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Here’s what caused the market downturn

Mark Rider explains that companies’ expectations of lower earnings were a key force in pushing the sharemarket down.

Returns on sharemarket investments were lower in the last three months of 2018 than the rest of the year. That was a result of the ‘correction’ in global markets at the end of 2018.

After the impressive investment returns of 2017, more modest returns in 2018 were to be expected. However, the large correction in late 2018 was driven by downgrades in market expectations of listed companies’ earnings growth, most importantly in the US.

Snapshot of market performance

US shares, which performed strongly for most of 2018 on the back of a buoyant economy and large tax cuts, fell sharply, ending the year down 6.2 per cent. This correction was caused by slower global growth, lower oil prices, the impact of higher rates, a stronger US dollar, and the drag from the trade war and higher tariffs. Given these conditions, the US central bank will likely pause rate hikes at least through the first half of 2019, to give the economy some breathing room.

European growth slowed earlier than the US, due to softer Chinese growth and the impact of trade wars. Brexit issues remain unresolved even as the deadline looms, with Britain scheduled to leave the European Union in March, 2019. The shift in Italian politics has added to debt concerns. And France is dealing with ongoing protests from the gilets jaunes (yellow vests) – a grassroots movement calling for economic justice.

China’s growth has continued to slow and is a significant drag on global growth. US President Donald Trump’s trade war has likely escalated the slowdown. While the Chinese government is now trying to stimulate its economy, the country’s elevated level of debt will likely mean the effect of any stimulus effort will be much more modest than a similar effort in 2015.

In Australia, credit conditions have tightened and house prices have fallen substantially in Sydney and Melbourne, with further falls expected in 2019. We expect economic growth to slow, but remain solid. With the Reserve Bank of Australia putting any interest rate rises on hold, it is the performance of the global economy that remains the key risk to the Australian economy.

The Australian dollar ended the year fractionally above US70¢, which is down 10 per cent from where it was a year ago. The decline in the Aussie reflected weaker Chinese and global growth and the possibility of further US rate hikes throughout 2019. However, reduced expectations for US rate hikes have seen the Australian dollar drift higher.

For the year ahead, ANZ’s Chief Investment Office expects a ‘gradual slowdown’ of global growth, but not a global recession. In this environment we expect shares to generate below-average returns, potentially not a lot better than bond markets.
 

Infographic - Markets at a glance

Markets at a glance

For January to December 2019

Shares

While earnings across most markets remained solid, the last three months of 2018 saw earnings momentum slow across all markets. Global shares finished the year down 7.58% in hedged terms.

US shares
The US sharemarket corrected sharply lower in late 2018 caused by the US-China trade war; higher interest rates on sectors such as housing and cars, and signs that capital goods spending is slowing.

European shares
Lacking the support of the US tax cuts, European shares corrected earlier than the US due to slowdowns in both eurozone business confidence and Chinese growth

Emerging markets
Momentum eased with the central bank of the US tightening, a firmer US dollar, and slower Chinese growth negatively impacting most economies.

Australian shares
Shares were relatively resilient, reflecting support from public spending, business investment and net exports. However, lacklustre wages growth, falling house prices and the financial services royal commission hurt returns.

Fixed interest (Bonds)

With increased concerns about global growth and the large fall in oil prices, sovereign bond markets (bonds issues by governments) found considerable support.

International fixed interest
Weaker economic activity over the latter part of 2018 in conjunction with a large fall in the oil price drove sovereign yields (the interest rates paid on government bonds) lower in late 2018.

Australian fixed interest
This sector produced strong returns in 2018, due to the Reserve Bank of Australia keeping rates on hold, falling house prices and a sharply improved fiscal outlook.

International property/infrastructure
Reflecting the strong support for fixed interest and defensive sectors, international property and infrastructure outperformed in 2018.

Australian dollar/US dollar
The sharp slowdown in global growth pushed the Australian dollar down to around US70¢ over the latter part of 2018. Weaker Chinese growth and concerns regarding the magnitude of rate tightening in the US contributed to the fall.

Source:
JP Morgan & ANZ Wealth. Currency - Bloomberg & ANZ Wealth

Index information:
Global shares - MSCI World ex Australia Net Index (hedged to AUD) | US shares – US S&P 500 | European shares – MSCI Europe | Emerging market shares - MSCI Emerging Markets (Net) in AUD | Australian Shares - S&P / ASX 300 Accumulation | International – fixed interest – Bloomberg Barclays Capital Global Aggregate (hedged to AUD) | Australian fixed interest - Bloomberg AusBond Composite 0+ Yr Index | International property – FTSE EPRA/NAREIT Developed Rental Index ex Australia (hedged) | Infrastructure - FTSE Developed Core infrastructure 50/50 Net Hedged to AUD.

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