THE DISTILLERY: Market targets

Jotters home in on the disparities between a thriving Dow and a lagging ASX.

With the Dow Jones hitting all-time highs and the ASX200 doing nothing of the sort, many are wondering what exactly is going on aside from central banks printing money and flipping the developed world upside down. In this morning’s edition of The Distillery the disconnection between Australia's relative economic strength and its sharemarket against the Dow Jones' rapid rise, despite all America's problems, gets further analysis. Also, there's a close examination of the broader Australian economy, with yesterday’s GDP numbers centre stage.

Firstly, Fairfax’s Malcolm Maiden delivers this terrifically insightful piece into the disparity between the Australian and US markets by running through the basic things markets respond to.

His initial argument is simply that "they’re better than us for a market that thinks short-term". On the grounds of productivity growth, intellectual property, borrowing costs and the shale gas revolution, the US is on the up while Australia’s mining construction boom peaks.

That’s if you think short-term and ignore America’s serious structural issues. Those chickens will come home to roost. But for now, our market is also more expensive than theirs anyway.

"The Dow Jones Industrial Average, which hit new highs on Tuesday night US time, is valued at about 12.5 times expected earnings in the next year. The S&P index of 500 top US shares is 1.6 per cent below its high and valued at 13.6 times expected earnings. Our S&P/ASX 200 is trading at 14.5 times expected earnings. While the resources boom was raging, cracks in the industrial economy were being papered over. Now the boom has cooled. Commodity prices have eased, mining profits and mining company share prices have fallen and as interest rates and the Australian dollar remain relatively high, pressure on the industrial sector continues. Earnings growth has been outpaced by share price rises and our market has moved to a price-earnings premium.”

Yesterday morning, Business Spectator's editor-in-chief Alan Kohler gave a broader analysis of this disconnect that included the behaviour of the Shanghai Composite, the Nikkei, as well as the gold and bond markets. If you read Maiden and Kohler and this phenomenon, you’ll be well served.

The Australian’s economics correspondent Adam Creighton is similarly unconvinced by the surging Dow Jones index, with the US jobs rate higher than any time between the recession of the 1980s and the start of the financial crisis.

"Moreover, the prospect of a catastrophic US government default still looms, as the gigantic gap between US government revenues and expenditures continues to grow with little sign congress has the will to bridge it. The much-feared but timid sequester, which began last week, saved barely 2 per cent of US government recurrent spending.”

The Distillery thinks the essence of what Creighton is saying there is that the US budget deficit – the "gigantic gap” between revenue and spending – is structural and Washington has shirked its responsibility to address it.

However, the gap isn’t growing, the US budget deficit is coming down, some experts say dangerous fast. So fast it could be contributing to America’s stubbornly unimpressive growth figures.

Meanwhile, back at home The Australian Financial Review’s economics editor Alan Mitchell and the Herald Sun’s Terry McCrann are in agreement that yesterday’s GDP numbers vindicate the Reserve Bank’s recent interest rate strategy. McCrann has a nice way of putting it that they were good, but just ugly enough as well.

"It was interesting that our GDP numbers surfaced on the same day that the Dow Jones index finally regained its 2007 peak – although not the broader S&P 500, which has a bit to go. Because the dynamics that have sent Wall St soaring, are part of the mosaic the RBA has been responding to – especially as in how those dynamics play out in the GDP numbers and impact the Australian economy. The economy grew slightly slower through 2012 than the RBA had forecast as recently as last month. Which, if you weren’t concentrating, was made one month after the year had finished.”

The Australian Financial Review’s David Bassanese, often a voice of reason when the consensus goes AWOL – something The Distillery lauds him for – simply can’t help but agree that yesterday’s numbers were "not too hot, not too cold".

"There’s often a large confirmation bias, where economists focus on those bits of the report that support their pre-existing beliefs. The December quarter results are no exception, with some economists celebrating the 0.6 per cent growth in national output last quarter as a confirmation that our ‘goldilocks’ economy is alive and well: it is running neither too hot nor too cold, they argue, with close to trend growth of 3.1 per cent over the year. At the risk of falling for the very same confirmation bias, I don’t see too much worth celebrating in the latest set of national accounts.”

Sticking with economics, The Australian’s economics editor David Uren explains that the contentious 457 working visas aren’t a mechanism designed to take Aussie jobs and give them to foreign workers. They’re there to import labour when there’s a labour shortage in Australia and act as a release valve that helps keep inflation down.

Meanwhile, The Age’s Michael West is taken by an article written by The Australian Financial Review’s Christopher Joye about the $380 billion Committed Liquidity Facility that the Reserve Bank of Australia has set up for banks in 2015.

Basically, the Reserve Bank says it’s for banks that are facing a liquidity crunch, but are not insolvent. The trouble is, the bank’s definition of these states is unconvincing to say the least and the bailout fund seriously favours the big four, just like existing arrangements – probably reflecting more than their size would justify.

In company news, The Australian Financial Review’s Chanticleer columnist Tony Boyd says the huge cash position that Mesoblast chief executive Silviu Itescu has built up through the $170 million institutional issue might look like lazy balance sheet work.

However, biopharmaceuticals is a cash-burning industry and Australia’s industry is littered with promising developers who ran out of it before getting that elusive licensing agreement. Once you’ve got that, you’re away.

Itescu currently has three clinical priorities on the go and he’s packing away the cash.

The Australian’s John Durie says it’s a new world for Nufarm, with former suitor Sinochem picking up the contract from Monsanto to distribute Roundup.

Fairfax’s Elizabeth Knight runs us through the supermarket industry's new Food and Grocery Code – Statement of Principles and Guidelines which is a wishy-washy document of feel-good promises that could be transformed into legally enforceable practices.

"This is when the fight really gets going. Notable in the detail of these guidelines on dealing with other members of the supply chain are ‘never using language that suggests you are punishing, taking advantage of a suppliers’ weakness or bullying a supplier to achieve a particular outcome’ and ‘not threatening harsh outcomes such as removing product without consideration for fair process with the supplier’. These are worthy of mention because they are just the kind of behaviours that Sims suggests he has identified in discussions with suppliers on an anonymous basis.”

And finally, The Australian’s Asia Pacific editor Rowan Callick laments that the Australia in the Asian Century white paper reads more like a historical document than a national agenda just one month after its release.


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