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Economic and Market Update - Big Sky Financial Solutions

Quartely Economic & Market Update



The two big news events that happened early on in the quarter were the G20 conference in Korea and the ongoing discussions at the US Federal Reserve of the merits of a further round of quantitative easing (the purchase of treasury securities).

The main topic of conversation at the G20 conference was currency valuation. Since the global recovery in 2009 many countries have been focused on keeping their currency competitive (i.e. cheaper). In more recent times the Bank of Japan intervened in the dollar/yen market to halt a strong appreciation and the US has become more vocal in their belief that the Chinese yuan is under - valued. Unfortunately, at the conclusion of the summit nothing constructive was decided with regards to currencies. This issue looks certain to continue to be a significant economic and political issue in 2011.

Post the summit the focus turned to quantitative easing (QE2) with the main question being not a question of if, but how much. Around the middle of the quarter the US Federal Reserve (Fed) officially announced its second round of quantitative easing (QE). The Fed will be undertaking a US$600 billion treasury purchase program through to June 2011 and most economists seem divided on the potential success of the program and so debate is likely to continue into 2011 Ireland accepted a bailout package from the IMF and EU (with UK and Sweden also contributing) worth €85 billion. The bailout package allows Irish banks to be immediately recapitalised and gives the Irish government until 2015 to reduce its budget deficit position below 3%. Once this package was announced the focus shifted to the next country in need of a bailout and the European debt situation remains a critical headwind for financial markets.

During the early part of the quarter China released its 3rd quarter economic data which showed annual growth had slowed, reflecting a moderation in the export sector and domestic manufacturing. Despite the decline, most experts feel that the rate of growth is still above target and the People’s Bank of China responded by raising interest rates to limit the inflation threat. Much of this is due to rising food and commodity costs, but the concern is it will become ingrained into the general level of prices. Chinese officials are likely to continue to tighten policies further in 2011 through interest rate rises and lending restrictions. Investors globally are concerned about the ability of Chinese authorities to slow the economy without overdoing it, which is adding to volatility in financial markets.

As the quarter ended, US GDP looked set to return to its peak of late 2007, however with 7.4 million fewer jobs.


In Australia, expectations of a rate rise by the Reserve Bank of Australia (RBA) rose through October due to concerns that current growth rates would lead to capacity constraints and future above trend price rises. However these concerns moderated on the release of inflation data which showed only a modest pace of growth in prices in Australia. Other data released also highlighted a mixed Australian economy with the 3rd quarter GDP data release highlighting that the economy entered a soft patch growing by less
than consensus forecasts for the quarter and that the annual rate of growth had also slowed.

3mth
1yr
3yr
Australian Shares
4.65%
1.90%
-5.04%
International Shares (in local currency terms)
8.61%
10.99%
-4.80%
International Shares (in Australian dollar terms)
2.98%
-1.52%
-9.29%
Australian Listed Property
-1.17%
-0.68%
-21.36%
International Listed Property (hedged to Australian dollars)
6.78%
22.54%
-5.33%
Australian Fixed Interest
-0.19%
6.04%
7.43%
Australian Cash
1.24%
4.66%
5.23%
International Fixed Interest (hedged to Australian dollars)
-0.48%
9.28%
8.84%

Source: Bloomberg, Morningstar, Perennial Investment Partners

Australian Shares - S&P/ASX300 Accumulation lndex, International Shares (in local currency terms) - MSCI AC World Daily TR Gross ex Australia (Local), International Shares (in Australian dollar terms) - MSCI AC World Daily TR Gross ex Australia (AUD), Australian Listed Property - S&P/ASX300 Property Accumulation Index, International Listed Property (hedged to Australian dollars) – UBS Global Real Estate Investor Index, Australian Fixed Interest - UBS Australia Composite Bond Index, Australian Cash - UBS Australia Bank Bill Index, International Fixed Interest (hedged to Australian dollars) - BarCap Global Aggregate TR Hdg AUD.

Australian Shares


The Australian market continued its positive run in the December quarter as the calendar year came to a close. Commodity prices continued to rise as the year drew to a close and both resource
companies and small / midcap companies generated strong returns. The Australian share market rose +4.65% in the December quarter, recovering from the sell off earlier in the year and returning to positive territory over the last 12 months. The best performing sectors over the quarter were Materials (+13.3%) reflecting the strength in commodity prices, Health (+8.3%) and Information Technology (+8.0%), while Consumer Staples (-5.1%) and Consumer Discretionary (-2.4%) both ended the quarter down. For the 12 months ending December 2010 the Australian share market was one of the poorer performing global markets, only returning 1.90%.

International Shares


Again, as per the September quarter, international shares were all about whether or not you hedged the currency. In local currency terms the MSCI World ex-Australia (total return) rose by +8.61%, but in Australian dollar terms it rose by only +2.98%. The US S&P500 (+10.2%), the German DAX (+11.0%) and China’s Citic 100 (+5.7%) were all stronger, while the Italian market (-1.6%) was one of the few markets to fall for the quarter. The majority of global share markets ended the year in positive territory due to encouraging news regarding the US economy which helped to reduce the impact of lingering European domestic debt concerns.

Property


The Australian listed property sector returned -1.17% for the quarter, under performing the broader market in December particularly as risk appetites returned leaving the now more conservative property sector behind. The global property index was strong, returning +6.0% for the quarter (hedged to Australian dollars). In local currency terms Europe (+8.0%) was strongest, followed by the Americas (+4.5%), then Asia (+3.3%).

Fixed Interest


Government bond yields reversed their previous downward trend to rise over the course of the 4th quarter of 2010 even as central banks raised the prospect of further easing. US bonds, in particular, sold off sharply in December after President Obama proposed a deal to extend tax cuts that would support economic growth but raise national debt levels in the longer term. The RBA surprised markets by raising the cash rate 25 basis points to 4.75% in November. Financial markets had come to expect the RBA would again leave monetary settings unchanged in November following lower inflation data for the 3rd quarter and the fact that they left rates on hold in October. The November RBA minutes released in the middle of November revealed that the decision to raise rates was relatively close. Returns from Australian fixed interest in the December quarter were -0.19% and from international fixed interest were -0.48% (hedged terms). The spread between Australian and US 10 year government bonds contracted over the quarter.


Alternatives


The performance of gold bullion was driven by which currency it is denominated in. It rose by 8.6% in US dollar terms for the quarter, but only by 2.6% in Australian dollar terms. The US dollar price rose strongly over the quarter, albeit with some volatility, before finishing the quarter up +8.5%. Crude oil also rose strongly ending the quarter up +14.3% (in US dollar terms) and the broader Dow Jones UBS Commodity index rose +15.8%. Hedge funds performed well with the HFRI Fund Weighted Composite Index returning +5.5%, and +10.42% for the year.

General Advice Warning. This publication contains general advice only and does not consider any particular person’s investment objectives, financial situation or needs. Accordingly no recommendation (express or implied) or other information should be acted on without considering the appropriateness of that information having regard to those factors. A representative of Big Sky Financial Solutions can provide specific advice on these issues.

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