A 60% Fall, and Still Delusional on the Australian Economy

First of all, I owe you an apology. I’ve had a bit of a shocker. On Monday I asked you to let me know what you think about the strength, or otherwise, of the Australian economy based on your experience at the coal face.

After being mildly offended that my request elicited not a single response, I realised that I gave you an email address that doesn’t appear to work.

My sincere apologies for that little blooper. If you wouldn’t mind, could you resend it to letters@marketsandmoney.com.au. And if you missed Monday’s edition, feel free to send in your two cents worth.

The request was made in response to an article in the Weekend Australian by Adam Carr. He argued that the Aussie economy was actually getting stronger, not weaker.

I have my doubts about that. Which is why I asked those of you running small or large businesses to send in a few lines to tell us what you think.

Funnily enough, a few days later I saw another one of Mr Carr’s articles. He was arguing that if the high iron ore price didn’t cause a boom on the way up, then it wouldn’t cause a bust on the way down.

The problem with that line of thinking is that it did cause a boom on the way up. A boom that the RBA had to control with the highest interest rates in the developed world.

Now that we’re well and truly in the iron ore price bust phase, the RBA is cutting faster than Edward Scissorhands to control the fallout.

But the RBA can’t control the fallout from the iron ore bust. All it can do is promote the structural retardation of the Aussie economy. That means encourage more and more capital to funnel into property speculation at the expense of genuine, productivity enhancing investment.

That’s why Aussie mortgage and household debt is now at a new record high as a percentage of the total economy. We’re leveraging further into an iron ore price collapse!

The RBA certainly can’t control the Chinese economy either, which continues to cast a dark shadow over the Aussie economy and, yesterday, the stock market.

During yesterday’s trading session, China’s economic growth numbers, along with a host of other data, came out. The market fell sharply despite GDP being bang on target at 7% growth (fancy that).

But the 7% growth number that was widely reported was for the year to 31 March. The actual March quarter number came in at just 1.3%, or 5.2% annualised. For China, that’s a rapidly slowing rate of growth.

Make no mistake, China is slowing fast. It’s probably why the Australian stock market sank on the news. Even Shanghai didn’t buy the ‘bad news is good news’ line. It fell 1.24%.

Although having said that, the big miners finished the day higher. It was the banks that drove the market lower. Go figure…

But that’s all forgotten now anyway. The market ‘shrugged’ weaker than expected Chinese growth off overnight and local shares are set to head higher today.

The fact that West Texas crude hit its highest price this year helped push the market higher.

That the oil price rally happened on weak Chinese GDP, and weaker than expected industrial production, fixed asset investment and retail sales data just adds to the confusion.

All this weak Chinese data is a part of the country’s necessary structural adjustment. It will likely go on for years. If you’re lucky, China will be able to manage the slowdown without an unemployment blowout and major political instability.

Whatever happens though, there will be no luck for the iron ore miners in the future. They cashed it all in during the boom years.

The Financial Review dug into China’s fixed asset investment numbers, which revealed some ugly truths for the iron ore sector.

The area of land sold in the first quarter – a key indicator of future construction and steel demand – fell by 32.4 per cent from the same quarter last year.

The stock pile of new homes, yet to be sold, increased by 24.6 per cent over the same period.

That left the total area of newly completed residential property at 650 million square meters or around 6.5 million apartments.

The figures neatly demonstration the acute over-supply of property across the country, which has many forecasting iron ore demand to fall by around 5 per cent this year.

Residential property construction accounts for around 20 per cent of Chinese iron ore demand.

As ugly as that looks for iron ore, no one in the industry seems to care. The delusion levels are still at all time highs. The juniors think if they can just hang on until the price recovers, they’ll be fine.

The problem is, there will be no price recovery until the juniors and all their production exits the market.

Last night, a story popped up on the afr.com that clearly illustrates this delusion. Matthew Steven’s had a scoop on the ongoing Atlas saga. He revealed that the seven different contractors who work for Altas are trying to come up with a rescue plan.

These companies clearly rely heavily on Altas’ production for their own revenues and are desperate to keep it afloat.

The sad reality is that the longer the small, marginal producers stay in the market, the longer the iron ore bear will hang around. There is simply too much excess capacity (and more coming) for everyone to survive.

No one in the sector wants to recognise this though. The iron ore producers are about as deluded as a Sydney property speculator, and that’s saying something.

As this debacle continues to work it’s way through the economy, the RBA will have no choice but to cut interest rates again. Whether it’s in May, June or July, it doesn’t really matter. Savers will continue to subsidise the spendthrifts.

If you’re one of those savers who are by now getting a bit miffed by all this, you may want to check out Total Income, our recently launched income focussed investment advisory. It’s devoted to achieving solid income returns from the market, without going crazy and ‘chasing yield’.

Editor Matt Hibbard doesn’t just look at a stock’s headline dividend yield when assessing opportunities. He looks at overall value and won’t overpay for a stock.

So you won’t see the likes of the big four banks on his recommended stock list. Instead, you’ll find lesser known (and in my humble opinion, much less risky) stocks generating good cash flows and healthy dividend yields. You can check out Matt’s work here.

Regards,

Greg Canavan+,
for Markets and Money

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Greg Canavan is a Contributing Editor at Markets & Money and Head of Research at Port Phillip Publishing. He advocates a counter-intuitive investment philosophy based on the old adage that ‘ignorance is bliss’. Greg says that investing in the ‘Information Age’ means you now have all the information you need. But is it really useful? Much of it is noise, and serves to confuse rather than inform investors. And, through the process of confirmation bias, you tend to sift the information that you agree with. As a result, you reinforce your biases. This gives you the impression that you know what is going on. But really, you don’t know. No one does. The world is far too complex to understand. When you accept this, your newfound ignorance becomes a formidable investment weapon. That’s because you’re not a slave to your emotions and biases. Greg puts this philosophy into action as the Editor of Crisis & Opportunity. He sees opportunities in crises. To find the opportunities, he uses a process called the ‘Fusion Method’, which combines charting analysis with more conventional valuation analysis. Charting is important because it contains no opinions or emotions. Combine that with traditional stock analysis, and you have a robust stock selection strategy. With Greg’s help, you can implement a long-term wealth-building strategy into your financial planning, be better prepared for the financial challenges ahead, and stop making the same mistakes that most private investors do every time they buy a stock. To find out more about Greg’s investing style and his financial worldview, take out a free subscription to Markets & Money here. And to discover more about Greg’s ‘ignorance is bliss’ investment strategy and the Fusion Method of investing, take out a 30-day trial to his value investing service Crisis & Opportunity here. Official websites and financial e-letters Greg writes for:

 


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