuations higher from here to be honest. If I look at what the bond market is telling me, and that’s the message that equity investors have been taking out, is that perhaps the damage is already done. We’re going to go into the 2020 election and we’re not going to see a full resolution to trade, business uncertainty is brewing and there’s a number of indicators that we’re looking at suggesting that some of the negative impacts are going to feed through into some of the soft data, some of the consumer sentiment numbers going through. I think that’s going to just make it even more difficult for equity appreciation.

I think the fact is that the [0:06:24.8 unclear] behind the curve, I think they need to do more. I think what we’ve been seeing suggests that they are going to be still some way behind the curve, they need to be more like the RBNZ and until we get the financial conditions in the US monetary conditions are too tight in my opinion. I think in that backdrop I think it’s very difficult for equities to march significantly higher from here and I’d actually be looking to more defensive and cautious structures from here. Certainly, if I was in the equity market we have seen this, I think the lower volatility stocks, the more defensive stocks, have been significantly outperforming high beta names. I think that’s probably how I’d be positioned in the equity market if I had to be in equity right here.

Thanks very much, Chris, good to talk.

CW: Thanks, Alan, cheers. Take care.

[Music]

For a briefing on the economy, here’s Diana Mousina from AMP Capital. Diana, could you give us a two minute rundown of the global economy?

DM: Sure, Alan, thanks for having me on. It’s been really quite mixed. I say that the US data is still holding up pretty well. This week we saw an update on consumer price store inflation. It looks like some of those consumer prices have been a little bit stronger than expected, but inflation is still running below the Federal Reserve’s 2% target, so it’s not an issue yet, we shouldn’t be concerned that inflation is going to run away and at the same time wages growth is still kind of tracking a little bit over 2% or so, so let’s not get too carried away with inflation.

Some of the sentiment indicators have become more positive for markets and that’s because tariffs for some items have been postponed now just before Christmas, so it looks like we’re going to get another volatile period in December. We always tend to see markets be quite volatile around the Christmas period. I think that this year will be no different. I think that markets can probably move a little bit higher over the near-term with some of this positive sentiment around tariffs, that’s really what’s been driving our share market over the past few weeks.

What about Europe and Japan, how are those economies?

DM: The Eurozone data still continued to look pretty soft, especially in Germany. The German manufacturing indicated during the session live conditions, a lot of that comes down to the impact of the trade dispute on manufacturing. Manufacturing makes up about 20% of Germany’s economy, that’s actually more than double mining contribution to the Australian economy, so it’s a pretty solid chunk. The PMI’s or the business condition indicators in Eurozone are still falling as well. The signals on the Eurozone data are still pretty poor. We think that the European Central bank will be announcing some more asset purchases in September and further cuts to interest rates. Interest rates there will become more negative and with all the negative bond yields that we have in the Eurozone that will probably just continue to move even further down even though it’s quite surprising how far yields have fallen over in the last two weeks.

To say the least! What about the Australian economy, we’ve just had a bit of data this week, not much, but what are you thinking about that?

DM: After Philip Lowe’s appearance before parliament last week and the RBA’s updated forecast, we think that we’re going to get a rate cut next month in September. We previously thought that the next one for this year would come in November. Ultimately, we’re of the view that the global economy will drag down Australia with it, but it’s negative for our exports and we just don’t see how the RBA will be able to reach some of its forecast, even though they downgraded growth inflation again in last week’s statement. We think that they’re still too optimistic, we see growth only tracking at about 2% on average for this year and next year and inflation still continuing to be quite weak. We get the wage price data today, we think that will show wages growth is only tracking a little bit over 2%, it’s not really moving anywhere and it’s just not enough to generate the increase in activity that the RBA wants to see, so we think that we need more stimulus and that the downgrade that the RBA have shown in their latest statement will really give them that room to justify another rate cut in September. The market pricing is actually now for interest rates at about 35 basis points or so within the next year. That means that interest rates were pretty much at zero. It’s pretty drastic.

Any data coming up that we should keep an eye on Diana?

DM: Well, the employment numbers are out tomorrow as well for Australia, that’s probably the key thing at the moment that we’re watching the RBA wants the unemployment rate to go below 5%. It’s expecting that that will eventually be the case, that the unemployment rate will fall to 5% over the next two years. We think that the unemployment rate will actually start to increase to about 5.5%, it’s currently at 5.2%. We see a lot of job losses still coming through from areas related to the housing downturn and falling residential construction, so we estimate there will be about 60,000 job losses still to come through from falling housing activity.

Even though some of the housing indicators are picking up, they’re only very small increases in home prices still and it just seems more like a bottoming rather than the start of a new upturn in home price growth. We still think that even though we see positive increases in home prices over the next year, we think it’ll only be in the low single digits nationally and in Sydney and Melbourne. We don’t think that we’re at the beginning of a new house price boom, although the more rate cuts we get, the more you’re likely to see stronger house price growth, although that will probably be offset by some of the negative sentiment around the weakness in the global economy and how that will play through in Australia. Ultimately, those job losses related to housing should push our unemployment rate higher and that’s not what the RBA is anticipating, which is also why we see the need for more rate cuts in Australia.

Good summary, Diana, thanks.

DM: Thank you, Alan, as always.

[Music]

And now for an update on politics, here’s Malcolm Farr, the National Political Editor for News.com.au. Malcolm, there doesn’t seem to be much going on in politics, am I missing something?

MF: No, I don’t think so. There hasn’t been much going on since – and let me just stick a pin in the cow – since roughly May 18. The Morrison Government came in with a tax package and the stage of which was passed, and then there’s nothing but the sound of crickets. There’s been lots of movement in the policy area, mainly sending them back to the repair shop to be fixed. This hasn’t been a matter of routine checks, this has been a matter of major overhauls, everything from aged care to having another look at superannuation, the ACCC looking at water policy. It’s hard to believe that the Coalition’s been in office – it will be six years come September 18 – and it has to do all these fix-up jobs on policies over which it has had total domain.

You can’t blame Labor for these things, as much as the Prime Minister likes doing occasionally. Nothing much has happened because Scott Morrison had nothing more than his tax cuts from the last budget and since the election he’s simply being motoring through a whole series of skirmishes, ‘spot fires’ as former Royal Commissioner Kenneth Hayne put it in a speech in July.

I suppose it tells us that we really haven’t had the same government, or the Coalition hasn’t been in government for six years, we’ve had three different governments during that time.

MF: Well, yes, except you’ve got to remember that Scott Morrison, the current Prime Minister, was in cabinet for all those six years or will have been, and he was Treasurer or Prime Minister for four of the six years. That means he’s been more than just an idle spectator, he’s been right in the engine room. He’s been there where the decisions are made and the actions are ordered. For him to turn up as Prime Minister and have very little to offer but tax cuts down the road and a bunch of platitudes is – well, there are worse things, but it’s not exactly a can-do government at the moment, is it?

I suppose the other thing that’s going on is a lot of our politics are being overshadowed by what’s going on in Hong Kong and also the stoush between the US and China.

MF: Yes, indeed. It’s interesting that way back in May last year, where Scott Morrison presided over his last budget as Treasurer, there was a passage in Treasury Advisory in the budget papers warning about global movements on monetary funds, possible – I forget the terminology used – but policy military flare-ups in the Middle East, the Persian Gulf, and also increasing protectionism from which we can see a full taste of the China-US trade wars. These are going to affect our economy, there’s nothing much we can do about it. As far as China goes itself, there’s been some interesting movements within the Government. Andrew Hastie, as you would know, did an ‘op-ed’ for the Fairfax, or it used to be Fairfax Newspapers.

He was quite measured. He didn’t compare China to Nazi Germany, he was making a point about complacency. Now, you can disagree with what Hastie wrote, but it was measured and some strong arguments presented. What then followed was Simon Birmingham and to a degree, the Prime Minister, going, ‘Shoosh! Don’t talk about China!’ Telling backbenchers not to speak out about what sort of threat they thought might be coming from Beijing. To me, that was much more alarming than anything Hastie wrote. It seemed to be so, ‘Quick, don’t say anything or they’ll get angry with us and do nasty things to us.’ That was the message I got from Simon Birmingham and the Prime Minister over the last couple of days.

And what do you make of the Prime Minister’s trip to the South Pacific this week? Most of the coverage seems to have focused on his $500 million dollar – what’s been described as some sort of buy-off of them, but it doesn’t seem to have gone down all that well.

MF: No, it hasn’t. I mean, he’s trying to confront the twin evils – not from the same parents of course – but of China and climate change, climate change being literally a matter of life and death for South Pacific Islands and they want Australia to be doing more to reduce carbon emissions. The Prime Minister, I think most people would say correctly, is getting to know the neighbours a lot and he’ll be doing a bit more of that before he goes off to the big kids in the G7 and the trip to Washington. But he can’t just turn up and pretend that he has the answer for everything in the foreign aid package, which is simply a movement of money, it’s not a special allocation for the Pacific Islands. He’s going to be hearing some tough talk from island leaders and, as I say, climate change will figure strongly there.

And finally, how do you think the opposition is travelling? I think they’ve got all their policies in the garage as well, being fixed up, haven’t they?

MF: I think the wreckers yard…

[Laughs]

MF: Is the more accurate analogy there. I think they’re recycling to the news and I don’t think they’re doing much about it, I think they’re just dumping things, ground-fill. It’s interesting to watch, the issues are coming to the opposition rather than the opposition creating them. I mean, they had a bit of fun with Angus Taylor over the sitting weeks, but that didn’t go too far except it was annoying the government. We don’t know what the Labor opposition stands for on tax in specific terms, we know in general terms what it wants. We don’t know exactly what it wants to do on industrial relations, that’ll be coming up soon. A whole stack of issues where it’s sitting back and waiting and one can understand I guess Anthony Albanese’s situation – he doesn’t want to rush into any – be bound to anything in particular, three years away from an election, but I think there are a lot of Labor people who would like a bit more noise coming from the opposition on specific policies.

Thanks, Malcolm.

MF: Pleasure sir, bye.

[Music]

And now to bring us up to date on the NBN, here is Supratim Adhikari, the Technology Editor at The Australian. Supra, you’ve just got back for an NBN briefing, how are they going at their results, what’s it look like?

SA: Well, Alan, on raw numbers, NBN Co is doing better than it ever has. The average revenue per user has edged up by $2 dollars in Fiscal 2019 which is clearly good, it’s moved it from $44 dollars to $46 dollars. The magic number of course for NBN Co is $51 dollars which they need to hit by Fiscal 2022. But look, the numbers are good, the rollout is almost complete, more people are on the NBN now than ever before. The test really is how quickly NBN Co can now become cash flow positive.

What’s magic about $51, explain that?

SA: The $51 dollars ARPU, the average revenue per user, essentially guarantees NBN Co making its financial return that it’s promised to the Government, which is making an internal rate of return of 3.2%. And it really is the key metric which highlights whether NBN Co can truly stand on its own two feet, or will it need at some point even further government subsidy or help from its major shareholder.

I’ve often thought that the 3.2%, even though it’s obviously lower than the stock market returns or what super funds demand is arguably too high because the $51 dollars or the $46 or whatever they’re making now is arguably too high itself because it sort of means that broadband internet is too expensive. What’s your view on all of that?

SA: Broadband in Australia is expensive, there’s no point denying that, and I think what’s happening, as more people migrate from their existing services to NBN services, they are having to pay a little bit extra right now. The ARPU figure however, I think you can rationalise some of that average revenue metric from a perspective that it makes a lot of sense once the NBN rollout is completed. At the moment, NBN Co is hindered by the payments it has to make to Telstra and Optus for the legacy customers, right? Because every time a customer moves from an ADSL service or an HFC cable service onto an NBN service, NBN Co is having to pay Telstra and Optus in some cases as well.

That cost is going to get completely taken out of the picture once the NBN rollout is complete. The revenue metric is also based on consumption, right? Which the idea is that as more applications enter the market, consumers will start looking for higher speed clients. As the consumer more speed and more bandwidth and they move up the higher plans, that average revenue will start to tick upwards even more quickly. There’s also the element of business services that NBN is selling right now and the average revenue on that is much higher. The margins on those business services are much higher than what are sold to consumers. It is possible NBN Co will make back that average revenue per user metric, whether it comes at the cost of the consumers or not remains to be seen because at the end of the day it’s the retail service providers, the telcos, who are going to set the retail prices, not NBN Co.

I suppose the flipside of it is a business that’s earning an internal rate of return of 3.2% is fine if it’s owned by the government, because the government’s cost of funds is, at the moment, below 1% on a 10-year bond yield. But it’s not possible to sell that business unless it’s a fair bit cheaper. No one’s going to buy a business that’s making an internal rate of return of 3.2%, are they?

SA: No, no. Look, pretty much as soon as the rollout is complete, there’s immediately going to be a review of the entire business case. We know that’s already being planned by the Federal Government. A large focus of that will be on the whole pricing model of the NBN, but clearly there’s going to be a focus on how to sell the NBN and whether it can be sold. I suspect it does seem very hard to imagine NBN Co being sold off soon after the rollout is complete, because as you said, I just don’t think it’s a business that’ll be very attractive to buyers. It could well be that NBN Co persists in its current shape for a little while longer, you know, post the rollout, until it really has hit a point where – I think a lot of it will depend as well on the core access technologies being sort of rationalised as well.

Right now we’ve got a mix of very different access technologies which limit service provision. Once that’s perhaps rationalised more towards a more fibre focused access technology, we may see the prospects of NBN Co being a more viable business from a market perspective then.

Do you mean ditching fibre to the node and making it to the curb or even the premise? God forbid!

SA: [Laughs] Well, look, right now as things stand the focus has so much been on actually completing the rollout that there was never any question of, you know, seeing any changes to the access technology footprint. But I would imagine as soon as the rollout is finished, there has to be an immediate focus on starting to move those fibre to the node homes to a better access technology. I think that’s a given. That will start to happen, simply because it won’t be in the best interest of NBN Co as a business to have so many homes on a service which has limitations when it comes to the delivery of high-speed services.

I imagine also having a whole lot of different access technologies makes it more expensive, the whole thing much more complicated and more expensive to run?

SA: It does make it more complicated to run, but at the moment what’s happened is NBN Co has picked, I guess, what you would say is a lesser of the two evils, right? The tension has always been, do we take on the complexity of running multiple access technologies and all the hard work in the back end that’s required for that? Or, do we bite the bullet and do the extensive civil works required to deliver full-fiber to 93% of premises in Australia? And I think a clear decision was made that they would rather avoid the civil works and the costs associated with that and the potential delays associated with that, and opt for the somewhat complex job of making all these access technologies work together.

I mean, of course, one part of this compromise was also clearly not having a ubiquitous service for all Australians. As things stand, some Australians will eventually have a better NBN experience than others purely on the basis of where they live and what access technology they get.

Excellent to talk to you, Supra, as always. Thanks a lot.

SA: My pleasure, Alan. Thank you.

[Music]

Happy Birthday, Maddy Prior, who’s 72 today and she’s the lead singer of Steeleye Span, who I spent many, many hours listening to in my 20s. And here is Gaudete, one of their best songs I reckon and shows off Maddy’s wonderful voice.

[Gaudete plays]

That’s it for this week, have a great week, I’ll talk to you next week.