For the past month or so, the tension on global financial markets surrounding Europe’s financial predicament has gradually been easing. A growing sense that European policy makers may just be able to muddle through the maze of debt minefields,  and hence avoid a global banking crisis,  has helped restore relative calm, even though logic says that Greece,  and possibly several other Eurozone members, still simply cannot avoid default in the longer term. The Euro 130 billion rescue package announced in late February has been a catalyst for this relief.

For Greece, there are still two fundamental issues that shatter the illusion of a lasting stability.  First, even with private investors in Greek government bonds being strong-armed into accepting losses in the vicinity of 70%, it is simply not enough to lift the country out of the debt danger zone.  Even after these private sector investors write down the value of their loans, Greece will still be saddled with a debt to gross domestic product ratio of around 120%, a wildly dangerous level in a country accustomed to tax avoidance on a grand scale and monumental inefficiencies.    

Secondly, while Greece certainly needs fundamental economic restructuring, the even harsher austerity packages foisted upon it will only serve to deepen the country’s recession.  Simple math dictates that if the economy is going backwards, then the debt to GDP ratio will continue to deteriorate. Add into the equation onerous interest rates and a budget deficit and there is no denying that, with a shrinking economy, the debt to GDP ratio will continue to deteriorate. After all, Greece has already been in recession for five years.

Billionaire investor George Soros predicts weak growth and lingering political tension could still shatter Europe’s economic union, even if Greece does fully implement its current austerity measures. He maintains that the EU, and particularly the heavily-indebted countries within the EU, could face a lost decade, or longer, of growth, as Japan did after its real estate boom and banking crisis gave it nil growth for the last 25 years.

The alternative – a default that sees Greece exit the EU and the euro, refloat the drachma as its currency and then roughly double its international price competitiveness in industries including tourism as the value of the revived currency is set at about half that of the euro …  may yet surface, even before the April Greek election campaign.  In late February, Standard & Poor’s cut Greece’s credit rating further to SD, or “selective default”.

On the plus side, the single currency bloc got a small boost from Beijing in February when China’s top central banker said his country would assist Europe by continuing to buy its debt. Also, for the second time, the European Central Bank (ECB) used its Long Term Refinancing Operations (LTRO) to inject nearly Euro 530 million of cheap money into the European banking system to shore up its banking system.

USA

From a low base, US existing home sales increased 4.3% in January to a 20-month high.  However, new home sales were 321,000, slightly lower than the December reading and still indicative of subdued activity levels in the US housing market, the weak spot for the economy. Three straight months of faster job growth along with a mini stock market rally since late 2011 are helping to keep Americans optimistic in the face of rising petrol prices.   The Dallas Fed manufacturing activity index jumped to a 15-month high in January. Most of the other regional manufacturing indices have improved in February. The US stock market has risen over 8% in 2012 so far. In early March, a leading US consumer confidence indicator jumped to a 12-month high for the series and the fourth quarter GDP annualised growth number was revised upwards from 2.8% to 3.0%.

China

In a somewhat unexpected easing of policy, China in late February decreased its banks’ reserve requirements by half a percentage point to add liquidity to the banking system and boost its lending capacity after a slew of weak data. It is the second time authorities have relaxed loan curbs since hitting the brakes last year to cool property speculation.  Average home prices fell for a fourth month in a row in January. Power generation and infrastructure investment, as well as property, all contracted more deeply than expected in January.  China’s factory sector grew more than expected in February as export orders expanded for the first time in four months – the official purchasing managers’ index (PMI) rose to 51.0, higher than the 50.5 reading in January.

China has now lowered its economic growth target from 8% pa to 7.5% pa, suggesting that leaders will tolerate a slower expansion in the next few years as they try to reduce their reliance on growth from exports in favour of higher local consumption. They also aim for inflation of about 4%. 

New Zealand

The forecast profile of the New Zealand economy over the year ahead is one of moderate growth. In particular, despite some signs of a modest recovery in housing market activity, consumption spending is likely to remain reasonably subdued as households continue to consolidate their balance sheets.   

Nevertheless, the pace of activity is expected to build modest momentum over the year ahead supported by positive trading partner growth, strong commodity prices, low interest rates and the stimulatory impact of the Canterbury earthquake rebuild.

Australia

Official interest rates have been steady now at 4.25% for several months.

The economy is being hit by two strong but opposing forces:  the expansionary effect of the mining construction boom and, against that, the contractionary effect of the current high exchange rate, which has reduced the international price competitiveness of the export and import-competing industries. Also, retail and property markets are currently under pressure.

At present, the two conflicting forces are roughly offsetting each other,  leaving the economy to travel near its trend rate but, should it become clear that the exchange rate was doing more restricting than the mining boom was doing expanding, evidenced by slowly but steadily rising unemployment, the Reserve Bank of Australia will most likely cut rates further.

Summary

Central banks in the major economies are continuing to depress interest rates as their main tool to revive their economies from recession and depression. In many countries like the US, Japan and Britain, after inflation is taken into account, real interest rates are therefore negative. This means that the risk-reward ratio for holding bonds is badly skewed, and bonds can be relatively unattractive investments. The same is true for cash.

Effectively, a country’s overall debt burden is gradually being reduced by delivering very poor returns to its nation’s savers.   

By comparison, shares look cheap. Existing dividend yields are often higher than bond yields, while shares also offer the prospect of future income growth too. Since shares are a claim on corporate revenues, they should ultimately be a good, long term hedge against inflation. Property and listed property trusts have similar features to shares.

If the prospects seem difficult for some savers, there is also some good news.  There are many countries where real interest rates are still positive and growth prospects are better than, say, in the US and UK. There may be greater risks in the former places, but they need to be set against the certainty that rich-world central banks are trying to make their own savers lose out.  New Zealand and Australia are relatively well placed by comparison. 

Information supplied by JMIS Ltd, Independent Investment Consultant to Select Wealth Management.

The above article is a class service and is not personalised advice. If more information on how this may affect you please contact Peter. Peter’s disclosure statement is available free of charge upon request.

Summary

The outlook for world share markets were boosted by improved prospects of the Greek debt package getting passed, better economic news out of the US and ongoing growth in the emerging markets. While plenty of risks remain, improved investor confidence is a positive for growth assets like shares. Despite improved confidence interest rates globally continue to stay at low levels.

Improving investor sentiment has flowed through to currencies like New Zealand & Australia which tend to benefit when financial market conditions are more settled.

New Zealand interest rates

The outlook for local interest rates remain tied to global developments. While it is possible that rates remain at low levels for some time, a more likely outcome is that global rates will gradually rise taking New Zealand with them. The BNZ economic team expects the Reserve Bank to raise the Official Cash Rate in early 2013 with a risk that rates rise faster than the market expects over 2013.

Global interest rates

The Greek debt crisis had been the main driver of the international fixed interest markets. Markets have become more optimistic about an orderly restructure of Greek debt. Fears of a wider Eurozone crisis have diminished with falling Spanish and Italian 10 year rates and Ireland’s borrowing costs falling substantially, although concern remains over the Portuguese debt outlook. This improved sentiment has meant that the previous pattern in worried markets of strong returns from high quality safe haven investments and poor returns from riskier debt have reserved so far this year.

Listed Property

Listed property has served a handy defensive as non-property New Zealand shares have been unable to get back over their pre-European debt crisis levels the property sector is up around 2% on it pre-crisis levels.

The Australian listed property sector did modestly better than the wider Aussie share market over the month up by 1.6%.

The UBS Global Listed Property Index was up 1.1% in New Zealand dollar terms with strong performance from Asia and the US, while Europe given its growth prospects as might be imagined, lagged behind.

New Zealand & Australian shares

The NZ50 Index gained 0.80% over the month, although a better description would be that the Kiwi share market has essentially traded sideways over the last 6 months with no real clear trend.

The Aussie share market (S&P/ASX 200 index) gained 1.5% over the month. There was not a lot of difference between the sectors although the resources sector was a clear underperformer. Unlike wider world share markets that have recovered the lost ground after the Eurozone crisis the Aussie market is still

some way below the 4500 level it was trading at before the Eurozone crisis blew up in August last year, with the mining stocks even further way from pre Eurozone levels.

International shares

World shares had a good month in February with the MSCI Index up 2.8% in New Zealand dollar terms largely driven by improving investor sentiment and good economic data. The major developed economy markets were led by Japan and Germany. European shares as a whole were up 4.3% while the Japanese market was up 11.5% (in their local currency). In the US the S&P 500 index gained 3.1%. The MCSI Emerging Markets Index was up 4.4% with especially strong performance from India offset by a lagging Chinese market.

This article is a class service and not personalised financial advice. If more information on how this may affect you please contact Peter. Peter’s disclosure statement is available free of charge upon request.

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In the latest survey of 10,000 licensed real estate agents nationwide 43 per cent said there were more first-home buyers entering the market. In last month’s survey 49 per cent said the same.

BNZ chief economist Tony Alexander said: “A lot of these people have been holding off their home purchase for up to four years.

I think most people do expect house prices will rise and they can see it. These people are, I think, wanting to get on with their lives.”

 © Fairfax NZ News

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But Westpac says it still thinks an extended series of interest rate rises will be needed to rein in domestic inflation, arising from the Canterbury rebuild, even in the face of a strong exchange rate.

As widely expected, the Reserve Bank left the official cash rate (OCR) steady at 2.5 per cent this morning, but said the high value of the New Zealand dollar is hurting exporters.

Stepping up the concern about a strong currency, Reserve Bank governor Dr Alan Bollard said that sustained strength in the New Zealand dollar would keep inflation down and reduce the need for future OCR increases.

The kiwi dollar has risen almost 7 per cent since December, measured against a basket of our trading partner currencies, while export commodity prices tracked sideways, the Reserve Bank said.

“Given the medium term outlook for inflation, it remains prudent to hold the official cash rate at 2.5 per cent,” Bollard said, in a sign that the central bank is willing to keep rates on hold for longer.

ASB Bank chief economist Nick Tuffley said the Reserve Bank put a lot of weight on the high kiwi dampening inflation, in part in an effort to “talk the dollar down”.

“The Reserve Bank is clearly frustrated by the strength of the New Zealand dollar,” Tuffley said. “The tone of the statement is clearly aimed at trying to bring the New Zealand dollar down to a lower level.”

ASB also expected the first rate rise in December, but has now spaced out further rises, every three months rather than at six-weekly intervals.  The cash rate was still likely to peak at 4 per cent, even though the Reserve Bank’s own forecasts imply a peak of 3.25 per cent to 3.5 per cent, ASB said.

The cash rate has been at 2.5 per cent for the past year. The central bank’s projection for 90-day interest rates is on a much more gradual path than it expected in December, rising from 2.8 per cent to 3 per cent by the end of this year and just 3.3 per cent by the end of next year.

Inflation had settled near the middle of the central bank’s target range and inflation expectations had fallen, Bollard said.

The domestic economy was showing signs of recovery.

Household spending appeared to be picking up in the past few months and there seemed to be a recovery in building activity. The building recovery would gain strength later this year as work picked up in Canterbury after last year’s quakes.

High export prices were also helping support a recovery in domestic activity.

Global confidence had improved and while that was “encouraging”, Bollard said financial market sentiment was still fragile and there were still risks for the global outlook.

The easing in global monetary policy and a rising appetite for risk had seen a “marked appreciation” in the New Zealand dollar.

“While helping contain inflation, the high dollar is detrimental to the tradeable sector, undermines GDP growth and inhibits rebalancing in the economy,” Bollard said.

“Sustained strength in the New Zealand dollar would reduce the need for future increases in the OCR.”

The Reserve Bank said the risk of a significant worsening in the global economy had eased since the December Monetary Policy statement.

Earlier fears that the European sovereign debt crisis would badly affect the New Zealand economy had eased after action by central banks in Europe.

The Reserve Bank’s projections show quarterly economic growth of 0.6 for both the December 2011 and March 2012 quarters, picking up gradually to 1 per cent in the December quarter this year.

The projections also show annual inflation tracking well under 2 per cent this year and at 1.5 per cent by March 2013.

The projections also assume a modest fall in the New Zealand dollar over the next few years. If that did not happen the bank would see less need to raise the official cash rate through that time. The trade-weighted index is projected to fall from 72.5 now to 71.2 by March next year.

- © Fairfax NZ News

www.stuff.co.nz

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