Brenton Saunders: What’s driving ASX stocks this week

Here are the main factors driving the ASX this week according to portfolio manager Brenton Saunders. Reported by portfolio specialist Chris Adams

MARKETS continue to rally hard, helped by dovish Fed commentary following last week’s 25bps rate rise in the US.

We’ve also seen notable US economic data.

The Nasdaq lifted 3.3% last week while the S&P500 was up 1.6%. The S&P/ASX 300 gained 1.1%.

The NYSE FANG+ index – which tracks tech companies such as Amazon, Google and Facebook-owner Meta – is up about 30 per cent this year. Meta jumped 23% last week.

US bond yields and the US dollar rose moderately by the week’s end. Most of the moves came on Friday in response to very strong non-farm payrolls data, which raises expectations for further rate increases.

A stronger US dollar weighed on most commodities, though iron ore continued to make good gains.

Elsewhere, the European Central Bank raised rates by 50 basis points. Another 50 points is likely in March.

Commentary suggested the ECB was heartened by falling inflation, helped by a mild winter and a fall in natural gas prices.

US economy and the Fed

The US economy is so strong that some are wondering if it’s less about a hard or soft landing – and more about whether there is a landing at all.

Inflation continues to cool in many areas. But strong labour markets are confounding the more bearish economic forecasts.

The Federal Open Market Committee – which is responsible for setting US monetary policy – raised rates 25 basis points to 4.75%, in line with expectations.

Fed chair Jay Powell noted greater optimism around inflation and the start of a disinflationary process.

However, he also said the FOMC “anticipates ongoing increases in the target range would be appropriate” and there was “more work to do” on raising rates.

If the US economy performed as the Fed expected, it would not be appropriate to cut rates in 2023, Powell noted. This is in keeping with recent signals.

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But if inflation slowed faster than expected, this would be incorporated into their thinking, he said.

On balance, markets took this nod to data-dependency as dovish – particularly since Powell down-played improvement in total “financial conditions” in response to a question.

Financial conditions tries to capture the cost and availability of funding, which impacts spending, saving and investing for businesses and households. Indicators include corporate borrowing rates, US equities and even the US dollar.

While the language was softer, there is a risk that the market’s interpretation is overly dovish in the face of continued strength in the US economy and labour market.

The latter was emphasised by Friday’s non-farm payroll data.

By Friday the short end of the US yield curve had more than retraced a bond rally that came after the Fed’s press release.

Some analysts are raising the possibility that the Fed may be raising rates by 50 points in March or May, rather than the currently expected 25 points.

The market continues to price Fed rate cuts in late 2023. This expectation may have to shift if labour markets remain strong.

The market is also implying rate cuts in Australia by the end of the year, but from a high point of about 3.6%, versus about 5% in the US.

The US dollar is down about 10% from its late September high (as measured by the DXY).

Some degree of consolidation – or even reversal – is now likely, which may be a headwind to commodities and markets in the near term.

We are likely to see a partial reversal of the 70-point decline in US 10-year bond yields since October 2022, as the market digests the impact of strong jobs data on the interest rate trajectory. 

The yield curve remains inverted on most measures.

Bears still point to this as the most reliable recession predictor.

US employment data

The cost of employment – measured by the Employment Cost index (ECI) and Average Hourly Earnings – is trending in the right direction. But other employment data has been surprisingly strong in direction and magnitude.

The market was looking for 188,000 new jobs in the non-farm payrolls last week – and got 517,000 instead.

Unemployment fell to 3.4%, down from 3.5% and below a consensus expectation of 3.6%.

The return of 36,000 workers from strike – and seasonal effects such as relatively warm weather – played a role.

Nevertheless this was a strong print which may result in some re-thinking of the rates trajectory.

This strength was also reflected the latest Job Openings and Labor Turnover Survey and initial claims for unemployment insurance.

US quarterly earnings

Just over half the S&P 500 by number (and roughly two-thirds by weight) have now reported December-quarter earnings.

The proportion of companies beating eps estimates remains at 69% – below the long-term average.

Aggregate consensus earnings estimates for FY23 have bounced from their lows on February 1, but are still down 2.3% since the start of major earnings releases this season.

Markets

The S&P 500 next-12-months (NTM) PE is 18.3x, up from lows of 15.5x. The market is forecasting 9% EPS growth for the NTM.

The ASX200 NTM PE is 14.9x, up from lows of 12.6x. The market is forecasting 1.8% EPS growth for the NTM. Technical indicators suggest the ASX 200 is fairly over-bought, with resistance at the 7600-7650 level.