VANECK VIEWPOINT TM THE RHYME OF HISTORY - VANECK AUSTRALIA
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VanEck ViewPoint TM The rhyme of history March 2021
The rhyme of history 2
Over a century ago the world emerged from the Spanish Flu and The Great War. At first, Under these conditions, the Fed and other central banks are probably worried that market
the end of wartime and the ravages of the pandemic caused a brief but deep recession. fragility will be exposed if they take away the punch bowl. With the increase in public and
However as soldiers returned to work and mass production made technology affordable private debt preventing the eventual monetary normalisation, the likelihood of stagflation
the economy boomed. This became the ‘Roaring 20s’, a decade the French eloquently in the medium term – and a hard landing for asset markets and economies – continues to
defined as “années folles” or crazy years. It was a period of social and cultural change. increase. The good news is that the powers that be will pull out all stops to ensure the end
It was also a period of unregulated growth and high debt. A century on and ebullient of the 20s does not repeat, they probably don’t even want it to rhyme.
asset prices fuelled by an unrelenting commitment to accommodate ease-of-credit and
liquidity, ostensibly supports the maxim often attributed to Mark Twain, “History doesn’t Chart 1: Index returns in the March 2021 quarter
repeat itself, but it often rhymes.” USA Small Caps 13.76%
UK Equities 7.48%
Last year we experienced a short but deep recession and now as we emerge from US Equities
Global Equities
7.19%
6.23%
the COVID-19 pandemic, which has resulted in over 2.7 million deaths, asset markets European Equities 4.79%
Australian Equities 4.75%
remain frothy – if not outright bubbly. Today’s valuations are as high they were preceding Australian Small Caps 3.92%
EM Equities 2.50%
the busts of 1929 and 2000. Between ever-rising leverage and the potential for bubbles Japanese Equities 0.88%
Australian Bank Bills
in special-purpose acquisition companies or SPACs, tech stocks, and cryptocurrencies, Global Fixed Income -2.32%
0.00%
today’s market mania offers plenty of cause for concern. And debt? Globally it is at China Equities
Australian Fixed Income
-2.63%
-2.64%
unprecedented levels and likely to increase. It is still unknown if we have even reached EM Fixed Income
Gold -8.07%
-4.93%
peak COVID. There is still wide dispersion by country with COVID variants keeping -0.1 -0.05 0 0.05 0.1 0.15
healthcare systems on high alert. Italy has spiked again, while Israel and the United Arab Source: Bloomberg, 1 January 2021 to 26 March 2021, returns in Australian dollars. US Small Caps is Russell 2000 Index, UK Equities is
Emirates are implementing a warp-speed approach and leading the vaccination charge. FTSE 100 Index, Australian Small Caps is S&P/ASX Small Ordinaries Index, Global Equities is MSCI World ex Australia Index, US Equities
is S&P 500 Index, European Equities is MSCI Europe Index, EM Equities is MSCI Emerging Markets Index, Australian Equities is S&P/ASX
200 Accumulation Index, Japanese Equities is Nikkei 225 Index, Australian Bank Bills is Bloomberg AusBond Bank Bill Index, Global Fixed
Markets appear to have priced in a return to ‘normal’. With an unwavering Income is Bloomberg Global Aggregate Bond Hedged AUD Index, Australian Fixed Income is Bloomberg AusBond Composite 0+ yrs
commitment by central banks to not fight inflation. The environment is being called Index, China equities is CSI 300 Index, EM Fixed Income is 50% J.P. Morgan Emerging Market Bond Index Global Diversified Hedged
AUD and 50% J.P. Morgan Government Bond-Emerging Market Index Global Diversified, Gold is Gold Spot US$/oz.
reflationary. Reflation being fiscal or monetary policy designed to expand economic
output, stimulate spending, and curb the effects of deflation and it usually occurs
Chart 2: Global and Australian equity sectors March 2021 quarterly performance
after a period of economic uncertainty or a recession. Reflation has happened
Australia Global
before and during these periods smaller companies tend to outperform larger 0.3
25.75%
companies, value tends to outperform growth and long-term bond yields increase. 0.25
The reflation narrative is playing out. In the last quarter the rotation from growth 0.2
15.46%
to value, defensives to cyclicals, was pronounced. The bond vigilantes seemed to 0.15
10.68%
12.50%
9.39%
have returned too with a quick blow to long-term yields. Global and Australian Fixed 0.1
%
8.58% 7.75% 7.21% 6.87%
5.65%
Income returned negative numbers for the quarter. Although asset valuations do 0.05
2.15% 1.95% 0.71%
3.06% 3.45%
0.64% 0.75% 0.88%
appear stretched, equities do offer a superior risk return trade-off relative to bonds. 0
-0.57%
-1.16%
-0.05 -2.79%
For the rest of the year, economic growth may yet fall short of expectations. New
-0.1 -9.45%
strains of COVID-19 continue to emerge, raising concerns that existing vaccines may Information Health Consumer Utilities Industrials Real Materials Consumer Telecomm- Financials Energy
no longer be sufficient to end the pandemic. Repeated stop-go cycles undermine Technology Care Staples Estate Discretionary unications
confidence, and political pressure to reopen the economy before the virus is
Source: Bloomberg, 1 January 2021 to 26 March 2021, returns in Australian dollars. Information Technology is MSCI World Information Technology
contained builds. Many small and medium-size enterprises are still at risk of going Index / S&P/ASX 200 Information Technology Index, Healthcare is MSCI World Heath care Index / S&P/ASX200 Heath care Index, Utilities is MSCI
bust, and far too many people are facing the prospects of long-term unemployment. World Utilities Index / S&P/ASX 200 Utilities Index, Consumer Staples is MSCI World Consumer Staples Index / S&P/ASX 200 Consumer Staples
Index, Property is MSCI World REIT Index / S&P/ASX 200 AREIT Index, Industrials is MSCI World Industrials Index / S&P/ASX 200 Industrials Index,
The list of pathologies afflicting the economy is long and includes rising inequality, Materials is MSCI World Materials Index / S&P/ASX 200 Materials Index, Consumer discretionary is MSCI World Consumer Discretionary Index/
S&P/ASX 200 Consumer Discretionary Index, Telecommunications is MSCI World Telecommunications Index / S&P/ASX 200 Telecommunications
deleveraging by debt-burdened firms and workers, and political and geopolitical risks. Index. Financials is MSCI World Financials Index / S&P/ASX 200 Financials Index, Energy is MSCI World Energy Index / S&P/ASX 200 Energy Index.VanEck ViewPoint™ 3
The bubble party continues Chart 3: Value has still got a long way to catch up to the curve
MSCI World Value/MSCI World Growth (LHS) and US 10 Year Treasury Spread (RHS)
“Bubbles eventually make fools of everyone. Your only choice is whether to look a fool
MSCI World Value/Growth US 10yr less 2yr Govt Spread
before or after it bursts…”
180% 400
Following on from the second half of last year, the party has continued. Some bubbles 160%
300
Cumulative performance ratio (%)
are expanding – US$69 million for a JPEG artwork – and some are deflating, a little. 140%
Thankfully, so far it has all be in an orderly fashion. 120%
200
Spread (bps)
100%
Last quarter the balance between a teetering valuation pyramid, based on unrealistic 100
80%
bond yields, and the vaccine re-opening served with a possible side order of a further 0
60%
fiscal boost, had markets braced.
40% -100
The danger was that bonds didn’t represent a risk-free return, but rather a return-free 20%
-200
risk. And when the yield correction commenced, the highest multiple/lowest yield 0%
stocks suffered. This has been the theme to start 2021. 20% -300
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The big news, almost the tipping point of this, was the Democrats sweeping the
Georgia run-off elections – a result not many pundits predicted. This handed Senate
control to the incoming Biden Administration. In turn, the Biden Administration Source: VanEck, Bloomberg, as at 22 March 2021.
threw the fiscal spigots wide open.
The strategies that have done well so far in 2021 are those that have:
Chart 4: Return free risk
• favoured value over growth; Years of coupons to recoup loss from a 1% lift in yield of US 10-year Treasuries
• allocated to cheaper, over more expensive markets (Asia EM and Japan versus US); and 8
• avoided duration. 7
6
But where to from here?
Years to recover
5
While we expect a choppier quarter, recovery exuberance will carry on for a bit 4
longer yet. Those tilts that have performed well to begin 2021, we believe, still have 3
plenty of room to carry on. 2
1
0
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Source: Bloomberg, VanEck.The rhyme of history 4
Gold hasn’t lost its shine Chart 5: Gold miners are relatively cheap
Ratio of Gold Miners to Gold Bullion price
Gold has underperformed other asset classes during the first quarter on 2021. Coming GDX Index: Gold price ratio Ratio currently
2.5 $2,500
into the New Year gold had been trading cheap to US real rates (we view gold as a zero Average ratio since GDX Index inception Gold price (US$) RHS
interest rate alternative currency; therefore it should trade inversely to US real rates) so
2.0 $2,000
its performance this year has been disappointing.
The gold price has been under pressure since last November when Pfizer announced
Gold Price (US$)
1.5 $1,500
that its early analysis of its coronavirus vaccine was more than 90% effective in preventing
Ratio
infections. This, along with the US$1.9 trillion stimulus bill, created a favourable economic
1.0 $1,000
growth outlook and market euphoria. Gold, as a safe haven, will continue to struggle so
long as this outlook prevails, possibly through the first half of 2021. Consequently, we
have downgraded our near-term outlook, from a consolidation, to a correction in which 0.5 $500
we expect gold to trade above US$1,600.
0.0 $0
We expect a catalyst to emerge in the second half of the year that could drive
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gold higher. The most likely catalyst would be excessive inflationary expectations.
Inflation expectations have returned to pre-pandemic norms, although a number of
developments listed here suggest it could spiral out of control: Source: VanEck, Bloomberg, as at 22 March 2021. GDX Index is NYSE Gold Mines Index. You cannot invest directly in an index.
• US$1.9 trillion of additional fiscal stimulus is likely to be introduced on top of previous
government spending, some of which has yet to be utilised; Chart 6: Bitcoin has soared since mid-2020 while gold has fallen
• The US Federal Reserve (Fed) continues to buy US$120 billion worth of Treasuries and Gold price and Bitcoin price (both in US dollars)
mortgage-backed securities each month;
$3,000 Gold spot mid (LHS) BTC mid (RHS) $70,000
• Lumber, oil, copper, food staples and other commodities prices have been on the rise, $2,800
$60,000
many reaching multi-year highs; $2,600
• Shortages of semiconductors, shipping containers and truck drivers have been documented; $2,400 $50,000
Bitcoin Price (US$)
Gold Price (US$)
• Many people are content to stay out of the workforce, collecting generous government $2,200
$40,000
handouts; $2,000
$30,000
• Purchasing power of American families has reached record highs. $1,800
$1,600 $20,000
Further into 2022, once the trillions of stimulus dollars have been spent, other systemic risk
$1,400
catalysts could emerge, such as a weakening economy, debt problems, US dollar weakness $10,000
$1,200
and/or black swan events caused by radical fiscal and monetary policies. We believe the
$1,000 $0
long-term bull market remains intact and expect prices to ultimately surpass US$3,000 per
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ounce. We also note that gold miners remain cheap relative to the price of gold.
It is worth noting that since mid-2020 it appears that Bitcoin has replaced gold as the Source: Bloomberg. Past performance is not a reliable indicator of future results.
new gold. But as cryptos have continued to soar, US real rates have now undermined gold
value. To remain long Bitcoin would require a belief that real rates are going to retreat.VanEck ViewPoint™ 5
Central banks have gone bigger Chart 7: Spending this crisis makes GFC spending look restrained
Fiscal stimulus as a % of GDP
Generals are always accused of fighting the last war. We think the same accusation 20 GFC 2019/20 2020/21
could also be laid at the feet of economists and central bankers. 18
16
The GFC was a classic financial accident which, in turn, undermined liquidity,
14
balance sheets and private final demand. By flooding the system with liquidity,
12
central bankers largely prevented corporate collapses, rendering the impact on the
10
real economy a demand-side event only.
%
8
But while the liquidity pump was successful, the fiscal support for the demand side 6
of the real economy was pretty anaemic – partly due to politicking and partly due to 4
debt scare-mongering. 2
0
This time around, the fiscal response has been enormous. In the US the fiscal US Canada Japan UK Italy Spain Germany France China
response is five times the size (in GDP terms) of the GFC response. And President Source: IMF.
Biden is looking to follow-up with a multi-trillion infrastructure spend – perhaps as
much as another 20% of GDP, although spread over a few years.
Chart 8: It’s been an unprecedented recovery
Across the Atlantic, things are progressing at a sluggish pace. While large fiscal
Global industrial production – months to recover
packages have been legislated, funds have been slow to be distributed. Again, the
European Central Bank is being left to do the heavy lifting – unfortunately, this is 2 COVID-19 GFC
more about backstopping the bond market than lifting the real economy. 0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29
At the same time, slow or bungled vaccine rollouts are colliding with a third -2 Months
wave of variant COVID-19 infections, further delaying Europe’s recovery from
IP montly change (%)
-4
its economic slump.
-6
-8
-10
-12
-14
Source: CPB World Trade Monitor.The rhyme of history 6
How much is too much? Chart 9: Savings are soaring
US household income, spending and saving
The US Congressional Budget Office (CBO) currently puts potential GDP growth Income Household outlays Saving Excess saving
at 1.7% a year. Assuming GDP was at potential at the start of 2020, not a terribly 20.0 10.0
brave assumption with unemployment then at 3.5% and wages seemingly starting 9.0
US$ Trillions Seasonally Adjusted Annual Rate
US$ Trillions Seasonally Adjusted Annual Rate
19.0
to respond, then the current output gap is about 4.2% – or US$900 billion! 8.0
18.0
Of course, there’s some double counting, earlier packages contributed to the rebound 17.0
Saving 7.0
through last year; and there’s also the question of fiscal multipliers. So far, multipliers 16.0 6.0
look low, much of the spending has gone into precautionary savings. But what will 5.0
15.0
happen post-vaccination, as the economy fully reopens?
14.0 4.0
Even with savings soaring, the result has been a much more rapid rebound in goods 13.0 Excess saving now 3.0
markets than in the post-GFC years. 10% of income
12.0 2.0
This is impressive and has resulted in moving people back in to jobs faster than expected. 11.0 1.0
10.0 0.0
But it has a downside: COVID-19 has not just been a demand side event, it has also
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been a supply-side disruption.
COVID-19 has seen businesses shut down (some temporarily, some permanently) and Source: Bureau of Economic Analysis, National Bureau of Economic Research.
further disrupted supply chains already strained by US-China tech and trade ructions.
It has undermined the just-in-time global inventory system. Almost counter-intuitively,
significant contributors of the booming PMIs (Purchasing Managers’ Indices) around Chart 10: Soaring input prices
the globe are lengthening supplier delivery times and soaring input prices. World Container Index, US$ per 40ft container
$6,000
$5,500
$5,000
$4,500
$4,000
$3,500
($)
$3,000
$2,500
$2,000
$1,500
$1,000
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Source: Bloomberg.VanEck ViewPoint™ 7
Back to basics Chart 11: By the end of September the Fed and the Treasury should face higher inflation
NFIB Pricing leads Core CPI (*actual except last observation = planned)
First year economics texts make it clear: a supply contraction meeting strong demand NFIB actual pricing led 6 months* Core CPI (RHS)
equals higher prices. The questions markets have to fret over are:
30 3.0
• how much inflation?
• for how long? 20 2.5
• how will policymakers respond?
10
• what’s priced in markets? 2.0
• will expectations come unmoored?
Change (%)
0
CPI
Apr 21
Mar 99
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1.5
There is undoubtedly a burst of goods price inflation on the way. Small businesses
-10
have already started lifting prices (and expect to lift them further). Commodity prices
1.0
have been turbocharged by the recovery and by the liquidity sloshing around markets. -20
The largest component of core inflation, however, remains services inflation and rents. 0.5
-30
The former tends to display much more inertia and be driven by service sector wages.
The latter is currently a mystery with rents apparently still slowing as house prices soar. 0
-40
This time around, the services sector is a bit of an enigma: large chunks of it were Source: Macrobond and Nordea. NFIB is National Federation of Independent Business.
completely shut down by fiat; and some (tourism and hospitality, for example) remain
far from recovery. It’s not even clear what proportion of businesses will survive.
Chart 12: A growing gap between job hunters and employers
Central banks have, by and large, said they will look through a temporary boost to Finding a job or filling a job
inflation. The GFC lesson was: a temporary blip in inflation quickly passed due to labour Jobs easy to get Jobs hard to fill
market slack. But it’s not clear how labour market slack will operate this time: the 60 30
composition of the economy and jobs may have permanently changed, leading to a
mismatch between skills and openings. 50 25
In recent months a gap has opened up between employers’ perceptions of labour 40 20
markets and those seeking work. In a similar vein, the BLS JOLTs survey has recently
been showing rising job openings but slowing hiring. 30 15
Of course, this may resolve as the services sector re-opens. But it certainly
20 10
warrants scrutiny.
So, with the next round of stimulus cheques about to hit and vaccine roll-out 10 5
proceeding, estimates of near-term growth are soaring, with the consensus 2021
US growth forecast hitting 5.5%. Inflation forecasts are still around target (at least for 0 0
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core inflation) though headline CPI are expectations are rising.
Source: National Federation of Independent Business, National Bureau of Economic Research.The rhyme of history 8
Central bank chicken Chart 13: Yields still have a long way to go
Five-year forward five-year Treasury yields, both real and nominal
Central banks, led by the Fed, are making it clear they will look through any short- Real yield (LHS) Breakeven inflation rate (RHS)
term/headline only surge.
1.5 2.5
The more complacent market participants agree any inflation surge will be short-lived
and that the Fed will succeed against any bond market rebellion, besides, bonds have 1 2.0
already sold off a long way.
0.5 1.5
But we’re not so sure. How far have bonds sold off? Our favourite tool for assessing
Real Yield
%
medium term expectations is five-year forward five-year Treasury yields, both real and 1.0
0.0
nominal. The reason we like these is that they get you past the near-term policy effects
2021
2020
2017
2018
2019
to longer term expectations. -0.5 0.5
They are telling us that real yields are running around 0.3% – certainly a fair way from
-1.0 0.0
small negatives a quarter ago. But is that fully priced?
Source: Federal Reserve Bank of St. Louis.
As mentioned above, CBO assumes a potential growth rate of 1.7% – a simple way to
picture it is labour force growth near 1% and productivity growth of 0.5-1%. If you think
the economy should be back to trend in five years or less, which is not unreasonable Chart 14: Fed sticking to low rate guns
given the speed gaps currently closing, then 0.3% real yields is way too low. FOMC participants’ assessment of appropriate monetary policy: Midpoint of target range
or target level for the federal funds rate
Then consider medium term inflation expectations. Nominal five-year rates are 4.0
running around 2.5%. So the inflation expectation (the gap between nominal and real
yields) is running a little over 2%. 3.5
So, the long end of the yield curve is expecting the Fed to keep inflation controlled 3.0
at, or near, the target at least in the medium term. Again, therefore, any accidents 2.5
in the near-term, or any attempts by the Fed to run the economy “hot” are not
2.0
currently priced and will see a further spit by long bonds.
%
1.5
1.0
0.5
0
2021 2022 2023 Longer run
Source: Federal Reserve Monetary Policy Files 17 March 2021.VanEck ViewPoint™ 9
The canary in the coal mine Chart 15: Early 80’s US dollar soared under loose fiscal, tight monetary policy
Trade Weighted US dollar Index
So neither nominal nor real yields are priced for overheating or an inflation accident.
160 USD TWI
We are sceptical markets can get through the next six months without a panic.
150
The more optimistic market participants point to central banks carrying the day after
the GFC. There are two problems with that idea. 140
First, we’ve pointed out the reasons why the economic prints are likely to be more 130
startling than post-GFC, while markets don’t have a pricing cushion. 120
Second, it’s only distance that makes the central bank’s win last time seem easy. 110
Through the course of a muted recovery in early 2011, markets priced three rate hikes
100
by the end of that year.
90
Markets currently have less than one hike priced in the next two years – and may be
facing a near-term surge in growth of 5 to 7% and headline inflation to 3 to 4%. An 80
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attack of bond vigilantes seems good odds.
The US dollar may be the canary in the coalmine. Strong growth should be supportive Source: Federal Reserve Bank of St. Louis.
of the US dollar. Remember, during President Reagan’s unfunded fiscal largesse in
the early 80s the US dollar surged by 50%. The different factor then was aggressive
Chart 16: Europe, Japan and Emerging Markets look relatively cheap
monetary tightening by the Volcker Fed.
Equities: valuation and subsequent return. Current CAPE
Unlike the overwhelming market consensus, we see little reason for the US dollar to Equities: Valuation & Subsequent Return
20 20
fall significantly now. Debt worries are balanced by expected growth differentials. The
contrast between US re-opening and European vaccine/third wave dramas is stark!
Also the reason to avoid European equities: they look cheap but poor policy-making 15 15
keeps justifying their low prices.
10yr real CAGR %
So US dollar weakness would perhaps signal that investors have decided that the 10 10
Fed has lost it. Maybe currency, not bond, vigilantes will be the straw that breaks
the Fed’s resolve? 5
5
Europe United States
y = -8.833ln(x) + 32.012 y = -8.846ln(x) + 33.652 0
0
Japan*
Emerging Markets†
y = -8.087ln(x) + 29.867
y = -12.87ln(x) + 44.041
-5 -5
0 10 20 30 40 50 60 70 80
Cycle Adjusted PE (CAPE)
MSCI indices, US$ terms. EPS and price index deflated by US CPI to calculate CAPE. Total return is in US$, deflated by US CPI. Data
from 1980. *Japan returns are in yen terms. † Data from 1998. MSCI EPS series linked to IBES trailing EPS. Dots show current cape.
Sources: Standard & Poor’s, Bureau of Labor Statistics, Global Financial Data, Bloomberg-Barclays.The rhyme of history 10
China recovery Chart 17: Credit is under control
Total credit impulse and new loans
After being first into – then first out of – lockdown, China now appears to be normalising New Yuan Loan (LHS) China Credit Impulse (RHS)
policy. For the third time in a decade, China is pulling the policy sails in, with total 4,000 45
credit impulse rolling over for the third time in a decade. Latest official growth forecasts 3,500
40
are likewise more modest than market expectations. Unsurprisingly, pulling away
3,000
the punchbowl has brought a near term halt to Chinese outperformance. Alongside 35
2,500
President Biden taking up the anti-China spear, scratchy supply chains and some heady
RMB billion
30
valuations we remain of the view stock selection is important in China. 2,000
%
1,500
The total credit impulse appears to have peaked at the end of 2020. People’s Bank 25
of China statements suggest stability in its monetary policies in 2021 with the goal of 1,000
20
balancing between economic revival and risk prevention. Excessive credit expansion 500
would be tapered, yet banks would be encouraged to expand loans towards SMEs 0 15
and agriculture sector. China stayed away from the unconventional monetary policies
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last year during the pandemic, hence the impact of policy exit, with caution and
flexibility, is likely to be limited. Source: Bloomberg.
Economic recovery is well underway, taking into account of the substantial base effect.
However it paints an uneven picture that supply-side recovery is stronger than the Chart 18 and 19: Supply squeeze
demand side. Consumption and fixed asset investment are lagging whereas industrial Delivery times lengthening and this has led to price rises
production is back to pre-COVID levels. This is likely due to the “stay-put” policy during
China PMIs for supply delivery times China PMIs for input prices
the Chinese New Year – less travel and spending, back to work earlier from holiday. 60
Global
70
Global
China China
The week-long “Two-Sessions” meetings in March, of greater significance as it marks
the start of the new cycle of the Five-Year Plan (FYP) tackled challenges ranging from 50 60
economic recovery to the US rivalry. The meetings saw the adoption of the outline of the
14th FYP (2021-2025) for National Economic and Social Development and the Long- 40 50
Range Objectives through the Year 2035. One of the areas in spotlight is the push for tech
self-sufficiency and innovation, particularly in semiconductors and 5G technology. This is 30 40
part of the “Dual Circulation” strategy by focusing more on domestic markets, or the
internal circulation, while further opening up the economy for the external circulation. 20 30
Jan 19
Jan 19
Jan 20
Jan 21
Jan 20
Jan 21
China’s GDP target is set as above 6% for the year. While this is on the conservative
side given the market forecast of over 8%, the country now targets high-quality and
Source: Bloomberg.
sustainable growth as it continuously experiences structural economic changes. The new
economy such as consumption and services sectors, unlike traditional manufacturing and
investment-driven growth models, relies less on credit, instead more on human capital
and productivity. As indicated in the government’s annual work report, a 7% increase in
R&D over the next five years could be the right catalyst for the transition.VanEck ViewPoint™ 11
EM bonds rising interest Chart 20 and 21: Past reflation’s
EMD and GABI US IG Performance during Fed Rate hikes
Emerging markets (EM) bonds, like all asset prices, is currently driven by rising US interest 2004−2007 2015−2019
rates. For the first quarter of 2021, EM local currency and US dollar-denominated debt 170 6 145 2.5
each sold off by around 5%. This outcome is almost entirely the result of duration and 160
rising US interest rates (US rates have risen about 70 basis points YTD, and the duration of 5
U.S. Federal Reserve Target Rate, %
U.S. Federal Reserve Target Rate, %
135 2
Normalized Total Returns, %
150
Normalized Total Returns, %
the local and US dollar debt indices averages to around 6.5). Credit spreads were largely 4
140
unchanged, meaning markets saw credit risks surrounding rising rates as unchanged. 125 1.5
EM local currencies were only slightly weaker too (with Brazil the weakest, deservedly), 130 3
meaning markets were similarly not seeing rising risks coming from rising rates. 120 115 1
2
110
We think the selloff in EM debt is exaggerated. The financial media are dominated by 105 0.5
1
the idea that rising rates are adverse for risky assets, and EM debt gets subsumed in this 100
narrative. Especially because most market participants went into 2021 with a bullish 90 0 95 0
Jun 04
Aug 04
Sep 04
Oct 04
Dec 04
Jan 05
Mar 05
Apr 05
May 05
Jun 05
Aug 05
Sep 05
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Sep 15
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Sep 19
outlook on EM debt. Our strong sense, though, is that the EM debt selloff is only about
rising rates and the hit to duration that that entails, and nothing else. We would argue that GABI US IG (index 30 Jun 2004 = 100) GABI US IG (index 28 Sep 2015 = 100)
the reasons behind rising rates are actually positive for EM fundamentals. This means that EMBIG (index 30 Jun 2004 = 100) EMBIG (index 28 Sep 2015 = 100)
GBI-EM (index 30 Jun 2004 = 100) GBI-EM (index 28 Sep 2015 = 100)
the moment the rates selloff stops, EM debt will resume its strong historic performance as Federal Reserve Target Rate, % Federal Reserve Target Rate, %
fundamentals re-assert. Why do we argue rising rates positive for EM fundamentals? Source: Bloomberg, returns in US dollars. GABI US IG is J.P. Morgan Global Aggregate Bond Index (JPM GABI) US dollar
unhedged, EMBIG is J.P. Morgan EMBI Global Diversified Composite Index US dollar unhedged, GBI-EM is J.P. Morgan GBI-EM
Global Diversified Composite Index, USD Unhedged. You cannot invest directly in an index.
Rising rates are due to improved growth prospects and thus improved fundamentals.
US growth may print at 9% in 2021, with further public infrastructure spending next in the
“stimulus” parade. This demand from the US typically means larger US current account Chart 22: This is no “taper-tantrum”
deficits and thus larger surpluses in EM. It puts upward pressure on commodity prices, Two-year and ten-year US Treasury Yields, %
increases capital flow and financing, and together this all boosts global growth. And, the
2.0 2y US Treasury yield, % 10y US Treasury yield, %
pattern of recent decades, particularly the GFC, has seen EM growth outperform the crisis
and post-crisis periods. Recall that China didn’t even go into recession in 2020. We expect
1.5
the same as the world recovers from the COVID-19 crisis – EM growth outperformance.
Two final key points – EM debt normally does well during reflationary Yield (%) 1.0
environments like the current one, and Fed hikes aren’t looking likely despite the
selloff in longer-term rates. Charts 20 and 21 shows that during the last two reflations 0.5
(’04 to ’07, and ’15 to ’19). EM local and hard-currency did well. Chart 22 shows that
while US 10-year rates rose, reflecting rosier economic prospects, rates under 2 years 0.0
did not rise, reflecting a Fed that is under no pressure to hike rates.
1 Dec 20
8 Dec 20
15 Dec 20
22 Dec 20
29 Dec 20
5 Jan 21
12 Jan 21
19 Jan 21
26 Jan 21
2 Feb 21
9 Feb 21
16 Feb 21
23 Feb 21
2 Mar 21
9 Mar 21
16 Mar 21
Source: Bloomberg.The rhyme of history 12
An Australian revival Chart 23: The Australian housing market is booming
Auction Clearances Lead House Price Rises
The Fed isn’t the only central bank that might find itself between a rock and a hard Auction Clearances (LHS) Housing Prices annual change% (RHS)
place this year. Governor Powell’s biggest risk is having to climb down from uber- 90 20
relaxed policy in the face of soaring growth. A high class problem!
80 15
Here in Australia Governor Lowe could find himself in a far nastier spot. The economy
is currently travelling steadily, but with a long way to go before employment reaches 70 10
satisfactory levels. In the meantime, the chances of achieving sufficient wages growth
60 5
to hit the inflation target look forlorn.
%
%
With fiscal withdrawal already underway, and set to continue with the end of the 50 0
JobKeeper wage support programme, we’re heading back to the situation where
40 -5
monetary policy is left trying to carry the day.
30 -10
At the same time, the residential property market is going nuts, pushing housing to
unsustainable multiples of household incomes. Auction clearance rates, a leading 20 -15
indicator of prices, are hitting new records.
May 02
May 13
Dec 95
Dec 06
Dec 17
Jan 95
Jan 06
Jan 17
Oct 97
Oct 08
Oct 19
Nov 96
Aug 99
Nov 07
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Sep 98
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Governor Lowe continues to deflect on housing, saying that the RBA doesn’t target
house prices; and that any macro-prudential considerations are about bad lending and Source: Corelogic.
bank stability seemingly pushing the problem to APRA.
This is disingenuous. The problem is that, as fiscal support unwinds, the one tool Chart 24: Australian equities are expensive
encouraging the economy is interest rates. And interest rates are having a far bigger 12 month forward price to earnings ratios
impact on housing. 35 S&P500 ASX200 ASX200 with S&P500 Sector Weights
The RBA (with or without APRA’s help) needs two tools, one to target housing and 30
another to target the rest of the economy. The latter should be interest rates; with
25
offsetting lending rules to deal with housing.
20
With the Australian economy still facing a tricky road despite impressive success; and FWD P/E
equities fully priced given sectoral splits, opportunities in Australia will come from 15
those sectors outside the mega-caps and those that don’t dominate US indices such
10
as IT. It is these companies that traditionally do well in a recovery.
5
0
Jan 04
Jul 04
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Jul 19
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Jan 21
Source: IBES, Datastream, ASX, S&P, National Bureau of Economic Research. You cannot invest directly in an index.VanEck’s range of Exchange Traded Funds on ASX
Name ASX code Index Management costs (% p.a.)*
Australian Broad Based
Australian Equal Weight ETF MVW MVISTM Australia Equal Weight Index 0.35%
Australian Sector
Australian Banks ETF MVB MVISTM Australia Banks Index 0.28%
Australian Property ETF MVA MVISTM Australia A-REITs Index 0.35%
Australian Resources ETF MVR MVISTM Australia Resources Index 0.35%
Australian Small and Mid Companies
Small Companies Masters ETF MVS MVIS Small-Cap Dividend Payers Index 0.49%
S&P/ASX MidCap ETF MVE S&P/ASX MidCap 50 Index 0.45%
Australian Equity Income
Morningstar Australian Moat Income ETF DVDY Morningstar® Australia Dividend Yield Focus Index™ 0.35%
Sustainable Investing
MSCI International Sustainable Equity ETF ESGI MSCI World ex Australia ex Fossil Fuel Select SRI and Low Carbon Capped Index 0.55%
MSCI Australian Sustainable Equity ETF GRNV MSCI Australia IMI Select SRI Screened Index 0.35%
International
FTSE China A50 ETF CETF FTSE China A50 Index 0.60%
China New Economy ETF CNEW CSI MarketGrader China New Economy Index 0.95%
MSCI Multifactor Emerging Markets Equity ETF EMKT MSCI Emerging Markets Diversified Multiple-Factor Index (AUD) 0.69%
Morningstar Wide Moat ETF MOAT Morningstar® Wide Moat Focus Index™ 0.49%
Morningstar World ex Australia Wide Moat ETF GOAT Morningstar Developed Markets ex Australia Wide Moat Focus Index
® ™
0.55%
MSCI World ex Australia Quality ETF QUAL MSCI World ex Australia Quality Index 0.40%
MSCI World ex Australia Quality (Hedged) ETF QHAL MSCI World ex Australia Quality 100% Hedged to AUD Index 0.43%
MSCI International Value ETF VLUE MSCI World ex Australia Enhanced Value Top 250 Select Index 0.40%
MSCI International Small Companies Quality ETF QSML MSCI World ex Australia Small Cap Quality 150 Index 0.59%
Global Sector
FTSE Global Infrastructure (Hedged) ETF IFRA FTSE Developed Core Infrastructure 50/50 Hedged into AUD Index 0.52%
FTSE International Property (Hedged) ETF REIT FTSE EPRA Nareit Developed ex Australia Rental Index AUD Hedged 0.43%
Gold Miners ETF GDX NYSE Arca® Gold Miners Index™ 0.53%
Global Healthcare Leaders ETF HLTH MarketGrader Developed Markets (ex-Australia) Health Care AUD Index 0.45%
Australian Fixed Income
Australian Corporate Bond Plus ETF PLUS iBoxx AUD Corporates Yield Plus Mid Price Index 0.32%
Australian Floating Rate ETF FLOT Bloomberg AusBond Credit FRN 0+Yr Index 0.22%
Australian Subordinated Debt ETF SUBD iBoxx AUD Investment Grade Subordinated Debt Mid Price Index 0.29%
Thematic
Video Gaming and eSports ETF ESPO MVISTM Global Video Gaming and eSports Index (AUD) 0.55%
Global Clean Energy ETF CLNE S&P Global Clean Energy Index 0.65%
Global Income Performance Benchmark
VanEck Emerging Income Opportunities Active ETF 50% J.P. Morgan Emerging Market Bond Index Global Diversified Hedged AUD and 0.95%
EBND
(Managed Fund) 50% J.P. Morgan Government Bond-Emerging Market Index Global Diversified
*Other fees and costs apply. Please see the respective PDS.Contact us
vaneck.com.au VanEck-Australia
info@vaneck.com.au VanEck_Au
+61 2 8038 3300 VanEckAus
VanEckAustralia
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situation or needs. Read the PDS and speak with a financial adviser to determine if a fund is appropriate for your circumstances. PDS’ are available here, and detail the key risks. No member of the VanEck group of
companies guarantees the repayment of capital, the payment of income, performance, or any particular rate of return from any VanEck fund. Past performance is not a reliable indicator of future performance. VanEck
is the responsible entity and issuer of units in VanEck’s range of ETFs traded on ASX. All investments carry some level of risk. Investing in international markets has specific risks that are in addition to the typical risks
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