Economy vs the market

Have a look at the Aussie jobs print from yesterday. +40K jobs, whilst the LFPR (a pro-cyclical measure in our view) lifted by 20bps. That’s all quite healthy.

Wages growth has cooled a touch, arguably a good thing, in that whilst wages may not be the ultimate causal driver of inflation, it would nonetheless be hard to argue that inflation is returning to target if wages are growing at 5%. But the other measures of labour market health, like the ANZ-Indeed job ad series, looks like it mean-reverted to trend, and didn’t overshoot to the downside.

And so, whilst housing looks bad, negative spillovers to the economy writ large do not yet appear observable.

And then look to the US. Absolutely rampant growth happening over there. Look at those PMIs…

We keep oscillating (I say we, meaning asset allocators, market commentators) from saying something like “ahah, these higher rates must be about to kill housing and the consumer” and that’s bad and will be harmful for the economy and thus the stock market, and, saying something like “growth is so strong is it pushing up yields everywhere and the growth factor is overcoming the negative impact of the higher discount rate” for equity markets, and valuations in general.

And the view I’ve come to is that housing is already frozen, and not much likely to go colder. It’s already dead, and there’s not much reason to assume it collapses from here. The only time periods in which housing pushed much lower was stonkingly bad recessions like the GFC, and we are not in that environment, rather the opposite. So that’s housing. Will the consumer roll over? Well, how? Credit growth is good, unemployment is moving lower, job creation is positive, and there’s an AI boom + massive fiscal deficits. How does the consumer kneel over solely due to higher rates?

With Australia, despite writing about the solid jobs numbers above, in my heart of hearts I am still worried about the negative interplay between falling house prices and the consumer. I hear it anecdotally in the company trading updates from discretionary retailers, but I don’t see it (clearly) in the aggregates. And since unemployment is ultimately the final arbiter on the health of the economy, and that looks okay, I can’t get too worried here either.

I do use it (the tension above) to just hand-wavingly say “overweight international, underweight Aus” in a DAA sense, and I think that’s fine. It’s a big world out there.

At the margin there’s some direct equity implications. We have some US exposed names, like ALL or JHX in select sleeves, and it is clear that if the US suddenly did lurch downwards due to rates killing off the consumer, or finishing off housing, then those names would likely suffer. And the bit I’m most convinced of (that it’s almost impossible for the US to have a recession when growth is exploding higher thanks to AI and the deficit) is somewhat independent of rate-sensitive sectors struggling (we could add staples and utilities in there, since they likely to underindex also in a world where bond proxies suffer).

Anyway, I don’t have any clear way to end this note. Expect a strong US jobs print later this month. I’m making the point that the economy is very strong in the US, and whilst maybe it is in an unstable equilibrium locally (i.e., in Aus) we don’t yet have “slam dunk” evidence that the economy is about to fall over. Stock markets are vulnerable because it is very easy to say “yields at 5 or 6 require an ERP of 5 not 4%”, which is the same way of saying “I’ll pay 17-18x at 4% and 14-15x at 5%”. Don’t worry if the numbers don’t align to your personal views there, it’s just the direction that matters. The market could easily sell off 10% due to higher yields even if it means stronger growth simply because the PE compresses to a new number that everyone feels comfortable with. Doesn’t matter if earnings grow in that time. And such volatility is well within the historical norms for stocks.

Bonds

The note above was getting long, so I just split it up a bit. Turning to bonds we see two quite different/divergent views on rates.

Policy is looking more restrictive, since it is above all those natural rates on the right. That’s great! But the ultimate arbiter, the market, says it’s probably still about 50bps below where it needs to be. That’s bad, at least if you are very long duration.