Originally published by BetaShares
After treading sideways for several months, global equities pushed higher in July despite a further lift in global bond yields and continued strength in the US dollar.
Global equities on a month-end basis have lifted 5% from their end-March low, but remain 1.5% below their end-January high.
The yield on the global bond index finally broke through 2% last month, to reach its highest level since December 2013.
After solid gains earlier this year, the US dollar's ascent has met some resistance around its highs of late 2017.
Overall commodity prices remain flat, reflecting weakness in agriculture and gold prices offset by ongoing strength in oil prices.
International equities were the best performing of our seven core asset classes in July, returning 2.8%.
Strong US and European earnings reports, a thawing in US-EU trade tensions and still relatively benign inflation (and hence bond yields) supported stocks, even though US-China trade tensions persisted.
Australian equities posted the second best return of 1.4%, while gold was the worst performer with a 2.3% loss. Global bond returns were flat, owing to the small lift in yields, while Australian bonds and cash produced positive, though small, returns.
In terms of relative momentum, International equities and Australian property were the two strongest performing asset classes at end-July, while gold and international bonds were the weakest.
US bond yields continued to push higher last month, reflecting ongoing expectations of further Fed rate hikes. That said, US 10-year bond yields still ended the month just below 3%.
Australian yields remained range-bound, with spreads against US interest rates continuing to narrow.
After widening in recent months, global credit spreads narrowed a little last month.
Flat iron ore prices and a slowing in US dollar strength helped the Australian dollar firm slightly over July, ending at US74.24c.
Modelling suggests the Australian dollar is currently around fair value given these fundamentals.
Assuming further weakness in iron ore prices, a stronger US dollar and a continued narrowing in interest rate differentials suggests the Australian dollar should ease further in the months ahead.
Helped by ongoing strength in earnings, US stocks continued their recovery in July –ending almost back at their end-January level.
Indeed, growth in earnings has been so strong that the PE ratio ended July at a reasonable 16.5, compared to 18.1 at end-January –despite the rebound in equity prices.
The drop in the PE ratio, and only modest lift in bond yields, has resulted in the equity-bond yield differential holding at around 3% in recent months. Relative to (current) bond yields, the US equity market remains reasonable value.
Earnings expectations currently suggest 4.1% growth in forward earnings between end-July and end-2018, and further growth of 10.3% over 2019.
Australian equities pushed higher in July, even though forward earnings eased back a little in line with some earnings downgrades.
Indeed, while rising earnings have supported the local market’s rebound in recent months –as in global markets –our market has already pushed beyond its highs of earlier this year thanks to a stronger rebound in PE valuations.
One possible reason is the fact our market has not had to contend with rising bond yields to the same degree as in the US.
In fact, the equity-to-bond yield differential has remained broadly steady in recent months at just under 4%.
That said, the earnings outlook remains not quite as bullish as that evident globally, with around 2% growth in forward earnings expected by end-2018 and a further 4% growth through 2019.
