WHAT happens the morning after the mining boom? For the real economy it will be like any hangover, characterised by a splitting headache, dulled taste buds and slow movement. Coming to grips with declining terms of trade (prices we receive for our exports compared with our imports) and slackening demand for capital and labour will be tremendously difficult for policymakers and companies.
If we are not careful, the country could enter its first official recession in 20 years.
For sharemarket investors though, the answers do not lie with the short term but in what the local economy looks like 12 months or even 18 months down the highway. There is no time to sit around popping Panadols while the world moves on.
The sharemarket does not always predict accurately but it will always attempt to predict. One only has to see how investors scurried out of resources stocks from April 2011 on, not prepared to wait for the inevitable downturn that we are now experiencing. How the market guesses right is always a mystery but it is a salient lesson that it pays to look forward and not behind.
So, what does the economy look like 18 months from now and where is the best place for shareholders to position themselves? In the short term it could get quite nasty.
Credit Suisse strategist Atul Lele says: "We could be on the brink of some of the toughest months we have faced for more than a decade. We are lucky to have a lot of policy ammunition they may offset some of this."
He believes the prosperity of the past decade has been largely wasted and he finds it difficult to see what part of the economy is going to take the baton off the mining sector and lead the way.
Lele's arguments are powerful, given Australia has depended heavily through its history on commodity prices and residential building to drive its wealth. The key for sharemarket investors, though, is Lele's comments about the ability of policy to ameliorate the situation. If we put aside international influences for the moment, the key to the post-mining boom era will be the actions of Reserve Bank governor Glenn Stevens. He has read the mining boom like a book. Despite a cacophony of calls to slash interest rates and boost domestic consumption, Stevens and the Reserve Bank board have been more circumspect. He was the first prominent figure to state the Australian terms of trade had peaked (early 2012), and he has been very clear that activity in the mining sector will hit a peak in late 2013 or early 2014. Meanwhile, the economy has been running at about trend and there has been no need to provide further monetary policy stimulus. He has been much more disciplined that his northern hemisphere colleagues.
With commodity prices now in free fall, Stevens will get a firmer grip on the future contribution to the overall economy from the mining boom. In other words, with mining slowing, the shackles will be off, allowing the RBA to loosen policy. Most economists believe the RBA will cut another 25 basis points later this year, while others like Bill Evans at Westpac are looking for a series of cuts.
Stevens will remain cautious and will not move with alacrity.
Fortunately, with official interest rates at 3.75 per cent, the RBA has plenty of room to move. We could easily see 100 basis points of cuts between now and the end of 2013.
What are the consequences of lower official interest rates in 2013?
The positive impacts of lower rates usually take between six months and 12 months to filter through into the economy. However, over time, it should encourage people to stop putting their money into term deposits and start placing them in more productive assets.
Over time, it may also entice individuals to start borrowing at a moderate but improved rate.
At present, Australians are doing a stellar job of getting their finances in order by saving about 10 per cent of their income. By late 2014 or early 2015, this savings level may start to dip.
Lower rates should also encourage industrial companies based in Australia to start borrowing for expansion.
Australian banks have also been in balance-sheet repair mode in recent years, restricting credit in preparation for the introduction of Basel 3 in January 2013. This contraction of the banking balance sheet has been a major handbrake on the domestic economy. But recently there have been mutterings from banks to their corporate customers that they would love to ratchet up their loan books. This is a good sign but will be gentle at first and accelerate in the years to come.
All this adds up to sharemarket investors trying to position themselves in companies to take advantage of an economic upswing in 2014 and 2015.
Traditionally, this would typically be best served by wading into the finance, retail, housing and construction sectors. The sharemarket won't wait though. Investors will move early, as they have done in the past. Initially, the fundamental numbers won't support a surge in these stock prices, but by the time they do, it may be too late. We have just seen this scenario play out in the mining sector.
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Frequently Asked Questions about this Article…
What does the ‘mining boom hangover’ mean for everyday investors in Australia?
The article describes a ‘mining boom hangover’ as a period when declining commodity prices and slackening demand for capital and labour weigh on the economy. For investors this means short-term pain for resource companies, possible weaker growth (even a risk of recession), and a reminder to focus on what the economy and markets are likely to look like 12–18 months ahead rather than reacting to immediate headlines.
How should sharemarket investors position portfolios after the mining boom?
The piece suggests investors should start thinking ahead to the sectors that typically benefit when the economy broadens beyond mining — notably finance, retail, housing and construction. The market often moves early, so everyday investors should research and consider positioning for an upswing in 2014–2015 while keeping time horizons of 12–18 months in mind.
Will the Reserve Bank of Australia (RBA) cut interest rates because of the mining slowdown?
According to the article, RBA governor Glenn Stevens has been cautious but the mining slowdown and falling commodity prices give the bank room to loosen policy. Most economists expected another 25 basis point cut later in the year, some (including analysts like Bill Evans at Westpac) were looking for a series of cuts, and the article suggested up to 100 basis points of cuts by end of 2013—while noting Stevens is likely to move deliberately.
How long does it take for lower official interest rates to help the economy and markets?
The article states that the positive impacts of lower official interest rates usually take between six months and 12 months to filter through into the economy, so investors should expect a lag between rate cuts and stronger consumer or corporate activity.
What are the likely effects of lower interest rates on savers and borrowers?
Lower rates should discourage parking money in term deposits and encourage flows into more productive assets. They may also entice households to borrow at improved rates and encourage industrial companies to take on borrowing for expansion. The article notes Australians were saving about 10% of income and that savings levels might start to dip by late 2014 or early 2015 as borrowing and spending pick up.
How have banks and Basel III influenced credit availability during the post-mining transition?
Banks had been repairing balance sheets ahead of Basel III (introduced January 2013), which restricted credit and acted as a handbrake on the economy. The article reports recent signs that banks are signalling a desire to increase lending to corporate customers, but any lift in credit is likely to be gradual at first and ramp up over the following years.
What do market strategists say about the timing and severity of the slowdown after the mining boom?
Credit Suisse strategist Atul Lele warned the country could face some of the toughest months in over a decade and questioned which part of the economy could fully replace mining-led growth. The article conveys that while the short term could get 'quite nasty', policy tools remain to help offset some of the slowdown.
Should investors sell resource stocks immediately or wait it out?
The article highlights that investors fled resource stocks from April 2011 rather than waiting for the downturn to play out, and it emphasizes that the sharemarket looks forward. The takeaway for everyday investors is to avoid knee-jerk decisions based solely on short-term moves and instead consider where the economy and corporate earnings are likely to be 12–18 months ahead before making major portfolio changes.
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