Following is the outlook commentary from the Tribeca Alpha Plus Fund report. To access the January 2017 report, click here.
After a steep rise in bond yields last year, initially driven by rebounding inflation, but reinforced by the Trump election victory, the market is now stabilising. Several controversial executive orders by President Trump have cooled market sentiment and without a smoking gun in terms of economic data, the bond market is consolidating. We remain bearish on the trend for bond prices though as inflationary pressures from China swing to the upside and the US labour market continues to drive to full employment and underlying wages growth strengthens. Any fiscal stimulus or trade protectionism out of the US is likely to amplify these moves.
After some consolidation the broader reflation trade has much further to run and we see stronger performance from shorter duration cyclicals over growth and yield. The biggest risk to this view is geopolitical instability that pressures global growth.
Activity in the US economy continues to improve with leading indicators such as business confidence, consumer confidence, capital investment and the manufacturing PMI all picking up. This improvement in the US economy has shifted the tone out of the FOMC. There are several more hawkish views looking at full employment in the economy as well as financial stability risks from ultra low rates. We expect several more rate increases this year as inflation pressures continue to build.
The Chinese growth rebound appears to now be maturing. The government is placing some new restrictions on property investing in Tier 1 cities and price growth is now beginning to slow. Infrastructure investment remains strong, but is not accelerating from here. Growth is likely to remain supported during the year as we head into the National Congress, but this is well anticipated by the market. Pressures on the capital account continue to mount as China seeks to restrict outflows and support the currency. A potential US border tariff would have significant negative impacts for the economy as a significant loss in manufacturing exports would be very difficult to replace with domestic or regional demand. We expect bulk commodity prices are near their peak here and have a preference for base metals that still have some cost curve support.
The picture around domestic growth is looking more mixed. The rate cuts last year by the RBA saw a mild reacceleration in housing approvals in response to higher prices. While this is a positive for short term activity and the likelihood of construction activity contributing to GDP growth through 2017, in the medium term it is a negative as it makes the emerging oversupply in apartments even worse. The building approval peak is here although it may be slightly more prolonged. Evidence that APRA is enforcing tighter lending standards on the banks is also evidenced by declining housing loan growth and average loan size. This will ultimately constrain house price growth, which provides the main impetus for new construction and wealth effects. Stronger commodity prices are boosting national income and helping the government’s budget position, although we don’t expect a recovery in mining investment, but rather a stabilisation at lower levels. Public spending is growing more strongly again which is boosting growth, but soft employment and stagnant wage growth continue to be a drag for households. Overall we are cautious on domestic growth.
In terms of portfolio positioning, we are gradually reducing exposure to interest rate sensitive sectors as the Fed moves to a more hawkish stance. We are comfortable with the US growth profile and maintain overweight positions to US cyclicals and US$ exposed stocks. The resources sector is exhibiting strong momentum and we have maintained a moderate overweight, but are looking to take profits as policy support wanes. Domestically, we are positioned more defensively in gaming and telecommunications and are overweight banks given the yield on offer relative to REITs and infrastructure.