The problems in our economy
Two big threats will affect all Australians over time.
Summary: As a cog in the larger global economic engine, Australia will benefit from the momentum being achieved in North America, Europe and Asia. But there are serious localised problems that are cause for concern.
Key take-out: The underlying issues impacting both the retail and housing sectors are too big to be ignored. But, at the moment, it seems that the market is not adequately pricing them in.
As we look around at world markets there is an underlining feeling of wellbeing.
In America growth has increased momentum and, if President Trump were to gain approval for his tax package, the American economy is likely to rise at a much faster rate, probably triggering inflation.
In Europe there is also a lot of momentum, and China continues strong growth. And this overall rise is given further impetus by the investment in lowering pollution (particularly in China) and realigning power generation. This is helping lift demand for high-quality Australian iron ore and commodities such as copper, nickel and lithium, which are the battery triplets.
In addition, global companies are looking at massive reductions in costs as new technologies slash the need for staff. Those technologies are likely to spawn new competitors and they will also transform the profit outlook for many companies.
The companies at the head of this change lead the boom. These are the forces that are really helping world markets at the moment, and miners are amongst the better performers.
The retail tough times roll on
But, in Australia, while we will clearly benefit from these overall thrusts and the construction industry is creating strong momentum, we have a couple of nasty problems that will affect individual companies and the overall economy.
First, there are the difficult times in retail, and the second the fact is that the share market does not appreciate that significant parts of the residential property market are in decline.
The retail problems have been highlighted by the Myer battle, and to some extent that skirmish obscures the underlining industry problems.
Over the last year about two-thirds of our retail stocks have declined and about one-third have risen. The worst performers have included Oroton, Specialty Fashion, Myer and Harvey Norman.
Foreseechange, which conducts statistical analyses and study trends in the business environment, predicted the current decline in retail over a year ago.
It believes the tough times will continue until there is a change in the income scene and /or the marketing by Australian retailers.
The current fall in retail covers food, cafes and restaurants, household goods and clothing, although there has been a slight pick-up in department store retailing. This is one reason why Solomon Lew is pushing so hard at Myer.
This decline is partly caused because consumers are directing their discretionary spending into other areas led by communications. Telstra should be booming, but it has not found a way to capture sufficient profits from the revenue.
In addition, fuel and power have taken a bigger share of consumer spending, and while interest rates have been kept low overall borrowing has increased, so interest bills have tended to lift
Foreseechange says that the biggest single cause for the retail malaise is that in Australia we are experiencing a per capita income recession.
As the chart below shows, household income has continued to slow and, if you adjust for inflation per capita, disposable income is falling below the Consumer Price Index – in other words, it is going down.
We have not experienced an income recession like this, except in times of great economic turmoil.
Fascinatingly, the only area where people are feeling better and have a capacity to spend is in the over 64 age group. Retailers rarely focus on this group. They love to put their energies into marketing to younger people, but those younger people are looking at places other than retail to spend their discretionary dollars.
So, keep your eye out for any retailer that suddenly changes direction and moves to where the people have money – the older age group.
Pricing in property pressure
There was also a lesson this week in the 25 per cent fall in the shares in real estate agent McGrath. We have all been watching a steady decline in clearance rates in Sydney and an easing of prices in many areas. And, as I pointed out at the weekend, when it comes to apartments the Sydney market has collapsed with a 20–25 per cent fall in used apartments. Melbourne and Brisbane have suffered similar used apartment declines.
If you a real estate agent, this is bad news. And yet, when McGrath announced the highly predictable downturn, the market savaged its share price. This tells us that analysts do not understand what is taking place in significant parts of the property market in Australia.
There was no sign of it in the latest bank reports, but in time banks will be affected. What confuses everybody is that within cities there are areas of boom.
I have talked about outer suburban Melbourne, but I spend part of my time living on the Great Ocean Road in Victoria and the houses and the dwellings here are rising in price, with most being sold very quickly. There is no sign of any downturn.
I am sure areas in Sydney are just as insulated. So, what we are looking at is an early warning sign and I regard the fall in the price of McGrath shares as a clear danger sign that the market is not pricing in the end of the housing boom.
The bulls in the market all say that the momentum in the rest of the economy and the major infrastructure projects that are been conducted in both New South Wales and Victoria will contain the impact of the downturn in dwellings.
I am more nervous – partly because I talk with Harry Triguboff, who is aged in his 80s. Triguboff has seen 20 to 25 per cent falls in apartment prices before, but that was a long time ago and young investment analysts have not experienced the dangers that can be created.
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