A more cautious rates outlook signals trouble for equities

Interest rate jitters in the US and a retreat on the ASX show caution in financial markets is ramping up after a long bull run in stocks.

After surging 28 per cent in five months on the AI boom and dovish signals from the Fed, the S&P 500 was hit by interest rate jitters this week. Picture: AFP

Caution in financial markets is ramping up after a long bull run in stocks.

After surging 28 per cent in five months on the AI boom and ­dovish signals from the Fed, the S&P 500 was hit by interest rate jitters this week after a stronger-than-expected US manufacturing survey, higher oil prices and less dovish comments from some Fed officials.

Australia’s S&P/ASX 200 index retreated from a record high of 7910.5 to a two-week low of 7741.5 on Friday.

The US 10-year bond yield hit a four-month high of 4.43 per cent, the S&P 500 was down 2 per cent for the week, and the VIX volatility index hit a five-month high on Thursday as US sharemarket suffered its biggest intraday retreat since the middle of the US ­regional banking crisis 13 months ago.

The US 10-year bond yield eased to 4.3 per cent as the sharemarket wobbled. But JPMorgan warned that the sharemarket was unlikely to react positively if bond yields dropped from here, implying that it was more likely to be caused by a safe-haven flow that would not help stocks.

The stronger-than-expected US ISM manufacturing survey was offset by a weaker-than-­expected services-sector survey and Fed chairman Jerome Powell said recent stronger-than-expected US employment and inflation data did not “materially change the overall picture” of disinflation.

But the US sharemarket reacted negatively on Thursday after Minneapolis Fed president Neel Kashkari warned that “if we continue to see inflation moving sideways, then that would make me question whether we needed to do those rate cuts at all”. In March, he expected two rate cuts this year.

Surging oil prices added to inflation worries this week. Brent crude oil futures rose as much as 4.3 per cent to a five-month high of $US91.30 as geopolitical risk flared in the Middle East after Iran blamed Israel for a deadly airstrike on its embassy in Syria.

Oil prices rose further after Israeli Prime Minister Benjamin Netanyahu said his country would operate against Iran and its proxies and would hurt those who sought to harm it.

At its meeting this week, the OPEC+ cartel vowed to keep its production cutback of 2 million barrels a day (equivalent to about 2.2 per cent of global supply) through to mid-year, as previously planned.

ANZ commodity strategist Daniel Hynes revised up his three-month forecast for the Brent crude oil price to $US95 a barrel, versus $US85 previously.

“Oil prices look set for further upside in the short term as a more positive economic backdrop is joined by ongoing supply tightness and rising geopolitical risks,” Mr Hynes said.

Reflecting inflation risks and lingering expectations of US interest rate cuts, spot gold rose as much as 3.4 per cent to a record high of $US2305.64 an ounce, before retreating after the FOMC’s Mr Kashkari dampened hope of rate cuts. Copper prices rose to 14-month highs.

Friday’s release of US non-farm payrolls data was shaping as a crucial test of sharemarket sentiment ahead of equally important US CPI inflation data on Wednesday next week.

Unemployment was expected to fall to 3.8 per cent amid a higher participation rate and weaker employment growth of 214,000.

The US CPI was expected to rise 0.3 per cent on-month and 3.5 per cent on-year.

“Equity markets have had a strong run-up since the beginning of the year, so some degree of a pullback is expected, given the long list of downside risks,” AMP deputy chief economist Diana Mousina said.

AMP has a positive view on equities for this year, expecting ­inflation to slow and growth to hold up.

However, Ms Mousina said that moderate falls in sharemarkets were “unavoidable” this year given that interest rates were still high compared to recent years, economic growth could dip lower and there were multiple geopolitical risk events on the calendar.

UBS warned that an “optimistic” sharemarket this year may have already anticipated a “no landing” outcome for the Australian economy that was indicated by a UBS survey of consumers.

Results from the UBS Evidence Lab quarterly survey of about 1000 adults in Australia “further reinforce our previously held perception that consensus analysts are still too low in their earnings expectations,” UBS Australia equity strategist Richard Schellbach said.

“However, the market appears to have already anticipated this and, with valuations already at record highs, the path for further share price gains seems now almost solely reliant on sentiment and momentum, as opposed to the income statement-driven fundamentals.”

The most recent survey by UBS showed that consumers still expect to maintain their pace of spending over the coming 12 months, as a “solid jobs and wages outlook is able to counter cost of living challenges”.

UBS economists expected economic growth in Australia to slow sharply last year, but still not collapse, and that Australia would avoid a recession, mainly due to its view on consumers.

Recent data on retail sales and household spending implied a recovery in recent months.

Results from the February company reporting season, coupled with the UBS consumer survey, suggest downside risks to the economy have reduced significantly, according to Mr Schellbach.

Amid signs that consumption has bottomed, he said the risks for consumption were “shifting arguably to the upside”, causing inflation risks from wages growth.

The UBS survey showed that high-income consumers are still the most positive demographic on their financial outlooks. Stocks with a customer base skewed towards this group include ASG, Breville, Netwealth, Qantas, Scentre, Select Harvest & Treasury Wine Estates.

The survey showed consumers expect to maintain heightened spending on private health insurance over the next 12 months, which is good for IAG, Suncorp, Medibank Private and NIB.

Property purchase intentions improved, with 36 per cent signalling they are potential buyers, and 62 per cent of those planning to sell their existing home, potentially helping Domain and REA Group. The survey also showed a pick-up in spending intentions from lower-income earners, with positive implications for Region Group and Collins Foods, Mr Schellbach said.