Federal Election 2019: a good outcome for the equity market
About the author:
- Author name:
- By Andrew Tang
- Job title:
- Analyst - Equity Strategy
- Date posted:
- 22 May 2019, 4:48 PM
- Sectors Covered:
- Equity Strategy and Quant
Consistent with recent international trends (Brexit, Trump) the polls once again got it very wrong. With so much yet to be decided, we make some quick inferences and offer some perspective on potential market impacts.
We take the political press 'as read' and infer that a minority parliament is the base case outcome:
When a minority government can be a positive outcome
Unlike the 2016 election, a minority government or even a razor thin majority may effectively be met with relief for markets. The ambitious reform agenda led by the Labour party was largely rejected by the Australian public opting for minimal change and economic conservatism.
Major market concerns around changes to negative gearing, dividend imputation and the tax code are now off the table.
Putting the economy on the agenda
The Scott Morrison government enters a new term having to contend with a softening economy and stagnant wage growth. While policy certainty will no doubt provide comfort for investors, a clear agenda on how the Coalition can turn the economy around will be key over the next few months.
Rate cuts are still on track later this year (Michael Knox expects the RBA to move in August). We’ll be watching indicators around business confidence and investment and their potential impact on employment and growth.
Will capital investment take the place of capital return?
In the run up to the election corporates have favoured returning cash on the assumption that refundable franking credits were likely to go.
Corporates favoured returning cash over capital investment so forecasts for earnings growth naturally softened.
The full year results in August will be a critical time for investors to assess whether companies have changed their behaviour on an improved political climate for investment. Without it, we suspect sub-par growth and elevated valuations will mean sub-par returns for Australian equity returns over the next few years.
Economic realities will ultimately drive the market
With the election out of the way and major economic reform off the cards, we think markets will react favourably to political certainty over the short term. Since 1980 the ASX 200/All Ords has been up on average 5.2% the 12 weeks following an election and up nearly 80% of observations.
Consistent with conventional wisdom, political certainty revives the consumer so sectors such as Retail (+1.6%), Staples (+3.7%) and Industrials (+7.7%) respond well following the result funded out of the more defensively oriented REITs (-4.0%) and Utilities (-0.9%).
But ultimately, we think that larger forces (Interest rates, Trade Disputes) will be the dominant driver of Australian market fundamentals and returns (see US S&P 500 returns over the same period).
Market performance under various governments (12 weeks following the election)
With the more controversial policy proposals gone the way of Labor's leader. Here’s what we make of the sector implications:
On dividend imputation – despite significant media attention on the refundable franking credit issue we don’t believe investors would have dramatically altered their portfolio allocation in anticipation of a policy that would have faced a difficult road through the senate.
Corporates with large franking balances that have positioned themselves to pay higher than usual returns through special dividends or buybacks may now reconsider this strategy (FLT, WOW, BHP, RIO, WPL, FMG). We also see a Coalition victory as a positive for LICs and LITs with large franking balances and have a history of strong dividend returns.
On negative gearing – restricting negative gearing to new housing stock while the property market soft was likely to exacerbate downward pressure on house prices and place stress on household balance sheets not to mention put further pressure on the economy.
The coalition has recommended no changes to the current negative gearing framework. We think the election result could further support the bottoming out of the property market. Auction clearance rates have stabilised in recent weeks, particularly in Sydney and Melbourne. With the Royal Commission out of the way, this is another piece of good news for the Banking sector.
On tax policy – The most immediate benefit to tax policy is the extension of the instant asset write off for businesses turning over up to $50m (write off a single asset up to $30k) and the Low Income Tax Offset July 1 this year individuals earning less than $37k will receive up to $255 with their tax returns, those earning between $48k and $90k will get $1080. The offset then scales down to zero for anyone earning $126,000 or more.
These measures are positive for the consumer at a critical time. While we expect pressures will remain (consumer confidence against housing market softness), this should assist at least in the short term.
Some consumer stocks have run into the budget as investors underweight the sector took selective positions. We expect further positive momentum may follow Saturday nights result. The increase in the instant asset write-off will be positive for JBH, HVN, APE, AHG, SUL and WES (Bunnings).
If you would like would like more information, please speak with a Morgans adviser, or contact your nearest Morgans office for access.
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