Australian share markets were weak during May down 2.75% (ASX 200) whilst International Markets rose 2.58% (MSCI $Au)

US data was mostly good with the highlight being a rise in the overall business conditions Purchasing Managers’ Index for May pointing to reasonable growth. Meanwhile home sales fell, but home prices continued to rise and March quarter gross domestic product growth was revised to 1.2% annualised from 0.7%. The main dampeners were weaker than expected trade, inventory and durable goods data. The minutes from the last Federal Reserve meeting confirmed that it is likely to hike rates again in June and looks to be on track to start running down its balance sheet (i.e. reversing quantitative easing) from later this year by letting a gradual amount of maturing bonds roll off each month. Rate hikes and balance sheet reduction all remain conditional on the economy continuing to behave though.

Eurozone business conditions Purchasing Managers’ Index data remained very strong in April and business confidence rose in Germany and France which is all consistent with strengthening growth in Europe.

Japanese headline inflation rose slightly in April, but with core inflation still zero, the Bank of Japan is set to continue quantitative easing and maintain its zero per cent 10-year bond yield policy for a long time.

Australian March quarter construction data fell, adding to the downside risks to March quarter gross domestic product growth.
 However, it’s not all bad as the 4.7% slump in residential construction looks temporary and likely to reverse in the current quarter as the impact of Cyclone Debbie drops out and the huge pipeline of work yet to be completed kicks in, public construction is up strongly reflecting state infrastructure activity and December quarter construction activity was revised up significantly.

Weak March quarter construction activity along with very weak retail sales and a likely growth detraction from net exports highlights that absent an upside surprise in public spending, equipment investment or inventories, March quarter gross domestic product growth looks likely to be near zero with the risk of another contraction.
 Reflecting this along with ongoing softness in underlying inflationary pressures, there is far more risk of another Reserve Bank of Australia rate cut by year-end than of a rate hike.

The latest Australian bank rating downgrades tell us nothing new but the drip feed of negative news around the property market in Sydney and Melbourne is continuing to mount:
 surging unit supply, bank rate hikes, tightening lending standards, reduced property investor tax deductions, ever tighter restrictions around foreign buyers, etc. Our view remains that home price growth has peaked in Sydney and Melbourne and that price declines lie ahead, particularly for units. The extent of the unit construction boom in Sydney is highlighted by the residential crane count which has increased from just 62 in September 2014 to 292 in March.

Much of the relative underperformance of the Australian share market versus global shares since 2009 - which reflected relatively tighter monetary policy in Australia, the commodity slump, the lagged impact of the rise in the Australian dollar above parity and a mean reversion of the 2000 to 2009 outperformance - has been reversed. However, the Australian share market looks likely to continue underperforming going forward reflecting weaker growth prospects in Australia. The economy looks like it may have stalled again in the March quarter with the housing cycle peaking and turning down, constraints on consumer spending, ( high debt, higher bank lending rates, slowing wealth affects, rising energy costs, record low wages growth and high underemployment) risks around the banks and uncertainty around the outlook for bulk commodity prices. We still see the ASX 200 higher by year end, but global shares are likely to do better on both a hedged and particularly unhedged basis.
Shares remain vulnerable to a further short term setback as we are now in a weaker seasonal period for shares with risks around President Trump, North Korea, Chinese growth and the US Federal Reserve’s next rate hike providing potential triggers. However, with valuations remaining reasonable – particularly outside of the US, global monetary conditions remaining easy and profits improving on the back of stronger global growth, we continue to see any pullback in shares as an opportunity to “buy the dips”. Shares are likely to trend higher on a 6-12 month horizon. Cash and bank deposits are likely to continue to provide poor returns, with term deposit rates running around 2.5%.