Overview

The main question on the minds of investors is whether the US Federal Reserve will adopt the same dovish stance of the European Central Bank and the Bank of Japan. The consensus view is the Fed will begin to normalise its Funds Rate in coming months but Clime’s John Abernethy has a different view. The US$’s strong appreciation is dampening the earnings of US multinationals and will slow the economic recovery, so the Fed will not want to raise rates this June half and probably not before the end of the year either. If this happens, the US government debt term structure remains lower for longer and continues to anchor ultra-low bond yields globally. Click here to view Clime’s Outlook for 2015 written by John Abernethy.
Simultaneously, the European Central Bank has embarked on a major quantitative easing program which will go for longer than initially forecast. This should save the Eurozone from a recession and mean no further downgrades to world economic growth forecasts. The election of a new Greek government with a mandate to renegotiate Greece’s bailout will see posturing by the Greek government and its lenders but the solution is simple: the ECB needs to support the Greek bond market in the same way it supports Italy, Portugal and Spain: by buying government bonds.
The ongoing depreciation of the A$ reduces the risk of a recession here and increases the appeal of economic cyclicals like banks, which income investors should consider. Australia’s historically low government bond yields raise the question of whether investors should adopt similarly low risk-free rates in the required returns in their equity valuations. This would inflate valuations across the board. We recommend a more sectoral approach of lower required returns for lower-risk stocks but not for stocks caught in downturns, like miners.