Research Edge Position: Long Australian Equities via EWA
Australian employment data released today surprised most observers by swinging 30 basis points to the positive for April. The market response was a rally across equities and a selloff in treasuries as investors digested the news and factored rebounding external demand and lessened rate cut prospects into their models.
We have been vocal fans of Australia's markets and economy as well as the steady handed work of Reserve Bank Governor Glenn Stevens and his predecessor Ian Macfarlane. Declining demand for commodities and financial services have been the primary drag on the economy down under, but the impact of China' stimulus on the base metal and coal markets has been pronounced in recent months and the Australian financial sector post 08 was left significantly less weakened overall than its counterparts in the US and Europe.
We posted yesterday on Chinese demand for base metals and Iron in particular. As we noted then, the competitive landscape for Australian and Brazilian iron ore producers does not appear to have impacted by currency divergence YTD (see below) . The Australian dollar rallied today versus the USD on today's news however, and we will continue to watch for clues from the FX and shipping rate markets for any signs of divergence between the two nations as they vie for the Client's attention.
Currently the biggest potential negative external driver for Australian equities we are watching for is weakness in commodity demand rather than competition. Base metal prices (copper in particular) have had a phenomenal run and could easily correct without breaking overall trend. This could be particularly pronounced if the Chinese State Reserve bureau sends signals that it's near term demand has been satiated or if there is a near term pull back in reported import data as the initial rush of unleashed credit abates. Any perceived weakness in metals could spur a pull back; as the reflation puzzle pieces fall into place the name of the game will be staying one step ahead of consensus.
We continue to be long the Australian equity market via the EWA ETF and today's employment data only contributes to our conviction in the position. Currently we would only expect to sell our position near term based on price action or external drivers. As always we will change as the data does.