Federal Reserve

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<div>The US Federal Reserve is set to lift interest rates for the first time since June 2006.</div>
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<div>The Bureau of Labor Statistics reported that the economy added 211,000 jobs in November, while the October result was revised up from +271,000 to a smashing +298,000, and September also saw a positive revision from +137,000 to +145,000 (for a total of +35,000 revisions).</div>
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<div>After 68 consecutive months of employment gains, the Fed is finally ready to hike interest rates following its December 15-16 meeting.  
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<div>Average hourly earnings have increased by 2.3% over the year, with the economy having gained some 13 million jobs since its nadir.</div>
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<div>Average monthly employment gains this year have been solid at 210,000, although a bit lower than the 260,000 seen in 2014.</div>
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<div>The unemployment rate was unchanged at a 7.5 year low of 5%.</div>
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<div>Fed to hike. It's been a while coming!</div>
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PETE WARGENT is the co-founder of <a href="https://allenwargent.com/" target="_blank" rel="nofollow">AllenWargent</a> property buyers (London, Sydney) and a best-selling author and <a href="https://petewargent.blogspot.com/" target="_blank" rel="nofollow">blogger</a>. 
His latest book is <a href="https://www.bigskypublishing.com.au/Books/General-Interest/Four-Green-Houses--and-a-Red-Hotel/1015/productview.aspx" target="_blank" rel="nofollow">Four Green Houses and a Red Hotel</a>.
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pwargent-M4siyDbqQY

Fed set for lift off: Pete Wargent

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EXPERT OBSERVER
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As expected, the US Federal Reserve’s Open Market Committee (“FOMC”) reduced the target range for the federal funds rate by 25 basis points (quarter of a per cent) to between 1.75-2.00 per cent – the second successive rate cut.
The FOMC cited “the implications of global developments for the economic outlook as well as muted inflation pressures” as the primary reason for the cut. FOMC members voted 7-3 to cut interest rates, with one member voting for a 50 basis point cut.
The FOMC’s updated quarterly “dot plot” federal funds rate projections showed officials divided about the future direction of interest rates. 
Seven FOMC decision makers projected another 25 basis point cut before year-end, but no further cuts in 2020 to 2022. While five FOMC policymakers see rates going back to between 2.00 per cent and 2.25 per cent by year-end.
In his press conference, US Federal Reserve Chair Jerome Powell opened the door to “more extensive sequences of [rate] cuts” if needed, but emphasised that the situation should viewed as one “which can be addressed and should be addressed with moderate adjustments to the federal funds rate.” But the Fed will “act as appropriate to sustain the expansion.” 
Changes in US monetary policy settings can affect rates in Australia as well as the sharemarket and currency.
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<h1>What did the US Federal Reserve decide and what does it all mean?</h1>
Global central bankers are lowering interest rates in response to slowing economic growth. The current US expansion - while the longest in post-war history - is losing momentum. The US-China trade war, including the imposition of ‘tit-for-tat’ tariffs on imports, has reduced trade volumes and contributed to a manufacturing recession in export-dependent economies, such as Germany, China and Japan.
Trade policy uncertainty has weakened US business investment and lowered export growth. The concern of course is that the dispute will remain unresolved, with the slowdown in manufacturing activity spilling-over into the larger services sector, eventually impacting still-solid jobs growth and buoyant consumer spending.
Household consumption remains the key driver of economic activity, growing at the fastest pace in the June quarter since 2014. Retail sales also increased by 0.8 per cent in July and 0.4 per cent in August, supported by solid job gains and wages growth. 
Despite the uncertain global geo-political backdrop, FOMC members raised their expectations for US economic growth, with GDP growth now expected to grow at a 2.2 per cent annual pace this year, up from a forecast of 2.1 per cent in June. That said, long-run growth forecasts are less optimistic at a more modest 1.9 per cent. Core inflation has lifted noticeably in recent months, driven primarily by increases in health care costs, but Federal Reserve officials left their inflation projections unchanged at 1.8 per cent for 2019 and 2.5 per cent over the longer run. 
<img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2019/9/19/CommSec%20Fed%20Easing.jpg" alt="">
Along with the rate cut, the Committee also cut the interest on excess reserves (“IOER”) by 30 basis points to 1.80 per cent in an attempt to lower the effective federal funds rate towards the lower-end of its 1.75-2.00 per cent target range. The New York Federal Reserve also announced additional intervention in the US money market in order to lower short-term interest rates.
<h1>What are the implications of today’s decision?</h1>
The near-term economic outlook for the US remains solid, but US Federal Reserve Chair Powell said interest rates were cut as “we [FOMC] took this step to help keep the US economy strong in the face of some notable developments and to provide insurance against ongoing risks.” Furthermore, “weakness in global growth and trade policy have weighed on the [US] economy.” Therefore, “moderate”policy moves may be required to sustain the US economic expansion.” 
Investors seized on the monetary policy uncertainty as few clues were offered by policymakers around the timing of future interest rate moves. Therefore, US sharemarkets fell in the aftermath of the decision with the Dow Jones index down by 211 points at one stage. But shares reversed earlier losses with Dow eventually closing up by 36 points or 0.1 per cent, the S&amp;P500 index was flat, but the Nasdaq fell by 8 points or 0.1 per cent.
Shorter-dated US treasuries weakened (yields higher) and the yield curve flattened after the FOMC’s decision. US 2-year yields rose by 3 points to near 1.76 per cent and US 10-year yields fell by 1 point to near 1.80 per cent. 
The Aussie dollar fell from highs near US68.53 cents to lows near US68.15 cents and was near US68.28 cents in late US trade.Commonwealth Bank Group economists still expect the FOMC to cut interest rates in December.
<h1>Comparing the two most recent statements</h1>
The statement from the July 2019 meeting is on the left; the statement from the September 2019 meeting is on the right. Emphasis has been added to highlight key points in the wording in the statements.
Ryan Felsman is a Senior Economist for CommSec.
 
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jrobinson-rf4aSBido9

US Fed cut a “moderate” policy move: CommSec

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EXPERT OBSERVER
As widely expected the Fed cut the Fed’s rate by another 0.25% taking it to a range of 1.75-2%, for the second cut this year.
While the Fed remains optimistic on the outlook for the US economy and made no significant changes to its economic forecasts, as with the July cut its basically taking out insurance given ongoing threats to the US outlook from the trade war and slower global growth at the same time that inflation is still running just below target. 
The current easing cycle remains a bit like the Fed easings of 1987 after the share market crash and in 1998 after the LTCM hedge fund crisis – that saw the Fed cut despite solid growth in order take out insurance in case there was a negative flow on to the economy.
The Fed was a bit less dovish than expected and this was highlighted by the so-called “dot plot” of Fed officials interest rate expectations not falling as much as expected relative to the June “dot plot” and the median dot showing no more rate cuts. Specifically seven officials see another cut by December, five are on hold and five see a hike.
<img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2019/9/19/Global%20interest%20rates.jpg" alt=""> 
However, it’s likely that the seven who see a cut include the Fed leadership of Powell, Clarida and Williams and are mostly voting members whereas there is a likely a lot of non-voters in the five who see no change and the five who see a hike. So the dot plot is likely more dovish than it looks. 
Our assessment remains that another 0.25% easing is likely, probably in October or if not then in December. The risks to the growth outlook – particularly on trade - won’t go away quickly and that the Fed appears to have taken the decision that it’s easier to control a rise in inflation than a further slide or deflation.
Fed Chair Powell did not seem too concerned about liquidity stresses in the US money market (which look related to corporate tax payments, higher budget deficits and the impact of quantitative tightening) but he did indicated that the Fed may need to resume allowing its balance sheet to grow with the economy. This is not quite QE and its much smaller but it would ease liquidity stresses. In the meantime the New York Fed is continuing to address the issue by injecting funds into the money market (via repurchase operations). 
Interestingly Fed Chair Powell said that if the Fed Funds rate does have to go back to zero, that would be the lower bound. In other words the Fed would not take rates negative.
The directional relationship between US and Australian interest rates weakened long ago. The RBA started raising rates in 2009 when the Fed held at zero, it was easing in 2016 when the Fed was hiking and this year it started cutting ahead of the Fed. See the next chart.
<img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2019/9/19/Fed%20market%20expectations.jpg" alt=""> 
So just because the Fed moves doesn’t mean the RBA will too. On the one hand the Fed’s easing along with stimulus elsewhere globally should help support global growth which is good for Australia. But it’s probably not enough to change the outlook for the RBA and its perception that global risks have increased. . Our view remains that it’s on track to cut the cash rate to 0.5% in the months ahead in two 0.25% moves and to some degree the Fed cutting and the ECB easing last week reinforces that to the extent that the RBA would like to keep the Australian dollar down. 
Falling interest rates are generally positive for shares, unless there is a global recession. While the risk of recession has gone up thanks to the trade war and conflict in the Middle East we remain of the view that it will be avoided.
DR SHANE OLIVER is Head of Investment Strategy and Chief Economist AMP Capital.
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Fed eases again - but they are still just insurance cuts: Shane Oliver

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EXPERT OBSERVER
As generally expected the US Federal Reserve raised the key Fed Funds rate by another 0.25% for the seventh time since starting to hike in December 2015. This takes the Fed Funds rate to a range of 1.75% to 2%.
Supporting this the Fed sees growth as “solid” and it revised slightly upwards growth and inflation forecast for this year (with core inflation now expected to be at its 2% inflation target) and it revised down the unemployment forecast to 3.6%.
Consistent with this the median expectation of Fed officials moved up from three rate hikes for this year (ie the so-called “dot plot”) to four and it remains for three hikes next year, which taken together saw the profile for Fed interest rate expectations move higher relative to that seen in March. See the next chart.
Click here <a href="https://www.propertyobserver.com.au/images/2018/6/14/chart1.jpg" target="_blank">to enlarge.</a>
<img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/6/14/chart1.jpg" alt="">
What’s more there was no reference to international developments (eg on trade or Italy) as potentially slowing the Fed down and the Fed’s post meeting statement removed a reference to the Fed Funds rate likely remaining below longer run levels for some time.
Taken together (and while it only took one Fed official to change the dot plot from 3 to 4 hikes for this year) the Fed has yet again become a bit more hawkish. The Fed is continuing to raise rates gradually, but its becoming a bit less gradual.
Fed Chair Powell also indicated that starting next year the Fed will have a press conference after every meeting. While this is in the interest of transparency and doesn’t signal anything necessarily about more frequent hikes it does make every meeting “live” for a rate move.
Our assessment remains that the Fed will hike four times this year (so two more to go - in September and December) and like the Fed we expect three hikes next year.  US money market expectations, which for example see just over two hikes over the next 12 months, remain too dovish (see the previous chart) 
While the market reaction to the Fed’s announcement was a bit confused (US shares down slightly, ten year bond yields little changed and the $US down slightly) ultimately we see continued Fed tightening putting upwards pressure on bond yields and the US dollar. But because US monetary policy is still a long way from being tight it won’t yet threaten the strong US growth outlook or the ongoing rising trend in share markets. That said, the uncertainty around US inflation and interest rates will be a continuing source of volatility in share markets and serve to constrain returns this year.
For Australia, the Fed’s latest hike confirms that US growth is strong and this is good for Australia. However, the RBA is a long way from following the Fed higher in terms of interest rates because there is still a lot more spare capacity in the Australian labour market compared to the US. See the next chart. We don’t expect the RBA to start raising rates until 2020 at the earliest.
Click here <a href="https://www.propertyobserver.com.au/images/2018/6/14/chart2.jpg" target="_blank">to enlarge.</a>
<img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/6/14/chart2.jpg" alt=""> 
Australian official interest rates have now fallen further below those in the US. Historically, a low and falling interest rate differential relative to the US has seen the $A fall and so we expect further downside in the $A over the year ahead as US rates continue to rise further above Australian rates. However, strong commodity prices should prevent a fall to $US0.48 as occurred in 2001 which was the last time Australian rates were below US rates!
Click here <a href="https://www.propertyobserver.com.au/images/2018/6/14/chart3.jpg" target="_blank">to enlarge.</a>
<img src="https://res.cloudinary.com/dz9xllyip/image/fetch/c_scale,w_580,q_auto:good/https://s3-ap-southeast-2.amazonaws.com/po.images/2018/6/14/chart3.jpg" alt=""> 
<a href="https://www.propertyobserver.com.au/https://plus.google.com/110172465327488162875?rel=author">SHANE OLIVER</a> is head of investment strategy and economics and chief economist at <a href="https://www.ampcapital.com.au/home">AMP Capital</a> and is responsible for AMP Capital's diversified investment funds.
 
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US strong growth good for Australia: Shane Oliver

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Australia’s economy could be at risk from a housing market downturn if Chinese buyers retreat from residential property in Australia, according to a former US Federal Reserve official.
Dr Nellie Liang, who was in Sydney recently to share her views on financial stability with the Reserve Bank of Australia, said a "trigger" for a real estate price collapse could be a reversal in international capital flows, The Australian Financial Review reported.
Dr Liang, who headed the Fed's division of financial stability, said Australian policymakers were right to be "really concerned" about high house prices and household debt that was elevated by international standards”.
RBA Governor Philip Lowe has voiced his concern about high household debt earlier and also the heated East Coast residential property market.
"The problem with high house prices and high household debt is it leads to unsustainable debt burdens if house prices fall," Dr Liang said in Washington.
"Even without debt, when you have the outsiders buying properties, if the outside money pulls out and prices fall, there's innocent bystanders who took on debt and end up underwater, which could lead to defaults.
"Twenty per cent moves in house prices isn't crazy anymore."
Since last year, Beijing has narrowed the window for capital outflows and it is already having an impact. At the same time, Australian banks have tightened lending criteria to investors due to regulatory requirements. 
China's Wanda Group recently decided to sell majority stakes in its Sydney and Gold Coast luxury apartment and hotel projects, valued at a total of $2 billion.
Other Chinse entities and individuals are also facing demands to unwind and halt offshore investments in a bid to stop capital flight and bolster the value of the yuan.
Reflecting this, China's foreign exchange reserves recorded their sixth straight monthly rise, increasing by $US24 billion ($30 billion) to $US3.08 trillion in July, figures published last week showed, the AFR reported.
National Australia Bank says property experts estimate foreign acquirers in the combined established and new property markets represented 17 per cent of all apartment buyers and 11 per cent of house buyers in the June quarter. 
Chinese buyers make up the largest percentage of foreign buyers.
Dr Liang was invited to speak at a closed-door Reserve Bank conference in Sydney in March. The 30-year Fed banker retired as the director of the financial stability division  last year.
Australia's surging home prices and high household debt – about 190 per cent of disposable income – were key discussion points about financial stability.
She specially pointed to Australia’s exposure to Chinese investors. 
“China is such a big economy now, and they have links to other countries, including to Australia and Canada through the housing markets, that people need to be thinking about," said Dr Liang, now a senior fellow at the Brookings Institution and consultant to the International Monetary Fund in Washington.
Sydney and Melbourne home prices are on track for their fifth straight year of double-digit price growth.
Sydney's median dwelling price has surged 12 per cent over the past year to $856,000, according to CoreLogic.
Melbourne’s is rising faster with, the median dwelling price jumping 16 percent to $655,000 over the same period.
Some property and China experts believe official figures underestimate the real extent of foreign money pouring into Australian real estate because Chinese Australians and permanent resident holders act as conduits to buy property for friends and family back home.
The Reserve Bank has kept the cash rate on hold at a record low of 1.5 per cent since August 2016, helping drive up house prices. Even the <a href="https://www.urban.com.au/news/74301-first-home-buyers-are-back-but-so-are-investors" target="_blank">APRA’s regulatory moves</a> have had only limited effect going by the recent investor lending numbers, despite the March and June rate hikes by most banks.
 
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jonathanchancellor-7SQnKwU6yx

Former US Fed official says Australian house prices face Chinese investor exodus risk

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GUEST OBSERVER
Despite a terrible start to the year and a few political surprises along the way, 2016 saw good returns for diversified investors who held their nerve.
Balanced super funds had returns around 7.5 percent, which is pretty good given inflation was just 1.5 percent. 2017 is commencing with less fear than seen a year ago but there is consternation regarding Donald Trump’s policies, political developments in Europe and the growth outlook.
This note provides a summary of key insights on the global investment outlook and key issues around it in simple dot point form.
Seven lessons from 2016
<ol>
<li>Global growth may be constrained – but it’s far stronger and more resilient than was feared at the start of 2016.</li>
<li>The US Federal Reserve is not stupid - it is not on “rate hike autopilot” and takes account of global conditions and the $US and the impact of both on the US.</li>
<li>China won't tolerate a rapid slowing in economic growth - yes it wants to reform the supply side of its economy and slow down the growth of debt but it will not do so blindly.</li>
<li>Geopolitics is having a rising impact on investment markets – in part a populist backlash against establishment politics with implications for economic policy, eg, globalisation.</li>
<li>But, turn down the noise - fears that Brexit, Australia's messy election, a Trump victory and an Italian "No" vote would lead to financial catastrophe proved ill-founded. Retreating to cash after these would have been costly.</li>
<li>The terror threat is alive and well but the impact on investment markets is limited.</li>
<li>Stick to an investment strategy - 2016 proved distracting for investors but they would have done okay provided they stuck to an investment strategy that prevented them from getting blown around by swings in market sentiment.</li>
</ol>
Key themes for 2017
Global growth of around 3.2 percent or just above, with the US around 2.5 percent, Europe and Japan lagging and China running around 6.5 percent. Australian growth of around 2.5 percent.
A gradual rise in underlying inflation, albeit from low levels.
Global monetary conditions remaining easy but less so, with gradual monetary tightening in the US and China offset by ongoing easing in Europe, Japan and Australia.
Reflecting this, global shares are likely to trend higher and we favour Europe and Japan over the US (which may be constrained after its 2016 outperformance and Fed hikes).
 Australian shares are likely to have solid returns as resource sector profits surge following the rebound in bulk commodity prices, overall profits rise 10 percent and interest rates remain low.
 Still low yields and capital losses from a gradual rise in bond yields are likely to see low returns from bonds.
 Commercial property and infrastructure are likely to continue benefitting from investors’ ongoing search for yield, but this demand will wane as bond yields trend higher.
 Australian capital city residential property price gains are expected to slow to around 3-4%, as the heat comes out of the Sydney and Melbourne markets and rising supply hits.
 Cash and bank deposit returns will remain poor.
 The downtrend in the $A from 2011 is likely to continue as the interest rate differential in favour of Australia narrows and it undertakes its usual undershoot of fair value.
Key risks for 2017
 President Trump could set off a global trade war and wider political tensions with China (eg, in the South China Sea).
 US fiscal stimulus under Trump could overheat the US economy resulting in an aggressive Fed &amp; a further rebound in the $US causing problems for emerging countries.
 A further rapid rise in bond yields would be bad for shares and assets that have benefitted from the search for yield including real estate and infrastructure investments.
 Success by populist parties in Europe could reignite Eurozone break up fears.
 China could have its long feared hard landing.  Australia could be vulnerable as apartment supply surgesand housing construction slows.
 Factor X – there is always something from left field. Last year it was the rise of populism in some Anglo countries.
Five things to watch
<ol>
<li>  President Trump - whether we get Trump the pragmatist or Trump the populist.</li>
<li>  US inflation and the Fed – how quickly both move up.</li>
<li>  Elections in the Netherlands in March, France in April/May,</li>
<li>  Germany around September and possibly in Italy.</li>
<li>  Global business conditions indicators (PMIs). </li>
</ol>
Business confidence &amp; non-mining investment in Australia.
Three reasons why global growth is likely to continue
<ol>
<li>We have not seen the excesses (massive debt growth, overinvestment, plunging spare capacity or excessive inflation) that normally precede recessions.</li>
<li>The US monetary tightening cycle is in its very early stages and global monetary conditions are still very easy.</li>
<li>Fiscal austerity has faded and we are seeing early signs of a shift from monetary easing (which arguably has become less potent) to fiscal stimulus.</li>
</ol>
 Three reasons to expect Trump the pragmatist to ultimately take precedence  
<ol>
<li>Donald Trump’s anti-establishment mandate, bellicose approach and inexperience will no doubt continue to create much uncertainty about his policies in the short term. His war with the media, issues around Russia and potential conflicts of interest add to the risks. However, there are reasons to expect that on the policy front pragmatism will ultimately prevail with the focus being on the growth boosting potential of tax cuts, infrastructure spending and deregulation:</li>
<li>Economic and political realities (including Congress) invariably take some of the edge off more radical policies once politicians attain power.</li>
<li>Trump has a focus on growth and jobs and won’t want to threaten this which suggests pragmatic policy outcomes.</li>
</ol>
As a businessman he is likely to ultimately seek win/win solutions with other countries (notably China) even though he may use a bellicose negotiating stance.  Three reasons why Chinese growth will likely come in around 6.5 percent and not much lower. Stimulus measures over the last two years highlight the government has no tolerance for a collapse in growth.
The services sector is taking over from manufacturing.
Deflation is receding as indicated by rising producer prices. Three reasons why geopolitics is more important
The slow post GFC recovery, rising inequality in some countries and stress around immigration are leading to a backlash against establishment politicians.
The relative decline of the US is shifting us away from the unipolar world that dominated post the Cold War (where the US was the world's cop) to a less stable multi-polar world (where skirmishes and proxy wars are more common). The symbiotic relationship between the US and China is fading.
  The information revolution is enabling us to make our own reality, with the decline of traditional media in favour of online news sources that can be less reliable or self- selected. Conspiracy theories go mainstream!  Four reasons why the Eurozone won't break up  Eurozone break up fears will again feature with elections in the Netherlands, France and Germany and maybe Italy. But there are three reasons why it won't break up... well at least not yet:
  Most of Europe does not have the problems with inequality that have helped drive Brexit and Trump.
  Eurozone break up risk arguably peaked a few years ago when austerity and unemployment were at their peak.
  Support for Eurosceptic parties has not picked up significantly since Brexit and Trump and support for the Euro in mainstream Europe remains high.  
Five reasons why Australia won't have a recession
<ol>
<li>  Interest rates can still fall further if needed.</li>
<li>  The drag on the economy from falling mining investment is  fading and should bottom in the next year or so.</li>
<li> National income is rising thanks to rising commodity prices.</li>
<li> Sectors such as tourism and higher education (both helped by the lower $A) along with state capital spending should help offset the gap left by slowing housing investment</li>
<li> Stronger export volumes (from resource projects) will provide a partial offset to lower commodity prices.</li>
</ol>
Five reasons the RBA is more likely to cut than hike
<ol>
<li> The outlook for business investment is still weak.</li>
<li> To offset a slowing contribution to growth from housing.</li>
<li>The $A needs to fall further.</li>
<li>To offset the monetary tightening from bank mortgage rate hikes for existing home owners.</li>
<li>Inflation is likely to remain below target for longer.</li>
</ol>
Three reasons why the super cycle bond bull market from the early 1980s is likely over
<ol>
<li>  Deflation is waning with commodity prices hitting bottom.</li>
<li>  Global spare capacity is gradually being used up.</li>
<li>  Bonds are over-loved having benefitted from a huge flow out of equities since the GFC.</li>
</ol>
Five reasons why shares are likely to provide decent returns by year end
<ol>
<li> Shares are not overvalued against still low bond yields and interest rates.</li>
<li> A global recession looks a long way away.</li>
<li> A pick up in global growth should help profits.</li>
<li> Monetary conditions are still very easy and while the Fed will continue to tighten other central banks are still easing.</li>
<li> There is a lot of pessimism around.</li>
</ol>
...but three reasons to expect continued volatility
<ol>
<li> Much uncertainty remains in the short term around President Trump’s policies.</li>
<li> Geopolitical risks could flare up – particularly between the US and China and in Europe.</li>
<li> Shares are not dirt cheap anymore.</li>
</ol>
Nine things investors should remember
<ol>
<li>  The power of compound returns – saving regularly in growth assets can grow wealth substantially over long periods. Using the “rule of 72” it will take 29 years to double an asset’s value if it returns 2.5% pa (ie 72/2.5) but only 9 years if the asset returns 8% pa.</li>
<li>  The cycle lives on – markets cycle up and down and we need to allow for it and not get thrown off by rough patches.</li>
<li>  Diversify – don’t put all your eggs in one basket.</li>
<li>  Turn down the noise – this was a big one in 2016 where the noise around political events really just created distractions.</li>
<li>  Starting point valuations matter – for example low bond yields will mean low medium term bond returns.</li>
<li>  Remember that while shares can be volatile, the income stream from a diversified portfolio of shares is more stable over time and higher than the income from bank deposits.</li>
<li>  Avoid the crowd – at extremes it’s invariably wrong.</li>
<li>  Focus on investments providing sustainable and decent cash flows – not financial engineering. </li>
<li>  Accept that it’s a low nominal return world – when inflation is 2% a 7.2% super return (the average for balanced growth super funds over the last three years) is pretty good. </li>
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<a href="https://www.propertyobserver.com.au/https://plus.google.com/110172465327488162875?rel=author" target="_blank">SHANE OLIVER</a> is head of investment strategy and economics and chief economist at <a href="https://www.ampcapital.com.au/home" target="_blank">AMP Capital</a> and is responsible for AMP Capital's diversified investment funds.
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Why housing adds vulnerability to Australia's macro investment outlook: Shane Oliver 

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<img src="https://counter.theconversation.edu.au/content/69612/count.gif?distributor=republish-lightbox-basic" alt="The Conversation" width="1" height="1">
GUEST OBSERVER
Although plenty of pundits seem to think a December rate hike by the US Federal Reserve is a lock, the intervening data would be very important.
With the most recent US GDP growth figures, it looks like the jury is largely in.
Third-quarter GDP growth was revised to an annualised rate of 3.2 percent on a seasonally adjusted basis. Consumer spending was a key component, with personal consumption up 2.8 percent. That indicates some underlying confidence that bodes well for future growth figures.
Adding to that, the Markit Flash US Services PMI Business Activity Index was at a preliminary 54.7 in November, almost the same as the 54.8 in October. This is the ninth consecutive month of an expansionary purchasing managers index. It’s a further sign that inventories are being worked down and assets put to productive use.
Absent some other negative news, it will be hard for the FOMC to resist raising rates at their December meeting.
Here in Australia, the ABS released figures on Wednesday showing another decline in residential building approvals – the third in as many months. Year-on-year approvals are down about nearly a quarter. That signals an uncomfortable dent in confidence, apart from in and of itself being a A$1.5 billion drop in economic activity.
<a href="/images/2016/12/06/Screen%20Shot%202016-12-06%20at%209.53.52%20AM.png" target="_blank">Click to enlarge</a>
<img src="/images/2016/12/06/Screen%20Shot%202016-12-06%20at%209.53.52%20AM.png" alt="">
In a further sign that any cyclical upturn in residential construction looks to have come to an end, new home sales were down 8.5 percent in October, with the Melbourne market a key driver. Interestingly, this was not just a product of the much-vaunted boom in Melbourne apartment construction: multi-unit sales were down 9.2 percent nation-wide, but detached houses were down 8.2 percent.
Combined, this will do nothing to help the housing affordability crisis Australia has been facing for some years now. That crisis led to NSW Planning Minister Rob Stokes breaking ranks with the federal Liberal Party in suggesting that negative gearing reform should be considered as part of the solution to the housing crisis. That could not be written off as a slip of the tongue after Premier Mike Baird reiterated the sentiment in his remarks to the National Press Club on Tuesday.
My stance on the matter is well known to readers of this column, given my report for the McKell Institute 18 months ago, advocating the gradual elimination of negative gearing for existing properties. I didn’t fire the starter’s pistol on negative gearing reform, but, to push the athletics analogy, it’s beginning to look like I rang the bell for the last lap.
<a href="/images/2016/12/06/Screen%20Shot%202016-12-06%20at%209.54.46%20AM.png" target="_blank">Click to enlarge</a>
<img src="/images/2016/12/06/Screen%20Shot%202016-12-06%20at%209.54.46%20AM.png" alt="">
Italy is the world’s eighth-largest economy, with GDP of US$1.81 trillion. It has rarely grown, and often shrunk, since the financial crisis, with the most recent growth rate at 0.3 percent.
Like much of the Eurozone, Italy is teetering on the precipice of a Japan-like deflationary spiral, with inflation at -0.2 percent.
It shares a high unemployment rate with many other European countries. Italy’s is at 11.7 percent, while its youth unemployment rate is a staggering and alarming 37.1 percent. As I wrote about France last week, that’s simply not compatible with the social compact of a liberal democracy in the medium term.
Italy’s balance sheet doesn’t look much better. Italy’s debt/GDP ratio is 132.7 percent, the fourth highest in the world, which leaves little wiggle room with its budget deficit of 2.6 percent of GDP. That has been improving since the financial crisis, but balance is still far from in sight. And because Italy is in the euro zone, it cannot simply inflate its debts away.
In many ways, Italy is the poster child of the European dilemma. It entered into a currency union without becoming part of a fiscal union. It is stuck with the euro, but it would be calamitous to go off it.
No wonder, then, that there is a referendum this weekend to consider amending the constitution to try to reduce the power of the Senate and reduce gridlock. Prime Minister Matteo Renzi, a pro-European, has essentially staked his reputation on it.
Should it fail to pass, there is the very real possibility of a Grexit-cum-Brexit moment in the weeks to come.
Richard Holden is professor of economics and PLuS Alliance Fellow, UNSW Australia and author for The Conversation. He can be contacted <a href="https://theconversation.com/profiles/richard-holden-118107" target="_blank">here</a>.
 
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jchancellor-FAypfDUnLy

The data that won’t help the government on housing supply

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GUEST OBSERVER
As widely expected following a run of mixed economic data, the US Federal Reserve remained on hold with the Fed Funds rate at 0.25-0.5 percent at its September meeting. 
While the Fed judged that the case for a rate hike has “strengthened” and that the risks to the economic outlook are now “roughly balanced” and there were three dissents in favour a rate hike, the overall impression is that the Fed’s hawkishness is very mild.
It is still waiting for more evidence of progress towards its objectives, Chair Janet Yellen repeated that the Fed can more effectively respond to rising inflation than to falling inflation as a reason to remain cautious, the Fed continues to refer to only “gradual” increases in interest rates and the Fed’s dot plot of Fed meeting participants interest rate expectations continues to decline.
It’s now showing just one hike this year (down from four at the start of the year), only two hikes next year and expectations for the long run natural rate have fallen further to 2.9 percent (from 3 percent in June).
Based on the experience of the last few years it’s understandable that the market is sceptical of Fed rate hike expectations as they have been continuously revised down.
Our base remains for the Fed to hike at its December meeting, but this will require more consistently positive economic data from the US over the next three months. The US money market’s probability of a December hike is 61 percent and this sounds about right.
<a href="/images/2016/09/22/image002.png" target="_blank">Click to enlarge</a>
<img src="/images/2016/09/22/image002.png" alt="">
Source: US Federal Reserve, AMP Capital
The bottom line is that with US growth running around 2 percent or a bit less and inflationary pressures remaining below target, global risks remaining and the strength in the $US over the last two years and the recent (regulatory driven) rise in US interbank lending rates doing part of the Fed’s job for its, the Fed remains rightly cautious in removing monetary stimulus.
This is likely to remain the case for some time to come.
So for share markets the Fed remains broadly supportive, although volatility will no doubt increase again as we get closer to the December meeting. 
For Australia, the ongoing delays in Fed rate hikes are a mixed bag.
On the one hand a cautious Fed taking account of US and global economic conditions before raising rates is a good thing as it helps sustain global growth and hence demand for Australian exports. But on the other hand the continuous delays in Fed rate hikes are keeping the $A stronger than would otherwise be the case which in turn could dampen the ongoing rebalancing in the Australian economy.
Thanks to the BoJ’s commitment to continue monetary stimulus for a lengthy period and the Fed’s decision to hold, the $A has bounced above $US0.76 again. Ongoing $A strength keeps alive our expectation for another RBA rate cut, even though it’s now a close call thanks to strong Australian economic growth.
<a href="https://www.propertyobserver.com.au/https://plus.google.com/110172465327488162875?rel=author" target="_blank">SHANE OLIVER</a> is head of investment strategy and economics and chief economist at <a href="https://www.ampcapital.com.au/home" target="_blank">AMP Capital</a> and is responsible for AMP Capital's diversified investment funds.
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Mixed bag as Fed holds as expected, only mildly hawkish: AMP Capital's Shane Oliver

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GUEST OBSERVER
The US Federal Reserve at its March meeting left interest rates on hold as widely anticipated, but it was more dovish than expected.
While it sees continued moderate growth in the US it also acknowledged ongoing global and financial market risks and lowered its so-called "dot plot" of meeting participants' interest rate expectations to show just two 25 basis point rate hikes this year down from four and lowered the long term interest rate expectation to just 3.25 percent from 3.5 percent.
Fed Chair Janet Yellen in her press conference also signalled a greater willingness to tolerate upside surprise on inflation as opposed to it continuing to run below 2 percent as the Fed has more policy room to deal with an upside surprise in inflation than a downside surprise.
The lowering of the dot plot has again taken the Fed closer to market expectations for interest rates - much as occurred last year when it started by signalling four hikes and only ended up doing one.
The Fed’s dot plot
<a href="/images/2016/03/17/image001.png" target="_blank">Click to enlarge</a>
<img src="/images/2016/03/17/image001.png" alt="">
Source: Evercore ISI
 
The Fed appears to have no inclination to hike at its April meeting, but a June hike does look like a reasonable base case, particularly given the recent upwards momentum in US inflation, but with only around a 55 percent probability. And its dependent on global threats and financial market turbulence continuing to settle down.
A risk in recent times has been that a too aggressive Fed will threaten the global outlook by further pushing up the US dollar which in turn would threaten US growth, put more downwards pressure on oil prices and hence energy producers and add to the risk of a funding crisis in the emerging world (as some emerging country borrowers struggle to service US dollar denominated debt).
By continuing to indicate that it is conscious of global risks and that US rate hikes will be data dependent and gradual, the Fed is clearly indicating that it is not going to do anything to consciously threaten the global and US outlook.  
So the Fed's latest decision is supportive for shares and growth assets and should lead to an ongoing stabilisation in the value of the US dollar.
A risk for Australia though is that the Fed's continuing dovishness maintains recent upwards pressure on the value of the $A, which rose 1.5 percent on the Fed’s announcement. This could go further in the short term but with the Fed still heading towards rate hikes (albeit ever more gradual) and the RBA still biased towards cutting rates we still see the $A ultimately resuming its downtrend.
 
<a href="https://www.propertyobserver.com.au/https://plus.google.com/110172465327488162875?rel=author" target="_blank">SHANE OLIVER</a> is head of investment strategy and economics and chief economist at <a href="https://www.ampcapital.com.au/home" target="_blank">AMP Capital</a> and is responsible for AMP Capital's diversified investment funds.
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Fed on hold and dovish: AMP Capital's Shane Oliver

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GUEST OBSERVER
After much delay and much warning the Fed has finally raised the Fed Funds rate from a range of 0-0.25% to 0.25-0.5%. The move signals confidence in the ongoing recovery in the US economy after the GFC.
Given ongoing deflationary risks and slow global growth future Fed hikes are likely to be cautious and gradual.
With the Fed decision out of the way, global shares are likely to resume their rising trend but with US shares as a relative underperformer.
Bond yields are likely to remain low which should b positive for real assets.
Rising US interest rates will help maintain downwards pressure on the value of the $A through 2016.
In the most anticipated and hotly debated interest rate decision ever the US Federal Reserve has opted to raise its Federal Funds target interest rate from a range of 0-0.25%, where it’s been for the last seven years, to the range of 0.25-0.5%.
<a href="/images/2015/12/16/Screen%20Shot%202015-12-17%20at%2011.39.29%20AM.png" target="_blank">Click to enlarge</a>
<img src="/images/2015/12/16/Screen%20Shot%202015-12-17%20at%2011.39.29%20AM.png" alt="">
 
The move is hardly a surprise. The Fed has been talking about a rate hike ever since ending quantitative easing over a year ago. After being delayed in June and September, due to a combination of soft US data and financial market turmoil, the Fed has given ample warning recently of a December hike provided there were no unanticipated shocks and that economic data is consistent with further labour market improvement and confidence that inflation would rise. In the absence of any major shocks and with US economic data mostly favourable, the US money markets had effectively moved to price in the tightening.
 
More importantly the move should be seen as a “dovish hike” in that while the Fed has hiked the commentary around it was relatively dovish with the Fed indicating that it expects future increases in the Fed Funds rate to be “gradual” and dependent upon further “actual and expected progress towards” its inflation goal of 2%. Federal Reserve officials also lowered their median expectation for the Fed Funds rate (known as the “dot plot”) for end 2017 from 2.625% to 2.375%.
At its core the Fed's move is positive as it signals that the US economy is strong enough to be further taken of the life support that has been in place since the global financial crisis (GFC).
Against this though it’s understandable for investors to be wary as they have become used to zero interest rates for so long.
Why the hike?
The reasons for the hike are simple.
The extraordinary monetary easing since the GFC (zero interest rates and three rounds of quantitative easing) have done their job in seeing off the risk of a depression and returning US growth to reasonable levels. Jobs are now well up on pre GFC levels, unemployment is down to 5%, confidence is up, the housing sector has recovered and business is investing. And since inflation normally turns up with a lag after the jobs market has improved the Fed feels there is a strong argument to get going now.
<a href="/images/2015/12/16/Screen%20Shot%202015-12-17%20at%2011.42.22%20AM.png" target="_blank">Click to enlarge</a>
<img src="/images/2015/12/16/Screen%20Shot%202015-12-17%20at%2011.42.22%20AM.png" alt=""> 
What does it mean for investment markets?
There are several reasons not to be too concerned about the Fed’s shift to a tightening cycle:
First, and perhaps most importantly the rate hike is a sign that the world’s biggest economy is getting back to normal after the havoc of the GFC. This is a good news.
Second, US economic downturns/recessions have historically only come three years after the first Fed rate hike in a tightening cycle. In fact, recession did not come for seven years after the February 1994 first hike and for three and a half years after the June 2004 first hike. This is because the first rate hike only takes monetary policy from very easy to a bit less easy and it’s only when monetary policy becomes tight after numerous rate hikes that the economy gets hit. This is often signalled by long term bond yields falling below short term interest rates. And we are a long way from that.
So while there can be share market wobbles around the first Fed rate hike after major easing cycles – just as we have seen this year – sustained problems usually only set in when monetary policy has become tight. This can be seen in the next chart. Shares had wobbles when interest rates first started to move up in February 1994 (US shares had a 9% correction at the time) in June 2004 (US shares had a 8% correction at the time) but thereafter they resumed their rising trend and a bear market did not set in till 2000 and 2007 after multiple hikes and with recessions looming.
<a href="/images/2015/12/16/Screen%20Shot%202015-12-17%20at%2011.44.38%20AM.png" target="_blank">Click to enlarge</a>
<img src="/images/2015/12/16/Screen%20Shot%202015-12-17%20at%2011.44.38%20AM.png" alt="">
 
Third, other major countries – Europe, Japan, China and Australia – are still easing or are at least a long way from monetary tightening. So global monetary conditions will remain very easy which is positive for growth assets.
Fourth, while US shares are expensive on some measures after having outperformed since the GFC other share markets are relatively cheap. This is not 2000 or 2007.
Fifth, fears around an ever surging US dollar reaping havoc on US multinationals, commodity prices and emerging countries (via potential debt servicing problems) are overdone. For one thing despite widespread views to the contrary the relationship between US interest and the US dollar looked at on a trade weighted basis is rather messy.
<a href="/images/2015/12/16/Screen%20Shot%202015-12-17%20at%2011.45.48%20AM.png" target="_blank">Click to enlarge</a>
<img src="/images/2015/12/16/Screen%20Shot%202015-12-17%20at%2011.45.48%20AM.png" alt="">
The $US actually fell through the Fed rate hike cycles of 1994-95 and 2004-06. In fact, the 20% rise in the value of the $US over the last two years could turn out to be a case of “buy on the rumour/sell on the fact”, to the extent it’s anticipated the Fed. What’s more the Fed is not oblivious to the $US as its gain over the last year is akin to around 150 basis points of US interest rate hikes in terms of bearing down on growth and inflation so it’s been doing the Fed’s job for it. 
So the rising $US will likely constrain the Fed, which in turn will limit upside in the $US itself.
Finally, and related to this, the Fed is likely to be gradual.
The experience this year with further global growth disappointment, falling commodity prices and falling/low inflation highlights that deflation remains a greater risk than inflation. As a result Fed rate hikes are likely to be very gradual and closer to market expectations for the Fed Funds rate to rise to 1.1% by the end of 2016 and 1.6% by end 2017 than the Fed’s median “dot plot” expectations for 1.375% by end 2016 and 2.375% by end 2017. This means that easy US monetary policy will likely be with us for some time. 
Combined with still ultra easy/easing monetary policy in other major countries, this suggests that bond yields are likely to remain low with any rise being very gradual.
In summary, with the Fed’s decision out of the way and future rate hikes likely to be gradual:
Shares are likely to resume their rising trend but with US shares being a relative underperformer. I find it hard to get bullish on emerging market shares generally but that has more to do with their own structural problems than the Fed.
Real assets like commercial property and infrastructure are likely to benefit from ongoing low bond yields and the search for yield.
Bonds are likely to offer constrained returns reflecting low yields, but a sharp sell-off is unlikely in the absence of a much more aggressive Fed.
Risks
While past experience suggest little reason to be too concerned by the first US rate hike, there are a few risks. In particular: the Fed is still underachieving on its inflation objective; global growth is still fragile and if the Fed’s rate hike does put more pressure on the value of the $US, the Fed may have made life more difficult for emerging countries; the combination of lower energy prices and higher US interest rates has led to an intensification of stress in the US credit market, as highlighted by some mutual funds that invest in junk bonds freezing redemptions (something certainly worth keeping an eye on).
There is long list of countries that have raised interest rates since the GFC – including Europe and Australia – only to cut them again. Japan had a similar experience in the 2000s. So there is always a risk the Fed may have made a similar mistake.
But the Fed does have the flexibility to keep its Fed Funds rate at the low end of its new range which would mean hardly any effective interest rate increase anyway. More importantly, most of these considerations simply reinforce the argument for the
Fed to be cautious and gradual in raising interest rates. Its commentary – and common sense – suggest it will be.
Impact on Australia
To the extent that the Fed’s interest rate hike signals a stronger US economy its good news for Australia. It doesn’t signal that higher Australian interest rates are on the way though.
Australian rates often follow the big swings in US rates, but in recent times they have diverged. With the Australian economy on a weaker trajectory relative to its potential than the US economy, the RBA will not be following the Fed into a rate hike.
In fact, the odds remain that the RBA will have to cut again as the mining boom continues to unwind, the contribution to growth from housing starts to peak next year and inflation remains low.
The main relevance of the US rate hike is what it means for the $A. With the Fed undertaking a dovish rate hike there is a risk that a further fall in the $A will be further delayed. But as the Fed undertakes more albeit gradual rate hikes next year, the RBA retains an easing bias and commodity prices remain weak the trend in the $A is likely to remain down with it heading to around $US0.60 sometime in the next 12 months.
<a href="https://www.propertyobserver.com.au/https://plus.google.com/110172465327488162875?rel=author" target="_blank">SHANE OLIVER</a> is head of investment strategy and economics and chief economist at <a href="https://www.ampcapital.com.au/home" target="_blank">AMP Capital</a> and is responsible for AMP Capital's diversified investment funds.
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