12 Jun 2019

Reserve Bank cuts cash rate to ‘provide greater confidence’

Highlights

  • RBA cuts cash rate to 1.25%
  • Markets anticipate two more cuts by year end
  • US-China trade tensions resurface

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Share markets struggled in May following a re-escalation in trade tensions between the US and China. The US raised tariffs to 25% on $200 billion worth of Chinese imports. China retaliated in kind by further raising tariffs on US exports.

Geopolitical tensions also rose following the resignation of UK Prime Minister Theresa May, which throws some doubt over a soft separation from the European Union. 

Moderate growth in US

First quarter growth in the US expanded at a moderate pace but key pillars of the economy — including corporate investment and household spending — have sagged.

Growth in the Eurozone also picked up as consumer confidence improved but the deterioration in global trade is likely to weigh on the recovery in the second half of the year.

Economic growth in China was softer during April following a sharp decline in industrial production and retail spending. Chinese authorities are likely to step up efforts to support the economy by further reducing interest rates and releasing credit to banks.  

Reserve cuts cash rate to 1.25%

At its monthly meeting on 4 June, the Reserve Bank lowered the cash rate by 25 basis points to 1.25%. According to the bank, the decision should ‘support employment growth and provide greater confidence that inflation will be consistent with the medium-term target’.

Indicators of household spending remain soft and property market measures reflect subdued activity. The Liberal National coalition’s surprise victory also stimulated positive market sentiment and the promised tax cuts will be welcome news to households. 

Share markets underperform 

Share markets finished lower in most regions. In the US, the S&P500 fell more than 6.5% due to heightened concerns over trade tensions and the growth outlook. Technology stocks fell following President Trump’s executive order to ban US hardware and software sales to Chinese technology companies. 

Australian shares fared slightly better following the election rally, and resources companies continue to benefit from higher commodity prices, particularly iron ore.

Australian bonds performed well in anticipation of the Reserve Bank’s rate cut, while global bonds also had a strong month following the decline in US bond yields.  

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Australian bond yields have fallen sharply over the last year. A flattening yield curve can indicate a weaker economy as it signals that inflation and interest rates are expected to stay low for a while. 

Our performance

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Investment commentary

Most of our pre-mixed options delivered a negative return as share markets struggled during May due to rising US-China trade tensions and the growing uncertainty that affected investor sentiment.

Australian shares outperformed global shares following the surprise victory of the Liberal National coalition. Banks performed well following a better policy environment and recent moves by the regulator to ease ‘stress tests’ on mortgages. Resources companies continued to benefit from higher commodity prices.

Global share markets were volatile over the month and most lost ground. US shares were affected by the revival of trade tensions while President Trump’s executive order to ban supplies to Chinese technology firms affected tech stocks. On the plus side, energy, metals and mining sectors benefited from higher commodity prices. Emerging markets were affected by global growth concerns and the higher US dollar, which produced tighter financial conditions.

Australian fixed interest delivered a strong result as local bond yields fell - and market values rose – in response to the Reserve Bank’s rate cut. The yield curve in Australia has inverted, which reflects a high probability for further falls in the cash rate. Currently, the market is anticipating two cuts to the cash rate by year end. Lower interest rates will be welcomed by households and should stimulate consumer spending.

Past performance is not a reliable indicator of future performance. This information has been prepared by First State Super Investments on behalf of FSS Trustee Corporation ABN 11 118 202 672 AFSL 293340, trustee of the First State Superannuation Scheme ABN 53 226 460 365.

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