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macquarie.com
Investment
Matters
Shining a light on
the global economy
APRIL 2017
1
Dear investors,
Volatility is something market commentators often talk about. It’s a term used to refer
to the uncertainty or risk related to the size of change in a security price or index value.
However, if we look at markets today, it’s something that is surprisingly absent.
On 21 March, the US S&P 500 posted its first daily decline of more than 1 per cent in
23 weeks. But don’t think of this as one-sided. It was only in the past month that we
actually saw the first 1 per cent daily move, positive or negative, for 2017. To put this
in perspective, in first quarter of 2016 the S&P 500 had 26 days of movements of this
magnitude, compared to just two for the first quarter of 2017. So while sometimes we
focus on the return from point A to point B, more often than not it is how you get there
that can be just as insightful.
In this month’s edition
•	 Economic update – domestically we focus on the property market and recent
regulatory changes to lending. Globally, central bank activity dominates our update.
•	 Asset Class outlook – we continue to stress the importance of maintaining a
diversified portfolio, particularly in times when asset class valuations can appear
inflated.
•	 Market Performance – while some regional global markets took a bit of a breather
last month, overall equity markets had a solid month with domestic Australian
equities leading the way and emerging markets not far behind.
As always, we hope you find this edition of Investment Matters insightful.
Genevieve Murray, CFA
Head of Research
2
Australia
Residential property investors were firmly in the spotlight
during March. The banks pushed through another out of
cycle interest rate rise. Investor and interest only loans saw
the largest increases while owner-occupier loans increased
only marginally.
The Australian Prudential Regulation Authority (APRA) also
announced a fresh round of macroprudential measures late
in the month. Interest only loans will be limited to 30% of a
bank’s loan book, effective immediately. Current levels are
closer to 40%, so an adjustment will need to take place.
APRA did not reduce the 10% speed limit on investor
lending. This was in line with our expectations, as a
reduction here would have caused issues for the large
volume of apartments that need to settle.
Market pricing for interest rate rises next year shifted lower
during the month. The preference is clearly to lift mortgage
rates for property investors, rather than risk denting the
economy with a rate increase. Our economist continues to
look for a Melbourne Cup rate cut in November.
A lacklustre jobs report also pared bullish bets. The
unemployment rate increased from 5.7% to 5.9% following
a large decline in part-time jobs. There was also a reversal
in some leading indicators such as business conditions.
Population growth remains a critical driver for the Australian
economy. Net overseas migration has increased at the
fastest annual pace since 2012. Sydney and Melbourne
are enjoying most of the inflows with the latter also seeing
positive interstate movements.
Trends have largely reflected the economic strength of these
states over the resources downturn in Queensland and
Western Australia.
Sydney and Melbourne boosted by population
growth	
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
2010
2012
2014
2016
Combined net overseas and interstate migration
NSW/VIC QLD/WA
-40
0
40
80
120
160
1982
('000)
Source: FactSet, MWM Research, April 2017
However, our economist believes Queensland could be
set for a material uplift in interstate migration. House price
differentials between NSW / VIC and QLD have reached a
point that have historically resulted in a migration from south
to north.
We believe QLD could receive an extra 25 thousand
interstate migrants annually over the next two to four years.
This would help absorb housing stock, easing oversupply
concerns, while also giving the economy a much need
boost.
Why leave Sydney and Melbourne for Brisbane?
The employment outlook has been improving in QLD with
an increase in job advertisements. In any case, cashed up
households selling in Sydney and Melbourne will have less
pressure to enter the workforce.
Surging coal prices have also helped repair the state
government’s balance sheet, which should see less of a
fiscal drag this year. Infrastructure looks to be a medium
term driver with several QLD road projects a priority for
Infrastructure Australia.
Economic update
The preference is clearly to lift
mortgage rates for property
investors, rather than risk denting
the economy with a rate increase
Economic update | Australia
3
United States
The US Federal Reserve (Fed) followed through on a heavily
telegraphed change to interest rate policy, lifting the Federal
funds target rate to 0.75% to 1.00%. The move was largely
driven by the strengthening labour market, and inflation that
continues to approach the long-run 2% target.
Interestingly, the Fed is revising the language used in
relation to its inflation target. The focus is now on stabilising
inflation as opposed to allowing it to rise to the target.
This implies a degree of comfort with the idea that inflation,
based on the Fed’s preferred Personal Consumption
Expenditures (PCE) measure, may overshoot. The headline
consumer price index (CPI) and core CPI are sitting at 2.8%
and 2.2% respectively.
Tight labour market is producing wage growth while
inflation is approaching the long run target
%,y/y
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
Wage
growth
Core inflation
(PCE)
Long run
inflation target
Source: FactSet, MWM Research, April 2017
The unemployment rate continues to trend lower while the
underemployment rate is near cyclical lows. We expect
labour slack to continue to diminish, with the pace of jobs
gains moderating from the current run rate of 235,000
per month to 125,000 to 175,000 per month until full
employment is reached by mid-2018.
Wage pressures are building, with average pay for private
sector employees increasing 2.8% year-on-year and the
Atlanta Fed Wage Growth Tracker showing growth of 3.2%
in the 12 months to February.
Wage growth will become increasingly evident, overcoming
the headwind of elevated rates of retirement as older higher
paid workers are replaced by those who are younger
and cheaper. This will increase pressure on already rising
underlying inflation.
Ongoing labour market strength, firming wages, increasing
private sector confidence and historically low mortgage
rates are all supportive of consumer demand and improving
housing activity. However, higher inflation will limit gains to
the consumer, with real disposable income growth likely
to soften.
On balance, the US consumer is in a state of relative
financial health, and the consumer confidence index, which
just reached its highest level since July 2001, suggests they
are optimistic about the future.
A significant degree of economic uncertainty is attributable
to the path of Trump Administration policies. So far, an
ambitious policy agenda has been a tailwind to stock
prices, with much discussion of tax cuts and business
deregulation.
The timeline for subsequent reforms looks likely to stretch,
in light of the valuable time and political capital wasted on
health care reform.
The Macquarie US economics team recently cut their
forecast for the end-of-cycle Federal funds rate from 2.00%
to 1.75%. They also expect the current cycle to be shorter
and sharper, with three rate hikes in 2017 and one in 2018.
Economic update  |  United States
Economic update
A significant degree of economic
uncertainty is attributable to the path
of Trump Administration policies
4
Europe
Eurozone survey data indicates the economy continues
to strengthen. The Eurozone Manufacturing Purchasing
Managers’ Index (PMI) increased to 56.2 in March, up from
55.4 in February. New orders and manufacturing production
saw the fastest growth since April 2011.
The European Central Bank (ECB) recently upgraded its
growth forecasts on the firmer outlook. Our European
economist expects 0.5% GDP growth in the first quarter.
Headline inflation for the region is at 2% while core inflation,
the more important measure, is persistently sluggish at 1%.
Suppliers are struggling to keep up with demand, which
suggests price rises can be pushed through which could
see inflation increase later this year.
Monetary policy remains deep in unconventional territory
with the process of normalisation likely to take a number
of years. A very fine balance will need to be struck in
communicating to the market precisely how the ECB
wishes to proceed.
At the moment, forward guidance is that rates will be kept
low for an extended period of time. Any suggestion that the
ECB finds the inflation outlook troubling may produce an
undesirable bout of euro strengthening.
We think further tapering of bond purchases is likely in 2018
as the outlook improves, providing an opportunity for the
ECB to gradually exit secondary markets.
The region is also facing a busy electoral calendar, with
the French elections presenting the greatest potential for
regional destabilisation.
Manufacturing activity in Europe is gaining
momentum
2014 2015 2016 2017
Index Germany Spain France
46
48
50
52
54
56
58
60
Source: FactSet, MWM Research, April 2017
United Kingdom
Following three consecutive months of decline, UK retail
sales volumes bounced in February, taking year-on-year
growth from 1.1% to 3.7%. This may seem robust in light
of the economic and political circumstances in the UK, but
comes at the expense of household savings and increased
borrowings.
Further depreciation of the currency will see inflation
accelerate, placing additional pressure on the spending
power of consumers. Unemployment is under 5% as a
result of strong job creation in recent years, but wage
growth remains weak.
Should economic growth slow under conditions of elevated
inflation, we will likely see little further gains in employment
and weak real household income growth.
Some members of the Bank of England’s Monetary Policy
Committee are relatively sanguine about the uptick in
inflation. They struggle to find any compelling reason why
inflation should remain high once the impact of the weak
sterling has washed through.
In the business sector, survey data remains strong, with
manufacturing, services and construction sector activity
still in expansionary territory, although business investment
intentions are subdued by historical standards.
The British Parliament has passed the Brexit Bill, and Article
50 of the EU treaties has been triggered. In an interview
with the BBC, President of the European Commission Jean-
Claude Juncker commented that settlement of existing
commitments made by the UK to the EU could cost around
€60 billion.
Economic update
UK survey data remains strong,
with manufacturing, services
and construction sector activity
still in expansionary territory
Economic update  |  Europe & United Kingdom
5
China
China’s economy has surprised positively in recent months.
The National Bureau of Statistics (NBS) reports data for
January and February combined, accounting for Chinese
New Year.
Fixed asset investment rebounded to 8.9% growth in
the year to February, up from 6.3% in December, due to
infrastructure spending. Property was the biggest surprise
with sales growing at an annual pace of +23.7%.
Lower tier cities outperformed tier 1 and 2 cities, which
could result in a softer landing during the second quarter.
However, lower tier cities are inevitably overwhelmed by the
national property cycle and we expect a broad downturn
later this year.
China’s central bank increased short-term interest rates to
cool activity. Authorities announced fresh property curbs
focussed on reducing speculative activity and tightening up
loopholes. Financial stability remains paramount ahead of
the 19th National Congress.
Retail sales growth slowed to +9% in the year to February
although this was largely due to auto sales as a tax increase
had pulled forward demand last year. We are not overly
concerned here and expect auto sales to increase 5%
through the year.
We are now more cautious on China’s outlook and expect
1Q17 will be the peak for nominal GDP growth.
The Caixin Manufacturing PMI for March declined to 51.2
with indications the restocking cycle is close to its end.
The two drivers of the recent rally, property and reflation, will
likely slow from 2Q17. Producer inflation has likely peaked
and property is set to retrace later this year.
Our forecast is for GDP to deliver in line with the annual
target of 6.5% in 2017. We see greater uncertainty heading
into 2018 with a slowdown to 6.0% expected.
Japan
Japan’s aggressive monetary stimulus looks set to continue
for the foreseeable future. Headline inflation slowed to
+0.4% in the year to February, despite surging fuel costs.
Macquarie expects moderate inflation of +0.3% during
2017. This remains well below the Bank of Japan’s 2%
target. Hence, quantitative easing is set to stay in Japan
while the US and Europe tighten.
Annual wage increases have been disappointing. Japan’s
major companies negotiate wages with unions on an annual
basis with results announced in March.
Toyota, regarded as an industry wage setter, announced an
average monthly base wage increase of 1,300 yen (A$15).
This was down from increases of 1,500 in 2016 and 4,000
in 2015. Major employers Nissan, Panasonic and Mitsubishi
all announced similarly meagre wage increases.
The spring wage negotiations are a key gauge of corporate
confidence. The termination of the Trans-Pacific Partnership
(TPP), weak domestic economy and volatile currency were
likely negatives weighing on the outlook.
Business confidence was positive in March, but below
consensus forecasts given the positive backdrop. The
March manufacturing PMI showed margins are under
pressure as producers struggle to pass on cost inflation.
Business conditions have rebounded, but less
than expected
-80
-60
-40
-20
0
20
40
60
1977 1981 1985 1989 1993 1997 2001 2005 2009 2013 2017
Index
Business conditions - Large enterprises, manufacturing
Source: FactSet, MWM Research, April 2017
We expect the consumer to remain sidelined, which
will be a drag on domestic demand and inflation. Shinzo
Abe’s “third arrow” of structural reform is necessary, but
remains elusive.
We are now more cautious
on China’s outlook
Economic update
Economic update  |  China & Japan
6
Australian equities
March was a month of oscillation for Australian equities with
a late surge masking underlying volatility. Financials offset
weakness in resources through most of the month. Faith
in the reflation trade showed signs of fatigue as US policy
inaction weighed and bond yields retraced.
The earnings recovery continued through March following a
mostly positive reporting season. Upgrades were primarily
to resources, but there was a spread across other sectors
including healthcare and financials. One-year forward
earnings have now recovered to the highest level since late
2014 on the back of the resources recovery.
Earnings and valuations both near recent peaks
250
300
350
400
450
500
3,000
3,500
4,000
4,500
5,000
5,500
6,000
6,500
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
EPSIndex pts ASX 200 Price (LHS) 12m forward EPS (RHS)
Source: Iress, MWM Research, April 2017
The major banks saw earnings upgrades following repricing
of their loan books in late March. Investor loans and interest
only loans received the largest increases.
APRA announced measures towards month end to limit
interest only lending. The move was expected and reflects
the increased risk profile of investor lending as interest rates
increase while households remain highly leveraged.
Our banking team believes the repricing cycle is nearing its
end with the ability to reprice more difficult in a rising rate
environment. Deteriorating credit quality is the risk with
households overleveraged. Our bank analysts are neutral
on the sector due to full valuations.
The pending launch of Amazon into the local market has
rattled nerves in the retail sector. This escalated during March
with share prices of retailers under pressure.
Amazon will likely compete on price and delivery times while
leveraging its technology platform. Our retail team estimates
Amazon could have 25% online market share by 2025,
representing $14.5 billion in sales.
Discount department stores, electrical and appliance retailers
are most at risk. Local retailers will need to respond by
investing in price, online experience and data management.
The capital investment required to respond will weigh on store
investment. As such, we expect slower sales growth and/or
store closures.
Sentiment to retailers appears overly negative currently.
Amazon has had mixed success in Canada which we view as
a good comparison to Australia. The rollout will also likely be
gradual. Our analysts think JB Hi-Fi presents the best relative
value while Metcash could partner with Amazon in fresh food.
The mining sector is lacking catalysts following a substantial
rally and we think China has reached a cyclical high. As we
wrote last month, we remain concerned iron ore stockpiles
at mills and ports are elevated while current prices are
encouraging domestic Chinese supply. Our commodities team
retains a US$50 per tonne price forecast for 2H17.
Amazon could have 25% online
market share by 2025
Asset class outlook
Asset class outlook  |  Australian equities  
7
International equities
The Fed raised the US federal funds rate target range to
0.75% to 1.00% in March, citing inflation and labour market
strength. The market was well prepared for the move after
the Fed conscientiously telegraphed their intentions. Equity
indices displayed little reaction to the move.
The focus of investors has returned to politics, with US
equities having pulled back from recent highs. Investors are
keeping faith in President Trump for the moment despite
failing to replace Obamacare.
Policy progress thus far has not been confidence inspiring.
Difficulty in implementing tax and infrastructure policies, that
have fuelled four months of rallies, may not be met with the
same sanguine attitude.
Despite a slight softening of US equities in March, we
believe valuations still imply the smooth and successful
implementation of tax and infrastructure policies. While
impediments to these reforms do introduce downside risks,
we retain a positive outlook for the economy and particularly
the US consumer, which we believe will support continued
corporate earnings growth.
We hold an increasingly positive view on Europe. The
recovery underway in the region is becoming entrenched and
forward-looking surveys of business activity in manufacturing
and services continue to surge higher.
Labour market data is healthy, with weak wage growth
supporting corporate profitability. Overall, the economic
outlook is far better than just a year ago. Valuations are
more attractive in Europe than in the US. Earnings also have
momentum.
Analyst forecasts of earnings per share are finally seeing
consecutive months of positive revisions after years of
declines. The orange bars in the chart below show that more
analysts are revising upwards their estimates of 12-month
forward earnings growth. Financials, the largest sector, and
Materials are seeing consistent positive net revisions month-
on-month. Industrials also appear to have turned the corner.
Earnings momentum in Europe is improving along
with the economic outlook
-40
-30
-20
-10
0
10
20
30
40
-80
-60
-40
-20
0
20
40
60
80
2001 2003 2005 2007 2009 2011 2013 2015 2017
% yoyIndex
MSCI Europe analyst revisions* (LHS)
Earnings per share (RHS)
*Analyst revisions is an index constructed using the following formula:
(No. analyst upward revisions of 12-mth forward EPS - No. analyst downward
revisions of 12-mth forward EPS)/(Sum of total no. analyst revisions)
Source: FactSet, MWM Research, April 2017
The outcomes of approaching elections in Europe,
particularly France, add an element of uncertainty. Victory
for Emmanuel Macron would see preservation of the status
quo while Marine Le Pen would likely destabilise the region
and fluster financial markets. We will have a better read on
this after the first round of voting on April 23. However, we
have seen markets adjust quickly to this and accept the
new paradigm.
Asset class outlook  |  International equities  
Asset class outlook
Valuations are more attractive
in Europe than in the US
8
Real assets
We continue to prefer real assets with strong earnings
growth while avoiding bond proxies.
Our property team is positive on the residential market
in the short term, but not in the longer term. Investment
demand has rebounded strongly following the 2016 rate
cuts.
Regulators have announced new macroprudential rules
aimed at mortgage lending practices to cool activity and
address the risk of high household debt. This avoids the
need to hike interest rates, which could have negative
effects on the economy.
Bank regulator APRA has enforced tighter regulations on
interest-only loans (30% limit on total residential loan books)
while maintaining a 10% growth limit on investor lending.
The major banks increased variable rates by 25-35 basis
points (bps) for investors and 0-8 bps for owner-occupiers.
Investor loan approvals rebounded strongly in 2H2016
24.3%
(1.5%)
(30%)
(10%)
10%
30%
50%
70%
1992
1994
1996
1998
2000
2002
2004
2006
2008
2010
2012
2014
2016
% chg YoY Investor Owner-occupied
Source: ABS, Macquarie Securities, MWM Research, April 2017
Steps have also been taken to control foreign investor
activities. This includes an increase in stamp duty
surcharges and land taxes for foreign buyers and the
crackdown on illegal property sales to foreign nationals.
Most banks have also ceased lending to foreign borrowers.
Treasurer Scott Morrison has ordered forced sales of 61
Australian residential properties illegally held by foreign
nationals with a combined value of $107 million.
Concerns over rising yields and elevated valuations have
dampened sentiment to infrastructure assets in the last
year. However, the impact of rising rates depends on the
pace of the rate hikes and the asset type.
Australian infrastructure valuations returning to long
term average
10.0x
13.0x
16.0x
19.0x
22.0x
2011 2012 2013 2014 2015 2016 2017
EV/EBITDA Infra Infra - Long term avg
Source: Macquarie Securities, MWM Research, April 2017
Gradual rate increases on the back of rising inflation and
strong GDP growth tend to benefit toll roads and airports.
This is because usage increases in line with the economy.
A strong economy is likely to drive increased volumes and
inflation-linked price escalation (toll increases and airport
passenger charges). This will partially offset an increase in
financing costs.
However, rapid rate hikes, with flat/falling inflation and
sluggish GDP growth are likely to affect negatively on
usage-based assets due to lower demand. Conversely, the
impact on the availability-based assets (hospitals, schools,
urban water utilities) will be limited due to stable revenues
from the government.
Asset class outlook  |  Real Assets  
Regulatory headwinds will persist for the residential market,
in particular for the foreign investor segment
Asset class outlook
9
Fixed interest and cash
Central banks were front and center during March. The
US Federal Reserve lifted its policy rate, guiding market
expectations higher beforehand to avoid a bout of volatility.
In Europe, Mario Draghi turned incrementally hawkish with
investors focused on the asset purchase program, set to
wind up in December. China’s central bank lifted short-term
rates as the property market runs hot. The Reserve Bank of
Australia continued to highlight the risks of overleveraged
households – macroeconomic policies followed.
Global bond yields declined in spite of the US rate
rise. This was primarily due to a dovish tone in the
Fed announcement. Policy inaction from the Trump
administration also helped.
Our US economist is expecting two further rate hikes in 2017
and only one in 2018. Demographic forces are weighing on
the US economy as retirees exit the workforce. This presents
a headwind for jobs growth over the next few years.
Macquarie now forecasts a US 10-year yield of 2.3%, down
from 2.7% previously. We expect the US yield curve to
flatten as the 2-year yield rallies while the 10-year remains
range-bound. This is typical of an economic expansion.
The US remains comfortably above the classic warning sign
of an inverted yield curve which tends to lead recessions.
US yield curve to flatten but remain positive
-2.4
-2.0
-1.6
-1.2
-0.8
-0.4
0.0
0.4
0.8
1.2
1.6
2.0
2.4
2.8
3.2
'78
'80
'82
'84
'86
'88
'90
'92
'94
'96
'98
'00
'02
'04
'06
'08
'10
'12
'14
'16
(%)
US Recessions Yield curve (10yr-2yr)
Current positive curve is
consistent with continuation
of economic expansion.
Source: FactSet, MWM Research, April 2017
Outside of the US, for global bonds, we see Japan likely to
continue its monetary intervention over the coming years
while domestic demand disappoints. Europe’s monetary
expansion has peaked with a gradual withdrawal from
secondary markets expected.
High yield bonds have seen some recent spread widening.
Surging issuance ahead of the Fed rate risk, weaker oil
prices and US policy uncertainty all contributed. We note
valuations for high yield, with spreads close to post-crisis
lows. While, investment grade credit is relatively expensive,
there is a preference for higher quality credits in the current
market.
The US administration has been quiet on protectionist
measures, boosting sentiment to emerging markets.
Mexico’s peso has recouped almost all of its election
losses. While currently not front of mind for markets, we
don’t believe the protectionist threat has gone away for
some emerging markets.
Asset class outlook
Asset class outlook  |  Fixed interest and cash
Macquarie now forecasts a US
10-year yield of 2.3%, down from
2.7% previously
10
Commodities
Our commodities team recently updated Macquarie’s 2H17
price forecasts. We have shifted from neutral to bearish
on most commodities following a strong run. The team
believes there is most upside in precious metals while bulk
commodities offer the most downside in 2H17.
Macquarie sees most downside in bulk commodities
during 2H17
-40%
-30%
-20%
-10%
0%
10%
20%
MetCoal
IronOre
ThermalCoal
Lithium
Cobalt
Copper
Tin
Aluminium
Nickel
Zinc
Lead
Gold
Platinum
Silver
Bulk Other Base metals Precious
Forecast price change
2H17 vs. 1H17
Source: Macquarie Securities, MWM Research, April 2017
Iron ore remains vulnerable to oversupply and a slowdown
in China’s property and auto sectors. High demand
expectations and strong margins at steel mills have driven
iron ore inventories higher at both mills and ports. We
expect this will drag the iron ore price to average around
US$50/tonne in 2H17.
Among the precious metals, we remain constructive
on gold. Our commodities team believes the gold price
will be lower over the short term (U$1,175/ounce in 2Q
2017) supported by a generally improving US economy.
Macquarie is more bullish on gold in 2H 2017, with a higher
forecast of US$1,325/ounce in 4Q 2017. Lower US rates
for longer and geopolitical risks will support gold’s recovery
extending into late 2018, with a forecast of US$1,400.
Currencies
Our Macquarie economists forecast a slightly weaker euro
this year. This is partly due to the uncertainty of the key
European election outcomes. We expect euro to appreciate
marginally to €/U$1.09 next year as we navigate the
uncertainty.
The French election is key given the size of the economy and
importance within the Eurozone. The likelihood of populist
presidential Le Pen victory and Frexit are remote, in our view.
As such, we do not think this will lead to a breakup of the
Eurozone.
Polls point to Macron victory, but many still
undecided
0
10
20
30
40
50
%
Le Pen Fillon Macron Don't know
February 2017 March 2017
Source: Bloomberg, MWM Research, April 2017
However, if it did, it will be difficult to predict accurately
where national exchange rates would trade relative to
each other.
Our European economists estimate “this could lead to
substantial devaluations of the reintroduced domestic
currencies against each other. Greece would see a
devaluation against Germany of 30-50%; Italy 20-30%;
Spain 10-20%; France 5-15%; Netherlands and Belgium
5% in the medium term”.
These estimates considered comparative unit labour costs
across the Eurozone, internal balance (employment rate),
external trade balance and future monetary policies.
A euro break-up will lead to
substantial devaluations of the
reintroduced domestic currencies
Asset class outlook
Asset class outlook  |  Commodities & Currencies  
11
March 2017
Australian equities
The strong rally in the last week of March pushed the share
market higher, ending March with a 3.3% return. The S&P/
ASX 100 Index (+3.3%) continued to outperform the S&P/
ASX Small Ordinaries Index (+2.7%).
Sector returns were all positive, with Utilities leading the
run (+6.3%). The top performers were AGL Energy (AGL,
+9.3%) and APA Group (APA, +5.9%). Telecoms (+0.2%)
remained a laggard with Vocus Group (VOC, -1.4%)
retracing. The materials sector (+0.4%) changed little over
the last month despite a sharp fall in the iron ore price.
The performance of small cap companies diverged. While
Mesoblast (MSB, +37.4%) and Spotless Group (SPO,
+33.9%) gained strongly, Quintis (QIN, -28.8%) fell sharply
on a short-selling campaign.
International equities
US share markets were volatile, due to the uncertainties of
the new administration’s policies. The Nasdaq Composite
led with a 1.5% gain. The S&P 500 Index was flat and the
Dow Jones was down 0.7%.
Major European markets rallied strongly. Spain IBEX index
(+10.6%) was the top performer, followed by Italy (MIB
30 Index, +8.3%), France (CAC 40 Index, +5.6%), and
Germany (DAX Index, +4.0%). UK was notably weaker,
adding 0.8% over March.
Asian share markets performance diverged. While Hong
Kong’s Hang Seng was up 1.6%, both Japan’s Nikkei
(-1.1%) and China’s Shanghai Composite (-0.6%) drifted
lower.
Property
Australian REITs increased 0.6% during March. Charter Hall
Group (CHC, +4.9%) and Abacus Property (ABP, +4.5%)
pushed the sector higher, offsetting the poor performers
Stockland (-1.7%) and Vicinity Centres (VCX, -2.1%).
Fixed interest and cash
Australia’s 10-year bond yield was slightly down from its
recent high, ending March at 2.7%. The US 10-year yield
also finished lower at 2.4%.
The Bloomberg Composite Bond Index returned 0.4%
with government bonds (+0.5%) marginally underperforming
corporate bonds (+0.6%). Short-term (0-3-year) and
long-term (+10-year) bonds delivered 0.3% and 0.9%
respectively.
Currency
The $A/$US traded lower to 0.7630. The Australian dollar
also depreciated against other currencies, including UK
Pound (-1.8%, 0.6076), Japanese Yen (-1.6%, 85), and
euro (-1.1%, 0.7158). However the $A/$NZ was up 2.3%
to 1.0889.
Market Performance – March 2017
3.3
2.7
1.2
0.8
3.0
0.6
0.4
0.0
0.2
13.7
12.8
16.5
15.1
6.0
2.1
1.0
1.9
0 5 10 15 20 25
Aust Equities
Aust Small
Companies
Int'l Dev Mkt
Equities (Unhedged)
Int'l Dev Mkt Equities
(Hedged)
Int'l Emerg Mkt
Equities (Unhedged)
Australian Listed
Property
Australian Fixed Int
Int'l Fixed Int
(Hedged)
Cash
Return %
1 month 12 months
20.5
Source: IRESS, Bloomberg, MWM Research, April 2017
Monthly performance
Monthly performance 
12
Market performance – March 2017
Market Indices
31 March 2017
1 month
%
3 month
%
1 year
%
3 year
%pa
5 year
%pa
Australian Shares
S&P/ASX 200 Accumulation 3.32 4.82 20.49 7.53 11.10
S&P/ASX 200 2.67 3.51 15.39 2.82 6.23
All Industrials Accumulation 3.84 5.31 17.45 9.84 15.22
All Resources Accumulation 0.66 2.29 40.54 -2.80 -2.96
All Industrials 3.33 4.08 12.13 4.84 9.83
All Resources -0.70 0.62 36.94 -6.21 -6.11
S&P/ASX 100 Accumulation 3.34 5.06 21.01 7.62 11.63
S&P/ASX Small Ordinaries 2.66 1.46 13.67 6.44 2.28
International Shares
MSCI World Index Hedged in A$ 0.84 5.18 16.52 8.10 11.39
MSCI World Index (A$ Unhedged) 1.24 -0.09 12.84 10.32 13.91
MSCI Emerging Markets (A$ Unhedged) 2.98 5.11 15.12 5.39 4.59
Regional Markets (local currency returns)
Dow Jones -0.72 4.56 16.84 7.88 9.36
S&P 500 -0.04 5.53 14.71 8.06 10.90
Toronto Comp 0.54 1.70 15.22 2.74 4.64
Nikkei -1.10 -1.07 12.83 8.44 13.40
Dax 3.98 7.25 23.55 8.82 12.13
FTSE 100 0.82 2.52 18.59 3.53 4.89
Hang Seng 1.56 9.60 16.05 2.87 3.24
NZSE 50 -0.82 3.09 2.38 7.09 10.43
Property
S&P/ASX 200 Property Trust Accumulation 0.62 -0.28 6.02 16.69 16.88
Cash and Bonds
Bloomberg Composite Bond All Maturities 0.44 1.23 2.09 4.98 5.05
Bloomberg Bank Bill Index 0.15 0.44 1.94 2.30 2.65
Citigroup World Government Bond Index
Hedged
-0.05 0.25 0.97 5.68 5.82
Citigroup World Government Bond Index
Unhedged
0.94 -3.61 -2.84 5.43 5.69
Source: IRESS, Bloomberg, MWM Research, April 2017
Monthly performance
13
Investment Matters April 2017 was finalised 5 April 2017
The analyst principally responsible for the preparation of this research receives compensation based on overall revenues of Macquarie Group Limited ABN
94 122 169 279 AFSL 318062 (“MGL”) and its related entities (the “Macquarie Group”, “We” or “Us”) and has taken reasonable care to achieve and maintain
independence and objectivity in making any recommendations. No part of the compensation of the analyst is directly or indirectly related to the inclusion of
specific recommendations or views in this research.
This research has been issued and is distributed in Australia by Macquarie Equities Limited ABN 41 002 574 923 AFSL 237504. It does not take account of
your objectives, financial situation or needs. Before acting on this general advice, you should consider if it is appropriate for you. We recommend you obtain
financial, legal and taxation advice before making any financial investment decision. It has been prepared for the use of the clients of the Macquarie Group
and must not be copied, either in whole or in part, or distributed to any other person.
Nothing in this research shall be construed as a solicitation to buy or sell any security or product, or to engage in or refrain from engaging in any transaction.
This research is based on information obtained from sources believed to be reliable, but we does not make any representation or warranty that it is
accurate, complete or up to date. We accept no obligation to correct or update the information or opinions in it. Opinions expressed are subject to change
without notice. We accept no liability whatsoever for any direct, indirect, consequential or other loss arising from any use of this research and/or further
communication in relation to this research.
We have established and implemented a conflicts policy at group level, which may be revised and updated from time to time, pursuant to regulatory
requirements, which sets out how we must seek to identify and manage all material conflicts of interest. Our officers and employees may have conflicting
roles in the financial products referred to in this research and, as such, may effect transactions which are not consistent with the recommendations (if any)
in this research. We may receive fees, brokerage or commissions for acting in those capacities and the reader should assume that this is the case. Our
employees or officers may provide oral or written opinions to its clients which are contrary to the opinions expressed in this research.
Important disclosure information regarding the subject companies covered in this report is available at macquarie.com/disclosures.

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Mpb investment matters apr 2017

  • 1. 1 macquarie.com Investment Matters Shining a light on the global economy APRIL 2017
  • 2. 1 Dear investors, Volatility is something market commentators often talk about. It’s a term used to refer to the uncertainty or risk related to the size of change in a security price or index value. However, if we look at markets today, it’s something that is surprisingly absent. On 21 March, the US S&P 500 posted its first daily decline of more than 1 per cent in 23 weeks. But don’t think of this as one-sided. It was only in the past month that we actually saw the first 1 per cent daily move, positive or negative, for 2017. To put this in perspective, in first quarter of 2016 the S&P 500 had 26 days of movements of this magnitude, compared to just two for the first quarter of 2017. So while sometimes we focus on the return from point A to point B, more often than not it is how you get there that can be just as insightful. In this month’s edition • Economic update – domestically we focus on the property market and recent regulatory changes to lending. Globally, central bank activity dominates our update. • Asset Class outlook – we continue to stress the importance of maintaining a diversified portfolio, particularly in times when asset class valuations can appear inflated. • Market Performance – while some regional global markets took a bit of a breather last month, overall equity markets had a solid month with domestic Australian equities leading the way and emerging markets not far behind. As always, we hope you find this edition of Investment Matters insightful. Genevieve Murray, CFA Head of Research
  • 3. 2 Australia Residential property investors were firmly in the spotlight during March. The banks pushed through another out of cycle interest rate rise. Investor and interest only loans saw the largest increases while owner-occupier loans increased only marginally. The Australian Prudential Regulation Authority (APRA) also announced a fresh round of macroprudential measures late in the month. Interest only loans will be limited to 30% of a bank’s loan book, effective immediately. Current levels are closer to 40%, so an adjustment will need to take place. APRA did not reduce the 10% speed limit on investor lending. This was in line with our expectations, as a reduction here would have caused issues for the large volume of apartments that need to settle. Market pricing for interest rate rises next year shifted lower during the month. The preference is clearly to lift mortgage rates for property investors, rather than risk denting the economy with a rate increase. Our economist continues to look for a Melbourne Cup rate cut in November. A lacklustre jobs report also pared bullish bets. The unemployment rate increased from 5.7% to 5.9% following a large decline in part-time jobs. There was also a reversal in some leading indicators such as business conditions. Population growth remains a critical driver for the Australian economy. Net overseas migration has increased at the fastest annual pace since 2012. Sydney and Melbourne are enjoying most of the inflows with the latter also seeing positive interstate movements. Trends have largely reflected the economic strength of these states over the resources downturn in Queensland and Western Australia. Sydney and Melbourne boosted by population growth 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 Combined net overseas and interstate migration NSW/VIC QLD/WA -40 0 40 80 120 160 1982 ('000) Source: FactSet, MWM Research, April 2017 However, our economist believes Queensland could be set for a material uplift in interstate migration. House price differentials between NSW / VIC and QLD have reached a point that have historically resulted in a migration from south to north. We believe QLD could receive an extra 25 thousand interstate migrants annually over the next two to four years. This would help absorb housing stock, easing oversupply concerns, while also giving the economy a much need boost. Why leave Sydney and Melbourne for Brisbane? The employment outlook has been improving in QLD with an increase in job advertisements. In any case, cashed up households selling in Sydney and Melbourne will have less pressure to enter the workforce. Surging coal prices have also helped repair the state government’s balance sheet, which should see less of a fiscal drag this year. Infrastructure looks to be a medium term driver with several QLD road projects a priority for Infrastructure Australia. Economic update The preference is clearly to lift mortgage rates for property investors, rather than risk denting the economy with a rate increase Economic update | Australia
  • 4. 3 United States The US Federal Reserve (Fed) followed through on a heavily telegraphed change to interest rate policy, lifting the Federal funds target rate to 0.75% to 1.00%. The move was largely driven by the strengthening labour market, and inflation that continues to approach the long-run 2% target. Interestingly, the Fed is revising the language used in relation to its inflation target. The focus is now on stabilising inflation as opposed to allowing it to rise to the target. This implies a degree of comfort with the idea that inflation, based on the Fed’s preferred Personal Consumption Expenditures (PCE) measure, may overshoot. The headline consumer price index (CPI) and core CPI are sitting at 2.8% and 2.2% respectively. Tight labour market is producing wage growth while inflation is approaching the long run target %,y/y 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0 4.5 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Wage growth Core inflation (PCE) Long run inflation target Source: FactSet, MWM Research, April 2017 The unemployment rate continues to trend lower while the underemployment rate is near cyclical lows. We expect labour slack to continue to diminish, with the pace of jobs gains moderating from the current run rate of 235,000 per month to 125,000 to 175,000 per month until full employment is reached by mid-2018. Wage pressures are building, with average pay for private sector employees increasing 2.8% year-on-year and the Atlanta Fed Wage Growth Tracker showing growth of 3.2% in the 12 months to February. Wage growth will become increasingly evident, overcoming the headwind of elevated rates of retirement as older higher paid workers are replaced by those who are younger and cheaper. This will increase pressure on already rising underlying inflation. Ongoing labour market strength, firming wages, increasing private sector confidence and historically low mortgage rates are all supportive of consumer demand and improving housing activity. However, higher inflation will limit gains to the consumer, with real disposable income growth likely to soften. On balance, the US consumer is in a state of relative financial health, and the consumer confidence index, which just reached its highest level since July 2001, suggests they are optimistic about the future. A significant degree of economic uncertainty is attributable to the path of Trump Administration policies. So far, an ambitious policy agenda has been a tailwind to stock prices, with much discussion of tax cuts and business deregulation. The timeline for subsequent reforms looks likely to stretch, in light of the valuable time and political capital wasted on health care reform. The Macquarie US economics team recently cut their forecast for the end-of-cycle Federal funds rate from 2.00% to 1.75%. They also expect the current cycle to be shorter and sharper, with three rate hikes in 2017 and one in 2018. Economic update  |  United States Economic update A significant degree of economic uncertainty is attributable to the path of Trump Administration policies
  • 5. 4 Europe Eurozone survey data indicates the economy continues to strengthen. The Eurozone Manufacturing Purchasing Managers’ Index (PMI) increased to 56.2 in March, up from 55.4 in February. New orders and manufacturing production saw the fastest growth since April 2011. The European Central Bank (ECB) recently upgraded its growth forecasts on the firmer outlook. Our European economist expects 0.5% GDP growth in the first quarter. Headline inflation for the region is at 2% while core inflation, the more important measure, is persistently sluggish at 1%. Suppliers are struggling to keep up with demand, which suggests price rises can be pushed through which could see inflation increase later this year. Monetary policy remains deep in unconventional territory with the process of normalisation likely to take a number of years. A very fine balance will need to be struck in communicating to the market precisely how the ECB wishes to proceed. At the moment, forward guidance is that rates will be kept low for an extended period of time. Any suggestion that the ECB finds the inflation outlook troubling may produce an undesirable bout of euro strengthening. We think further tapering of bond purchases is likely in 2018 as the outlook improves, providing an opportunity for the ECB to gradually exit secondary markets. The region is also facing a busy electoral calendar, with the French elections presenting the greatest potential for regional destabilisation. Manufacturing activity in Europe is gaining momentum 2014 2015 2016 2017 Index Germany Spain France 46 48 50 52 54 56 58 60 Source: FactSet, MWM Research, April 2017 United Kingdom Following three consecutive months of decline, UK retail sales volumes bounced in February, taking year-on-year growth from 1.1% to 3.7%. This may seem robust in light of the economic and political circumstances in the UK, but comes at the expense of household savings and increased borrowings. Further depreciation of the currency will see inflation accelerate, placing additional pressure on the spending power of consumers. Unemployment is under 5% as a result of strong job creation in recent years, but wage growth remains weak. Should economic growth slow under conditions of elevated inflation, we will likely see little further gains in employment and weak real household income growth. Some members of the Bank of England’s Monetary Policy Committee are relatively sanguine about the uptick in inflation. They struggle to find any compelling reason why inflation should remain high once the impact of the weak sterling has washed through. In the business sector, survey data remains strong, with manufacturing, services and construction sector activity still in expansionary territory, although business investment intentions are subdued by historical standards. The British Parliament has passed the Brexit Bill, and Article 50 of the EU treaties has been triggered. In an interview with the BBC, President of the European Commission Jean- Claude Juncker commented that settlement of existing commitments made by the UK to the EU could cost around €60 billion. Economic update UK survey data remains strong, with manufacturing, services and construction sector activity still in expansionary territory Economic update  |  Europe & United Kingdom
  • 6. 5 China China’s economy has surprised positively in recent months. The National Bureau of Statistics (NBS) reports data for January and February combined, accounting for Chinese New Year. Fixed asset investment rebounded to 8.9% growth in the year to February, up from 6.3% in December, due to infrastructure spending. Property was the biggest surprise with sales growing at an annual pace of +23.7%. Lower tier cities outperformed tier 1 and 2 cities, which could result in a softer landing during the second quarter. However, lower tier cities are inevitably overwhelmed by the national property cycle and we expect a broad downturn later this year. China’s central bank increased short-term interest rates to cool activity. Authorities announced fresh property curbs focussed on reducing speculative activity and tightening up loopholes. Financial stability remains paramount ahead of the 19th National Congress. Retail sales growth slowed to +9% in the year to February although this was largely due to auto sales as a tax increase had pulled forward demand last year. We are not overly concerned here and expect auto sales to increase 5% through the year. We are now more cautious on China’s outlook and expect 1Q17 will be the peak for nominal GDP growth. The Caixin Manufacturing PMI for March declined to 51.2 with indications the restocking cycle is close to its end. The two drivers of the recent rally, property and reflation, will likely slow from 2Q17. Producer inflation has likely peaked and property is set to retrace later this year. Our forecast is for GDP to deliver in line with the annual target of 6.5% in 2017. We see greater uncertainty heading into 2018 with a slowdown to 6.0% expected. Japan Japan’s aggressive monetary stimulus looks set to continue for the foreseeable future. Headline inflation slowed to +0.4% in the year to February, despite surging fuel costs. Macquarie expects moderate inflation of +0.3% during 2017. This remains well below the Bank of Japan’s 2% target. Hence, quantitative easing is set to stay in Japan while the US and Europe tighten. Annual wage increases have been disappointing. Japan’s major companies negotiate wages with unions on an annual basis with results announced in March. Toyota, regarded as an industry wage setter, announced an average monthly base wage increase of 1,300 yen (A$15). This was down from increases of 1,500 in 2016 and 4,000 in 2015. Major employers Nissan, Panasonic and Mitsubishi all announced similarly meagre wage increases. The spring wage negotiations are a key gauge of corporate confidence. The termination of the Trans-Pacific Partnership (TPP), weak domestic economy and volatile currency were likely negatives weighing on the outlook. Business confidence was positive in March, but below consensus forecasts given the positive backdrop. The March manufacturing PMI showed margins are under pressure as producers struggle to pass on cost inflation. Business conditions have rebounded, but less than expected -80 -60 -40 -20 0 20 40 60 1977 1981 1985 1989 1993 1997 2001 2005 2009 2013 2017 Index Business conditions - Large enterprises, manufacturing Source: FactSet, MWM Research, April 2017 We expect the consumer to remain sidelined, which will be a drag on domestic demand and inflation. Shinzo Abe’s “third arrow” of structural reform is necessary, but remains elusive. We are now more cautious on China’s outlook Economic update Economic update  |  China & Japan
  • 7. 6 Australian equities March was a month of oscillation for Australian equities with a late surge masking underlying volatility. Financials offset weakness in resources through most of the month. Faith in the reflation trade showed signs of fatigue as US policy inaction weighed and bond yields retraced. The earnings recovery continued through March following a mostly positive reporting season. Upgrades were primarily to resources, but there was a spread across other sectors including healthcare and financials. One-year forward earnings have now recovered to the highest level since late 2014 on the back of the resources recovery. Earnings and valuations both near recent peaks 250 300 350 400 450 500 3,000 3,500 4,000 4,500 5,000 5,500 6,000 6,500 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 EPSIndex pts ASX 200 Price (LHS) 12m forward EPS (RHS) Source: Iress, MWM Research, April 2017 The major banks saw earnings upgrades following repricing of their loan books in late March. Investor loans and interest only loans received the largest increases. APRA announced measures towards month end to limit interest only lending. The move was expected and reflects the increased risk profile of investor lending as interest rates increase while households remain highly leveraged. Our banking team believes the repricing cycle is nearing its end with the ability to reprice more difficult in a rising rate environment. Deteriorating credit quality is the risk with households overleveraged. Our bank analysts are neutral on the sector due to full valuations. The pending launch of Amazon into the local market has rattled nerves in the retail sector. This escalated during March with share prices of retailers under pressure. Amazon will likely compete on price and delivery times while leveraging its technology platform. Our retail team estimates Amazon could have 25% online market share by 2025, representing $14.5 billion in sales. Discount department stores, electrical and appliance retailers are most at risk. Local retailers will need to respond by investing in price, online experience and data management. The capital investment required to respond will weigh on store investment. As such, we expect slower sales growth and/or store closures. Sentiment to retailers appears overly negative currently. Amazon has had mixed success in Canada which we view as a good comparison to Australia. The rollout will also likely be gradual. Our analysts think JB Hi-Fi presents the best relative value while Metcash could partner with Amazon in fresh food. The mining sector is lacking catalysts following a substantial rally and we think China has reached a cyclical high. As we wrote last month, we remain concerned iron ore stockpiles at mills and ports are elevated while current prices are encouraging domestic Chinese supply. Our commodities team retains a US$50 per tonne price forecast for 2H17. Amazon could have 25% online market share by 2025 Asset class outlook Asset class outlook  |  Australian equities  
  • 8. 7 International equities The Fed raised the US federal funds rate target range to 0.75% to 1.00% in March, citing inflation and labour market strength. The market was well prepared for the move after the Fed conscientiously telegraphed their intentions. Equity indices displayed little reaction to the move. The focus of investors has returned to politics, with US equities having pulled back from recent highs. Investors are keeping faith in President Trump for the moment despite failing to replace Obamacare. Policy progress thus far has not been confidence inspiring. Difficulty in implementing tax and infrastructure policies, that have fuelled four months of rallies, may not be met with the same sanguine attitude. Despite a slight softening of US equities in March, we believe valuations still imply the smooth and successful implementation of tax and infrastructure policies. While impediments to these reforms do introduce downside risks, we retain a positive outlook for the economy and particularly the US consumer, which we believe will support continued corporate earnings growth. We hold an increasingly positive view on Europe. The recovery underway in the region is becoming entrenched and forward-looking surveys of business activity in manufacturing and services continue to surge higher. Labour market data is healthy, with weak wage growth supporting corporate profitability. Overall, the economic outlook is far better than just a year ago. Valuations are more attractive in Europe than in the US. Earnings also have momentum. Analyst forecasts of earnings per share are finally seeing consecutive months of positive revisions after years of declines. The orange bars in the chart below show that more analysts are revising upwards their estimates of 12-month forward earnings growth. Financials, the largest sector, and Materials are seeing consistent positive net revisions month- on-month. Industrials also appear to have turned the corner. Earnings momentum in Europe is improving along with the economic outlook -40 -30 -20 -10 0 10 20 30 40 -80 -60 -40 -20 0 20 40 60 80 2001 2003 2005 2007 2009 2011 2013 2015 2017 % yoyIndex MSCI Europe analyst revisions* (LHS) Earnings per share (RHS) *Analyst revisions is an index constructed using the following formula: (No. analyst upward revisions of 12-mth forward EPS - No. analyst downward revisions of 12-mth forward EPS)/(Sum of total no. analyst revisions) Source: FactSet, MWM Research, April 2017 The outcomes of approaching elections in Europe, particularly France, add an element of uncertainty. Victory for Emmanuel Macron would see preservation of the status quo while Marine Le Pen would likely destabilise the region and fluster financial markets. We will have a better read on this after the first round of voting on April 23. However, we have seen markets adjust quickly to this and accept the new paradigm. Asset class outlook  |  International equities   Asset class outlook Valuations are more attractive in Europe than in the US
  • 9. 8 Real assets We continue to prefer real assets with strong earnings growth while avoiding bond proxies. Our property team is positive on the residential market in the short term, but not in the longer term. Investment demand has rebounded strongly following the 2016 rate cuts. Regulators have announced new macroprudential rules aimed at mortgage lending practices to cool activity and address the risk of high household debt. This avoids the need to hike interest rates, which could have negative effects on the economy. Bank regulator APRA has enforced tighter regulations on interest-only loans (30% limit on total residential loan books) while maintaining a 10% growth limit on investor lending. The major banks increased variable rates by 25-35 basis points (bps) for investors and 0-8 bps for owner-occupiers. Investor loan approvals rebounded strongly in 2H2016 24.3% (1.5%) (30%) (10%) 10% 30% 50% 70% 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 % chg YoY Investor Owner-occupied Source: ABS, Macquarie Securities, MWM Research, April 2017 Steps have also been taken to control foreign investor activities. This includes an increase in stamp duty surcharges and land taxes for foreign buyers and the crackdown on illegal property sales to foreign nationals. Most banks have also ceased lending to foreign borrowers. Treasurer Scott Morrison has ordered forced sales of 61 Australian residential properties illegally held by foreign nationals with a combined value of $107 million. Concerns over rising yields and elevated valuations have dampened sentiment to infrastructure assets in the last year. However, the impact of rising rates depends on the pace of the rate hikes and the asset type. Australian infrastructure valuations returning to long term average 10.0x 13.0x 16.0x 19.0x 22.0x 2011 2012 2013 2014 2015 2016 2017 EV/EBITDA Infra Infra - Long term avg Source: Macquarie Securities, MWM Research, April 2017 Gradual rate increases on the back of rising inflation and strong GDP growth tend to benefit toll roads and airports. This is because usage increases in line with the economy. A strong economy is likely to drive increased volumes and inflation-linked price escalation (toll increases and airport passenger charges). This will partially offset an increase in financing costs. However, rapid rate hikes, with flat/falling inflation and sluggish GDP growth are likely to affect negatively on usage-based assets due to lower demand. Conversely, the impact on the availability-based assets (hospitals, schools, urban water utilities) will be limited due to stable revenues from the government. Asset class outlook  |  Real Assets   Regulatory headwinds will persist for the residential market, in particular for the foreign investor segment Asset class outlook
  • 10. 9 Fixed interest and cash Central banks were front and center during March. The US Federal Reserve lifted its policy rate, guiding market expectations higher beforehand to avoid a bout of volatility. In Europe, Mario Draghi turned incrementally hawkish with investors focused on the asset purchase program, set to wind up in December. China’s central bank lifted short-term rates as the property market runs hot. The Reserve Bank of Australia continued to highlight the risks of overleveraged households – macroeconomic policies followed. Global bond yields declined in spite of the US rate rise. This was primarily due to a dovish tone in the Fed announcement. Policy inaction from the Trump administration also helped. Our US economist is expecting two further rate hikes in 2017 and only one in 2018. Demographic forces are weighing on the US economy as retirees exit the workforce. This presents a headwind for jobs growth over the next few years. Macquarie now forecasts a US 10-year yield of 2.3%, down from 2.7% previously. We expect the US yield curve to flatten as the 2-year yield rallies while the 10-year remains range-bound. This is typical of an economic expansion. The US remains comfortably above the classic warning sign of an inverted yield curve which tends to lead recessions. US yield curve to flatten but remain positive -2.4 -2.0 -1.6 -1.2 -0.8 -0.4 0.0 0.4 0.8 1.2 1.6 2.0 2.4 2.8 3.2 '78 '80 '82 '84 '86 '88 '90 '92 '94 '96 '98 '00 '02 '04 '06 '08 '10 '12 '14 '16 (%) US Recessions Yield curve (10yr-2yr) Current positive curve is consistent with continuation of economic expansion. Source: FactSet, MWM Research, April 2017 Outside of the US, for global bonds, we see Japan likely to continue its monetary intervention over the coming years while domestic demand disappoints. Europe’s monetary expansion has peaked with a gradual withdrawal from secondary markets expected. High yield bonds have seen some recent spread widening. Surging issuance ahead of the Fed rate risk, weaker oil prices and US policy uncertainty all contributed. We note valuations for high yield, with spreads close to post-crisis lows. While, investment grade credit is relatively expensive, there is a preference for higher quality credits in the current market. The US administration has been quiet on protectionist measures, boosting sentiment to emerging markets. Mexico’s peso has recouped almost all of its election losses. While currently not front of mind for markets, we don’t believe the protectionist threat has gone away for some emerging markets. Asset class outlook Asset class outlook  |  Fixed interest and cash Macquarie now forecasts a US 10-year yield of 2.3%, down from 2.7% previously
  • 11. 10 Commodities Our commodities team recently updated Macquarie’s 2H17 price forecasts. We have shifted from neutral to bearish on most commodities following a strong run. The team believes there is most upside in precious metals while bulk commodities offer the most downside in 2H17. Macquarie sees most downside in bulk commodities during 2H17 -40% -30% -20% -10% 0% 10% 20% MetCoal IronOre ThermalCoal Lithium Cobalt Copper Tin Aluminium Nickel Zinc Lead Gold Platinum Silver Bulk Other Base metals Precious Forecast price change 2H17 vs. 1H17 Source: Macquarie Securities, MWM Research, April 2017 Iron ore remains vulnerable to oversupply and a slowdown in China’s property and auto sectors. High demand expectations and strong margins at steel mills have driven iron ore inventories higher at both mills and ports. We expect this will drag the iron ore price to average around US$50/tonne in 2H17. Among the precious metals, we remain constructive on gold. Our commodities team believes the gold price will be lower over the short term (U$1,175/ounce in 2Q 2017) supported by a generally improving US economy. Macquarie is more bullish on gold in 2H 2017, with a higher forecast of US$1,325/ounce in 4Q 2017. Lower US rates for longer and geopolitical risks will support gold’s recovery extending into late 2018, with a forecast of US$1,400. Currencies Our Macquarie economists forecast a slightly weaker euro this year. This is partly due to the uncertainty of the key European election outcomes. We expect euro to appreciate marginally to €/U$1.09 next year as we navigate the uncertainty. The French election is key given the size of the economy and importance within the Eurozone. The likelihood of populist presidential Le Pen victory and Frexit are remote, in our view. As such, we do not think this will lead to a breakup of the Eurozone. Polls point to Macron victory, but many still undecided 0 10 20 30 40 50 % Le Pen Fillon Macron Don't know February 2017 March 2017 Source: Bloomberg, MWM Research, April 2017 However, if it did, it will be difficult to predict accurately where national exchange rates would trade relative to each other. Our European economists estimate “this could lead to substantial devaluations of the reintroduced domestic currencies against each other. Greece would see a devaluation against Germany of 30-50%; Italy 20-30%; Spain 10-20%; France 5-15%; Netherlands and Belgium 5% in the medium term”. These estimates considered comparative unit labour costs across the Eurozone, internal balance (employment rate), external trade balance and future monetary policies. A euro break-up will lead to substantial devaluations of the reintroduced domestic currencies Asset class outlook Asset class outlook  |  Commodities & Currencies  
  • 12. 11 March 2017 Australian equities The strong rally in the last week of March pushed the share market higher, ending March with a 3.3% return. The S&P/ ASX 100 Index (+3.3%) continued to outperform the S&P/ ASX Small Ordinaries Index (+2.7%). Sector returns were all positive, with Utilities leading the run (+6.3%). The top performers were AGL Energy (AGL, +9.3%) and APA Group (APA, +5.9%). Telecoms (+0.2%) remained a laggard with Vocus Group (VOC, -1.4%) retracing. The materials sector (+0.4%) changed little over the last month despite a sharp fall in the iron ore price. The performance of small cap companies diverged. While Mesoblast (MSB, +37.4%) and Spotless Group (SPO, +33.9%) gained strongly, Quintis (QIN, -28.8%) fell sharply on a short-selling campaign. International equities US share markets were volatile, due to the uncertainties of the new administration’s policies. The Nasdaq Composite led with a 1.5% gain. The S&P 500 Index was flat and the Dow Jones was down 0.7%. Major European markets rallied strongly. Spain IBEX index (+10.6%) was the top performer, followed by Italy (MIB 30 Index, +8.3%), France (CAC 40 Index, +5.6%), and Germany (DAX Index, +4.0%). UK was notably weaker, adding 0.8% over March. Asian share markets performance diverged. While Hong Kong’s Hang Seng was up 1.6%, both Japan’s Nikkei (-1.1%) and China’s Shanghai Composite (-0.6%) drifted lower. Property Australian REITs increased 0.6% during March. Charter Hall Group (CHC, +4.9%) and Abacus Property (ABP, +4.5%) pushed the sector higher, offsetting the poor performers Stockland (-1.7%) and Vicinity Centres (VCX, -2.1%). Fixed interest and cash Australia’s 10-year bond yield was slightly down from its recent high, ending March at 2.7%. The US 10-year yield also finished lower at 2.4%. The Bloomberg Composite Bond Index returned 0.4% with government bonds (+0.5%) marginally underperforming corporate bonds (+0.6%). Short-term (0-3-year) and long-term (+10-year) bonds delivered 0.3% and 0.9% respectively. Currency The $A/$US traded lower to 0.7630. The Australian dollar also depreciated against other currencies, including UK Pound (-1.8%, 0.6076), Japanese Yen (-1.6%, 85), and euro (-1.1%, 0.7158). However the $A/$NZ was up 2.3% to 1.0889. Market Performance – March 2017 3.3 2.7 1.2 0.8 3.0 0.6 0.4 0.0 0.2 13.7 12.8 16.5 15.1 6.0 2.1 1.0 1.9 0 5 10 15 20 25 Aust Equities Aust Small Companies Int'l Dev Mkt Equities (Unhedged) Int'l Dev Mkt Equities (Hedged) Int'l Emerg Mkt Equities (Unhedged) Australian Listed Property Australian Fixed Int Int'l Fixed Int (Hedged) Cash Return % 1 month 12 months 20.5 Source: IRESS, Bloomberg, MWM Research, April 2017 Monthly performance Monthly performance 
  • 13. 12 Market performance – March 2017 Market Indices 31 March 2017 1 month % 3 month % 1 year % 3 year %pa 5 year %pa Australian Shares S&P/ASX 200 Accumulation 3.32 4.82 20.49 7.53 11.10 S&P/ASX 200 2.67 3.51 15.39 2.82 6.23 All Industrials Accumulation 3.84 5.31 17.45 9.84 15.22 All Resources Accumulation 0.66 2.29 40.54 -2.80 -2.96 All Industrials 3.33 4.08 12.13 4.84 9.83 All Resources -0.70 0.62 36.94 -6.21 -6.11 S&P/ASX 100 Accumulation 3.34 5.06 21.01 7.62 11.63 S&P/ASX Small Ordinaries 2.66 1.46 13.67 6.44 2.28 International Shares MSCI World Index Hedged in A$ 0.84 5.18 16.52 8.10 11.39 MSCI World Index (A$ Unhedged) 1.24 -0.09 12.84 10.32 13.91 MSCI Emerging Markets (A$ Unhedged) 2.98 5.11 15.12 5.39 4.59 Regional Markets (local currency returns) Dow Jones -0.72 4.56 16.84 7.88 9.36 S&P 500 -0.04 5.53 14.71 8.06 10.90 Toronto Comp 0.54 1.70 15.22 2.74 4.64 Nikkei -1.10 -1.07 12.83 8.44 13.40 Dax 3.98 7.25 23.55 8.82 12.13 FTSE 100 0.82 2.52 18.59 3.53 4.89 Hang Seng 1.56 9.60 16.05 2.87 3.24 NZSE 50 -0.82 3.09 2.38 7.09 10.43 Property S&P/ASX 200 Property Trust Accumulation 0.62 -0.28 6.02 16.69 16.88 Cash and Bonds Bloomberg Composite Bond All Maturities 0.44 1.23 2.09 4.98 5.05 Bloomberg Bank Bill Index 0.15 0.44 1.94 2.30 2.65 Citigroup World Government Bond Index Hedged -0.05 0.25 0.97 5.68 5.82 Citigroup World Government Bond Index Unhedged 0.94 -3.61 -2.84 5.43 5.69 Source: IRESS, Bloomberg, MWM Research, April 2017 Monthly performance
  • 14. 13 Investment Matters April 2017 was finalised 5 April 2017 The analyst principally responsible for the preparation of this research receives compensation based on overall revenues of Macquarie Group Limited ABN 94 122 169 279 AFSL 318062 (“MGL”) and its related entities (the “Macquarie Group”, “We” or “Us”) and has taken reasonable care to achieve and maintain independence and objectivity in making any recommendations. No part of the compensation of the analyst is directly or indirectly related to the inclusion of specific recommendations or views in this research. This research has been issued and is distributed in Australia by Macquarie Equities Limited ABN 41 002 574 923 AFSL 237504. It does not take account of your objectives, financial situation or needs. Before acting on this general advice, you should consider if it is appropriate for you. We recommend you obtain financial, legal and taxation advice before making any financial investment decision. It has been prepared for the use of the clients of the Macquarie Group and must not be copied, either in whole or in part, or distributed to any other person. Nothing in this research shall be construed as a solicitation to buy or sell any security or product, or to engage in or refrain from engaging in any transaction. This research is based on information obtained from sources believed to be reliable, but we does not make any representation or warranty that it is accurate, complete or up to date. We accept no obligation to correct or update the information or opinions in it. Opinions expressed are subject to change without notice. We accept no liability whatsoever for any direct, indirect, consequential or other loss arising from any use of this research and/or further communication in relation to this research. We have established and implemented a conflicts policy at group level, which may be revised and updated from time to time, pursuant to regulatory requirements, which sets out how we must seek to identify and manage all material conflicts of interest. Our officers and employees may have conflicting roles in the financial products referred to in this research and, as such, may effect transactions which are not consistent with the recommendations (if any) in this research. We may receive fees, brokerage or commissions for acting in those capacities and the reader should assume that this is the case. Our employees or officers may provide oral or written opinions to its clients which are contrary to the opinions expressed in this research. Important disclosure information regarding the subject companies covered in this report is available at macquarie.com/disclosures.