After the election comes the real test

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May 19, 2019
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It is amazing how much of investors’ time and brainpower is dedicated to thinking about big-picture, macro issues such as elections. For most investors, the tendency is to think anything newsworthy must be relevant for the sharemarket.

Leading into Saturday’s election, many were worried about its likely impact on the market, and of course there was the usual over-analysis in the lead-up.

If history is any guide, the Australian sharemarket tends to flat-line into an election and stage something of a relief rally once it’s over.

One might ponder why politicians haven’t been willing to think bigger, especially given cheap rates.

— Julian Beaumont

The most recent elections have been a mix of Labor, Liberal, minority and majority wins, and returns for the market in the month following have been -0.1 per cent (in 2007, just a few weeks after the market hit its all-time high), 4.6 per cent (2010), 1.2 per cent (2013) and 5.5 per cent (2016).

This historical trading pattern might be understood by the uncertainty most feel in the lead-up to an election.

Early last week, new ruptures in United States-China trade negotiationscaused big falls across global markets, including on the ASX. But was this justified, particularly when a number of companies would actually benefit, for example from China’s stimulus response? Interestingly, among the best performers on the ASX that day were A2 Milk, Treasury Wine Estates and Fortescue Metals, all of which happen to have China as an important customer.

And more relevantly, the ASX quickly recovered over the rest of the week.

In the end, these types of events just create sentiment-driven noise. Only when there is a surprise is there any real bearing on markets. And this, in turn, makes it difficult for most investors to take advantage.

Donald Trump’s election win is a case in point. As it turned out, Trump has implemented quite dramatic pro-business reform that has included corporate tax cuts and deregulation, and these have clearly helped the US economy.

Mind you, never before has the US had a president so obsessed with the Fed, oil prices and the sharemarket, from which he seems to measure a big part of his political success.

In Australian politics, a Trump-like economic focus has been noticeably lacking.

In the latest electioneering, economic talk was mostly to be avoided, with the major political parties promising balanced budgets and neither proposing more than tinkering with corporate tax rates, regulation or other productivity measures.

In the end, the fundamental difference between Labor and the Liberals came down to how to cut up the pie – owners versus workers – rather than how to grow it.

The Coalition’s win was a surprise, but as far as the economy and stocks are concerned, it matters little.

The Coalition government now faces an economy that looks quite dour.

Perhaps the uncertainty of the election has dampened things and, as investors, we will be looking out for a temporary post-election bump.

Further out, financial markets, which by their nature are forward looking, mostly indicate things are getting worse.

For example, government bond yields are hitting all-time lows, with the 10-year now at just 1.64 per cent. Most assume the RBA will come to the rescue, specifically with expectations for two rate cuts this year, and even suggestions of possible quantitative easing.

More on point, one might ponder why politicians haven’t been willing to think bigger, especially given cheap rates and relatively low government debt levels. Unfortunately, the history of reform in Australia has been that it usually comes only at breaking point.

The last example of that was under the late Bob Hawke, and since then, we have enjoyed 28 years of continuous economic expansion that is a big reason for our current complacency.

However, with things seemingly getting worse, the government might be forced to act. Balancing the budget will not be so commendable then.

Arguably, the ASX’s post-GFC highs contradict the signals of bond and other markets.

There are a number of factors driving the ASX now but the important ones are monetary policy, the economy and, most fundamentally, corporate earnings. And this is where investors should focus their resources, rather than the unpredictability of elections and trade wars.

Julian Beaumont is the investment director of Bennelong Australian Equity Partners

Original article was published in AFR Market Minds: