Saward Dawson > Wealth Advisory Wrap > Monthly View > February 2025
A look back at last month and an outlook for the months ahead
What we liked
- Australian consumer prices rose at the slowest pace in almost four years in the December quarter, opening the door to a cut in interest rates as early as next month. Annual trimmed mean inflation, the RBA’s preferred measure of underlying inflation, fell to 3.2% in December, below market expectations of 3.4%.
- US core CPI annual rate was 3.2%, a notch down from the month before and slightly better than the 3.3% outlook. While still above target, the lower than expected number would provide some encouragement for the US Fed to continue its rate cutting cycle.
- The US unemployment rate edged down to 4.1%, below the expected rate of 4.2%. This occurred as Nonfarm payrolls rose by 256,000, far exceeding the expected 155,000 job creations.
- The rate of UK inflation came in slightly below forecasts for December, providing some relief for the Bank of England to cut interest rates further.
- Chinese retail sales jumped 3.7% from a year earlier in December, exceeding forecasts of a 3.5% increase. While the Chinese consumer has been struggling, this maybe an indicator that recent stimulus is working to improve consumer sentiment.
What we didn’t
- US Retail Sales climbed by 0.4% in December. This figure was lower than November’s 0.8% increase and came in short of market expectations of a 0.6% rise. While a positive number and not a cause of great concern, we maintain a lookout for any weakening of the US consumer.
- China’s Manufacturing Purchasing Managers’ Index (PMI) contracted to 49.1 in January from 50.1 in December. The reading came in below the market forecast of 50.1, highlighting the struggle for Chinese manufacturing at present.
- The UK’s retail sector witnessed an accelerated decrease in annual sales volumes in January 2025 – the fourth consecutive month of decline.
Base Case
Our view of the most likely scenario for markets over the coming months, for which our portfolios are currently positioned.
74% Probability
A cautious view on global growth over the short-term prevails, as global economic data continues to come in mixed. While the US remains the clear economic outperformer over the past few years vs the rest of the world and has recently shown signs of cyclical improvement, we may begin to see other regions show some relative improvement over the coming months. Combined with a more benign inflation environment and more central banks in a rate cutting cycle, we expect risk assets remain well bid with bouts of volatility.
Our view remains that inflation is expected to remain benign in the first half of 2025, although to remain above averages from the past decade. In isolation, this should be supportive for credit markets as well as equities.
The recent announcement of tariffs by the US administration has increased the possibility of headwinds to the US and global economic growth base case outlined above. Fully implemented. tariffs with staying power, while not our base case, would likely see a deterioration in global growth expectations and impair equity prices. We continue to see tariffs as likely but their severity and duration subject to diplomatic negotiations between individual countries. Despite this, a more volatile market dynamic is expected to ensue as these negotiations take place.
The current environment leaves central banks, particularly the U.S. Federal Reserve, in a difficult position. Developed economy central bank choices appear to be to ease financial conditions thus supporting the economy and financial system, while risking local currency weakness leading to higher bond yields and inflation or continue to fight inflation and risk more severe economic weakness and potential bond market/banking stress by tightening financial conditions and liquidity. The actions of policy makers to move in either direction will be a large driver of financial market performance over the coming months. Liquidity growth has recently slowed globally, making the need for more liquidity more acute. This is exacerbated by a higher US dollar (due to tariff implementations), which adds further stress to liquidity levels and risks. So, while we remain constructive on economic activity and risk asset performance, in particular monetary inflation hedges such as precious metals, the risks to our base case rise following recent tariff announcements.
We expect liquidity injections to continue to rise over the coming months. This is expected to provide continued support for financial markets over the medium-term. So, while short-term volatility may rise, we expect this addition of liquidity into the financial markets will be supportive of risk assets over the coming months.
This scenario is likely to see us maintain a positive view on growth assets over the medium-term, albeit with the expectation that volatility is also expected to rise. As previously stated, we have expected bouts of volatility to emerge as market positioning and sentiment has been very strong, increasing the possibility of growth fears or exogenous shocks adversely impacting markets.
Further weakening in employment leading indicators, or if we see central banks reducing their efforts to provide liquidity into financial markets would lead to this more defensive positioning. Overall, asset allocation will retain a bias to growth assets, with short-term tactical positioning to be guided by macroeconomic developments and central bank actions.
Bear Case
Our worst-case scenario for the coming months, which we are prepared to position for should conditions deteriorate.
12% Probability
Global consumer demand for goods and services falls further than expected, with US economic growth showing signs of faltering and the rest of the world showing no sign of improvement from tepid recent growth. Inflationary pressures rebound placing the recent global general trend of interest rate cutting under pressure. Tariff plans from the US are more severe and longer dated than markets currently expect. This would lead to retaliation from US trading partners, with the effect being to further dampen global trade and economic activity. This would act to create further headwinds for discretionary spending, placing pressure on economic activity. A reversion to bank stresses seen in March 2023 would be expected to further tighten bank lending standards also. This could act to place pressure on the currently very strong global employment conditions.
Geopolitical tensions could act to negatively impact supply chain bottle necks and energy prices, further exacerbating inflationary pressures and placing greater pressure on central banks to tighten monetary and financial conditions. Additionally, wage pressures and higher cost of lodging become more systemic as employees successfully lobby for wage increases. This will lead to a deterioration in company profits as increased input costs, and debt servicing costs (from higher interest rates) combined with lower demand converge to crimp company earnings.
Such a scenario would result in a tightening of financial conditions, while inflationary pressures remain elevated. This could see central banks continuing to withdraw monetary support (through higher interest rates) at a time when the economy is weakening. Additionally, an untimely withdrawal or reduction of central bank liquidity into the financial system could derail financial markets, which have become accustomed to liquidity support. When combined with reduced government expenditure, due to elevated indebtedness, this may cause consumer confidence and spending to fall, as prior government support is not fully replaced by gainful employment income.
With China’s property market remaining challenged, a potential debt/deflation spiral remains a risk. Should recent stimulus not act to support the property market and consumer confidence we could see high debt levels continue to place strain on economic growth. Such a scenario could also place further stress on the Australian economy as this would negatively impact demand for Australia’s largest export of natural resources.
Rapid escalation in geo-political tensions or a significant or systemic credit default, due to over-indebtedness in an environment of rising bond yields and elevated volatility in financial asset prices, could see a liquidation of risk assets within a compressed period. Such a situation would see us move rapidly and meaningfully into cash at the expense of equities. Further to this, the recent stresses seen in globally systemically important banks could lead to more bouts of liquidity events, which would be expected to have a pronounced negative effect on economic growth.
Above scenarios will see us take a more defensive position and reduce equity exposures replacing them with defensive assets, such as cash. The accelerating bond yield scenario would require a more nuanced shift toward companies and sectors that would be the greatest beneficiaries of such a move. Focus will be on a more defensive posture with capital preservation being the primary objective. A further shift towards defensive sectors such as healthcare, consumer staples and utilities would combine with higher cash levels in this scenario.
Bull case
Our most optimistic view for markets over the coming months.
14% Probability
Economies across the developed world experience better than anticipated economic growth rates. When combined with benign and waning inflationary pressures, as supply chain and employment bottlenecks ease and productivity levels improve, we would expect a virtuous pro-growth asset environment as interest rate pressures subside. Additionally, current global conflicts remain mostly contained to their regions and trade tariffs are short-dated and watered down following diplomatic negotiations amongst the worlds largest trade partners.
In this scenario disposable income for consumers would increase as inputs costs for corporates reduce. The result would be resilient earnings growth for companies as economic growth accelerates and costs remain contained.
Additionally, Donald Trumps recent victory in the US could act to ignite “animal spirits” in the US economy. This increased confidence could lead to more spending from small business and consumers, combined these cohorts have a major impact on the US economy. Such a scenario could also lead to greater credit demand, further fuelling the economic impact.
Fiscal support from governments and central bank liquidity could combine with sound cash levels on household and corporate balance sheets to accelerate the speed of the global economic recovery. Additional support could also come from increased leverage on household and corporate balance sheets. In the event central banks resume measures aimed at suppressing interest rates below inflation levels and potentially adding further liquidity enhancement measures to support financial systems, we would expect this to further fuel asset prices.
This scenario would be positive for financial markets as loosening financial conditions act to fuel demand for growth assets in a low to negative real interest rate environment. We would act by ensuring a growth asset bias with low cash levels. Additionally, if leading economic indicators began surprising to the upside a net shift towards cyclical sectors leveraged to economic growth would occur.
Stock in Focus – BlueScope
Investment Thesis
- Quality cyclical – BlueScope Steel (BSL) is a leading global steel and building materials manufacturing company. BSL is a cyclical business with earnings and share price influenced by several external factors such as global steel prices, steel spreads, and energy costs. But in terms of what they can control it is a well-managed business with net cash (no debt) of $364 million not including surplus property putting the company in a strong financial position. In terms of business quality BSL has averaged a16% return on capital over the past 10 years, putting it in the 2nd quintile of all ASX 200 companies.
- US earner – BSL’s US earnings are increasingly attractive following the US election outcome with BSL’s inclusion a slight tilt towards US earners in the equities portfolio. BSL operates five businesses across North America, employing around 4,600 people with the US North Star BlueScope Steel, and Buildings and Coated Products North America segments accounting for around 60% of BSL’s earnings. North Star is a low-cost regional supplier of hot rolled coil, based in Ohio, serving automotive, construction and manufacturing end-use industries while the Buildings and Coated Products collectively focus on the large non-residential construction industry, areas of the US economy we could expect to do well under the Trump administration.
History
The company was formerly known as BHP Steel Limited and changed its name to BlueScope Steel Limited in November 2003. BlueScope Steel Limited was founded in 1885 and is headquartered in Melbourne, Australia. Today, the company has a valuation of $9Billion.
BlueScope Steel Limited engages in the production and marketing of metal coated and painted steel building products in Australia, New Zealand, Asia, North America, and internationally. The company operates through five segments: Australian Steel Products, North Star BlueScope Steel, Buildings and Coated Products North America, Coated Products Asia, and New Zealand & Pacific Islands. The company offers coated and painted flat steel products, including zinc/aluminium alloy coated steel; galvanized and zinc/aluminium alloy coated pre-painted steel; and manufactures pipes and tubes. It is also involved in the supply of hot rolled coils; provision of engineered building solutions, such as coil paintings; and development of industrial properties, primarily warehouses and distribution centres. In addition, the company provides metal coating, painting, and steel building solutions; steel slabs, billets, plates, cold rolled coils, reinforcing coils, rods, wires, and bars, as well as value added coated and painted steel solutions; and operates ferrous and non-ferrous scrap metal recyclers. It offers its products under the COLORBOND, COLORSTEEL, TRUECORE, ZINCALUME, TRU-SPEC, LYSAGHT, FIELDERS, Orrcon Steel, BUTLER, and VARCO PRUDEN brand names for residential and non-residential building, construction, automotive, manufacturing, infrastructure, packaging, transport, agriculture, and mining industries.
Saward Dawson Wealth Advisors Pty Ltd, a Corporate Authorised Representative of Akambo Pty Ltd t/a Accountants Private Advice
The information presented in this publication is general information only, and is not intended to be financial product advice. It has not been prepared taking into account your investment objectives, financial situation or needs, and should not be used as the basis for making an investment decision. Before making any investment decision you need to consider (with your financial adviser) your particular investment needs, objectives and financial circumstances.
Some numerical figures in this publication have been subject to rounding adjustments. Akambo Pty Ltd (including any of its directors, officers or employees) will not accept liability for any loss or damage as a result of any reliance on this information. The market commentary reflect Akambo Pty Ltd’s views and beliefs at the time of preparation, which are subject to change without notice.