Navigating volatile markets

Since the onset of the pandemic, the Australian Government has deployed a number of stimulus measures to kick-start the economy. In coming months, however, these measures could be wound down—but is it really likely that the domestic economy will grind to a halt?

How will fading stimulus affect the domestic economic recovery?

According to David Pace, Portfolio Manager at Greencape Capital, Australia has a build-up of stimulus in the system, thanks to the JobKeeper program. How the economy responds once this stimulus ends will be key. 

“While there was instant gratification in terms of the economic response, which will likely compound once borders re-open, a recession still looms. The best-case scenario is a U-shaped recovery, but there are quite a number of businesses that will go to the wall before we get through that.”

Pace believes that clarification is still needed on how much is genuine demand with follow-through, as opposed to pent-up demand as a result of the shutdowns in March and April. He notes that in the US, as the economy has re-opened, the resurgence in housing demand has been profound and it has taken everybody by surprise. Scott Haslem, Chief Investment Officer at Crestone Wealth Management noted the strong multiplier effect that comes from housing activity in economies and that, in Australia’s case, this could feed through and support other parts of the economy.

What are the key risks and challenges facing Australia?

Jay Sivapalan, Head of Australian Fixed Interest at Janus Henderson Investors, believes the domestic economy was not necessarily broken to begin with. “We had 29 years of continuous growth. When you have that long period of economic growth, you typically get some excesses building up. In Australia’s case, the risks were clearly around household debt. However, many of the steps that were taken by APRA and the banks over the last five years—a tightening of lending standards, a focus on serviceability— have helped to the extent that when you get a left-field shock like this you can work through it appropriately. Additionally, we have strong capital levels by historical and global standards. Today, banks are two thirds funded by deposits, as opposed to one third when they were heading into the GFC.”

Sivapalan highlighted a key difference between Australia and the US was the slack in the jobs market heading into the crisis. Unemployment in the US (at a 50-year low) prior to the crisis was a particular strength. He feels that, domestically, we are contending with slower moving challenges, such as the use of technology in the transition to online consumption, and the way we do business, as well as the effects of the 2019 bushfires. However, unlike offshore, there was significant capacity for monetary stimulus and lower bond yields have led to a significant drop in funding costs. “We’ll have to contend with the pace of permanent disruption, the reorganisation of the economy and acceleration of tech trends—all the while working through a default cycle during this recession.”

Sivapalan believes that further stimulus is highly likely and necessary to the sectors hardest hit. He feels the recovery will likely be uneven because the shock was uneven. There has been a serious dent to the economy and we will need to work through that. So, when it comes to retracing growth, he expects it will not be until late 2022 before we fully recover.

The Crestone view: Falling virus case trends, the prospect of additional fiscal and monetary stimulus, and the ongoing recovery in China and the global economy are underpinning some improvement in Australia’s economic outlook. 

What does this mean for Equities?