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Trump executive orders, US ructions to have muted Aussie equities impact

Glenn Freeman  |  08 Feb 2017Text size  Decrease  Increase  |  

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Australian currency movements, the outlook for our finance and healthcare sectors, and the appeal of gold were among a broad range of topics addressed in Morningstar's first 2017 webcast.

 

As Donald Trump's presidency nears the 30-day mark, amid persistent uncertainty and volatility in financial markets, an attempt to reverse the Dodd-Frank financial reforms could be next on the already long list of executive orders.

In response, US investment bank stocks rallied last week--Morgan Stanley and Goldman Sachs were up 5.5 per cent an 4.6 per cent, respectively--as investors eagerly awaited further news.

However, investors in Australia shouldn't read too much into recent headlines, and even those in the US may be getting ahead of themselves, according to Morningstar's head of equities research, Peter Warnes, and Morningstar senior credit analyst, John Likos.

This was among several topics on Trump's potential impact for Australian investors, as addressed in a wide-ranging discussion earlier this week, including a flow of live questions from subscribers.

"I think the net impact relating to the Dodd-Frank changes will be minimal in Australia. In the US specifically, it will be positive for US banks, but negative for US credit, and the ratings agencies have already stated as much," Likos said.

"In terms of Australia, I think there really won't be much impact. APRA [the Australian Prudential Regulation Authority] really does dictate what happens here, and to be quite frank, I don't think APRA will be too caught up in the changes that are made in the US, so I think it will be 'as you were' in the Aussie credit markets for the banks."

Even if significant changes to Dodd-Frank are tabled, Warnes believes it unlikely a wholesale relaxation of capital controls for US banks will result.

"The implications to make banks take more risk, after all the work that the Fed has done to try to make 'too big to fail' banks almost impregnable, is not a good idea, and I don't think that's what the wind-back is all about," he said.

Which sectors will win and lose?

Asked which sectors could see a tailwind from the Trump presidency, Warnes acknowledged the difficulty of picking winners given the early stage of the new administration and ongoing uncertainty, but singled out financials and healthcare.

"Narrowing it down to sectors is very, very difficult ... but generally, I'm positive in terms of world growth ... health is an issue, and even though there has been a lot of statements made by Trump and what have you about drug companies, you've got to make sure you separate drug companies and other service providers," he said.

Warnes suggests it is the former cohort of companies in the healthcare space that may struggle more under some of Trump's proposed regulatory roll-backs.

"The drug companies ... that have had elevated pricing under Obamacare, that's what [Trump] wants to get down," he said, while those providing services "will not be interrupted in terms of what they're going to do."

Elsewhere, Warnes believes banks and financials should be okay: "Again, flow of funds and capital flows are relatively positive."

"But it's very difficult at this stage, because there are so many moving parts, and nothing's been nailed down yet--we've had 18 executive orders in the first week, and whether or not they stick is a moot point," he said.

The currency see-saw

On anticipated currency moves, Warnes emphasised the impact of Australia's resources sector on local currency, with the price of iron ore "the driving factor behind the Australian dollar at the moment".

"If the iron ore price starts drifting off, out of China, then I think you'll find that the Australian dollar will start coming back. Excluding the iron ore price, the interest rate differential will move in favour of the US dollar," Warnes said.

"The US will increase rates, and it's just a matter of how many increases they will undertake. My gut feel is that the Australian dollar to US dollar will come under some pressure, and probably drift back towards 70 cents by the end of the year. It could even dip under that if iron ore, for some unknown reason, really tanks."

Expanding on this view, Likos highlights the interest rate differential between the two countries--with the Fed widely tipped to introduce a series of additional increases this year, while Australia's Reserve Bank leaves rates unchanged or even cuts.

"As rates go up in the US, then foreign capital flows become attracted to those rates, and often that would be at the expense of Australian capital flows," Likos said.

In this case, you would "have money leaving Australia to the US, because you have higher rates on offer ... that will be a key driver of what we expect to be a kind of trending downwards [of the] Australian dollar this year".

All that glitters

Fielding questions on whether gold represents the ultimate safe haven in the current market environment, Warnes said he was "positive on gold" but emphasised moderation on commodities.

"In any portfolio, they should be very moderate, in my opinion. They are relatively high risk, volatile and hard to put definitive numbers around. Analysts do their best to figure out what cash flows are going to look like over time. There's so many moving parts ... those types of equities should never be the mainstay of your portfolio," he said.

Additionally, Likos pointed out that resources companies around the world "have a history of not being particularly good with their capital allocations ... [and] have exhibited some quite destructive capital policies."

"At the moment, it's a strong momentum play, and it's not really something that we focus on, but far more on the longer-term value plays," Likos said.

More from Morningstar

CIMIC's 2016 profit, dividends beat forecast

China crisis still a possibility

 

Glenn Freeman is Morningstar's senior editor.

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