Research Team , 9 February 2018

It’s been a rollercoaster for markets this week, with indexes across the globe registering declines. The three main indexes in the US finished last week having experienced their biggest sell down in more than two years. The sell down spread across the globe from there, even sending our local NZX 50 down more than 2% on Monday. Further selling overnight on Monday in the US, again sent markets lower, however, the NZX 50 was let of the hook to a certain extent as it was closed for Waitangi Day.

Rising fears of a return to inflation have been the key driver behind the market sell down. A better than expected jobs report was released on Friday in the US showing that 200,000 jobs were added in January, 20,000 more than was expected. The unemployment rate remained at 4.1%.

What really captured the markets attention was the acceleration in wage growth. January saw wages rise 0.3%, taking annual wage inflation to 2.9%, the fastest wages have grown since June 2009. With wage growth rising, expectations for inflation have also risen, sending bond yields higher and investors running to safe haven assets.

Although scary on the face of things, the pullback is almost a little overdue, with markets having run exceptionally hard. The S&P 500 in the US has gained more than 35% over the past 15 months without including dividend. Our own NZX 50 recorded twelve consecutive months of gains last year. Also when looking at the economic data that has come out recently, there are no signs of a full bear market emerging. There are no recessionary alarm bells ringing as economic data remains strong and corporate earnings growth remains robust.

The latest Global Dairy Trade auction saw the third consecutive rise in prices. The 5.9% gain was driven by expectations for milk supply to remain constrained as drought conditions continue to hamper production. Prices rises occurred across all product groups, with the key product for NZ farmers, whole milk powder seeing a 7.6% gain. Fonterra cut the forecast farmgate milk payout to $6.40 per kilo of milk solids in December last year. Earlier this year, the company also cut back its forecast milk collection on the back of the poorer weather conditions.

Fourth quarter labour data for New Zealand surprised to the upside with the unemployment rate dropping to 4.5%, a nine year low. We are still a wee way off our lowest ever level of unemployment, which occurred just prior to the global financial crisis and was 3.3%. There was a small drop in the participation rat but what was most interesting was the increase in the underutilisation rate. This is a measure of the potential labour supply and unmet need for work and it rose to 12.1% for the quarter. In addition this, wage growth domestically remains muted. There was a 1.8% increase in wages for the year ended December 2017 and much of this can be attributed to the change in legislation for care workers.

As was expected, the RBNZ left the official cash rate on hold at 1.75% at its latest meeting. Although acknowledging that global economic conditions have improved, numerous risks remain, and the kiwi dollar continues to be high, although the RBNZ believes that this will moderate. The central bank believes that monetary policy will remain accommodative for a considerable period of time.

The global reporting season is in full swing now, with more than half of the S&P 500 having reported results for the final quarter of last year. So far, it has been exceptionally positive with more than 80% of companies reporting better than expected earnings and revenue growth. Although this has been somewhat overshadowed by the recent market declines there have been some stand out results.

The local reporting season has now started as well, and expectations for it are high. We will be watching for solid outlook statements to drive earnings growth as well as anything relating to potential policy changes that have stemmed from a change of government. Next week we will have a plethora of companies reporting including Auckland Airport, Contact Energy and Meridian Energy in NZ and ANZ Bank, CSL and Medibank from Australia, to name just a few.