Our expected subdued performance for the September quarter 2023 played out, with the S&P/ASX 200 benchmark slipping slightly, with an intraday low point of 6,958 on Sept. 22 (a 3.4% decline from June 30) and the total return S&P/ASX 200 Accumulation Index easing marginally.

The 2023 reporting season came and went, with most meaningful share price movements determined by guidance commentary rather than results. Significant, but not unexpected falls in reported profits of mining companies, particularly the heavyweight iron ore trio BHP (ASX:BHP), Rio Tinto (ASX:RIO), and Fortescue Metals (ASX:FMG), affected the overall level of corporate earnings. A feature of this reporting season was very high impairments and restructuring costs of over AUD 20 billion, led by consumer discretionary and utilities.

Bond yields

The forward guidance was mixed but with a cautious and subdued bias overall. Further updates on earnings can be expected at annual general meetings through late October and November.

Three major banks, ANZ Group (ASX:ANZ), National Australia Bank (ASX:NAB), and Westpac (ASX:WBC) will report results for the year ended Sept. 30 and will also determine the near-term direction of the financial services sector, which represents almost 26% of the S&P/ASX 200 index. The spotlight will be on expense growth with wage inflation key. Bank impairment charges should remain benign, and provisions are adequate.

Basic materials, which represent 24% of the S&P/ASX 200 index, will be influenced by
the iron ore price, exclusively reliant on Chinese demand and the ongoing stimulus
programs to support its ailing real estate sector and to reignite household spending.

The outlook for fiscal 2024 is for moderating growth in corporate profitability with higher
interest rates and operating costs putting pressure on margins. Those exposed to
discretionary spending will continue to see a deterioration in revenue while consumer
staples should generally ride out the storm, though margins will likely contract with
sales volumes easing and competitive forces increasing.

Rising yields

Key economic data including inflation, labor force, and retail sales will influence bond yields. Higher yields will put pressure on equity valuations that are yet to fully adjust to a return to a more normal yield environment. The timing of cuts to the official cash rate are generally seen as a second-half 2024 event. Banks are cutting fixed loan rates but that will not influence the Reserve Bank of Australia.

We expect the market to remain under pressure and trade in a relatively narrow band between 6,800 and 7,200 through the December quarter. Any weakness in offshore mega tech stocks is unlikely to have a meaningful impact, while the progress of further stimulus by Chinese authorities will be of far greater importance. A turning point is likely if bad economic news forces the central bank to start cutting rates.

Economic outlook: More unsettled weather ahead

Australia’s ebbing economic tide will continue through the December quarter, easing in intensity during the March quarter. It may not turn up before the June quarter of 2024.

Annual gross domestic product growth eased to 2.10% in the June quarter, but as economic activity slows further in the second half, GDP growth for full-year 2023 is likely to be closer to 1.00%. Per-capita GDP has already chalked up consecutive quarters of contraction in both the March and June quarters. The RBA’s current forecasts for GDP growth are 1.00% in 2023 and 1.75% in 2024. This compares with long-term annual GDP growth of 3.37% between 1960 and 2023.

Household consumption, the main driver of economic growth, is being affected by an unpleasant mix of high mortgage rates, elevated cost-of-living expenses, and sticky core inflation, which are collectively driving a contraction in real disposable income. These pressures will continue into the December quarter and beyond, stunting economic growth probably through the June quarter of 2024. Growth in household consumption is expected to remain weak through March as discretionary spending continues to fall.

Household consumption

While inflation has eased since peaking in December 2022, services inflation remains sticky and accelerated in the June quarter to an annual rate of 6.3%, the highest since the introduction of the GST in 2001. The September quarter results, to be released on Oct. 25, will be critical to the RBA’s decision at the Nov. 7 meeting. A further rate increase is more likely than not.

The headline Consumer Price Index inflation rate will be driven by the 25% plus surge in global oil prices since June 30, driving automotive fuel prices to record levels. The pervasive nature of rising fuel prices throughout the economy cannot be underestimated and while stripped from core and trimmed mean calculations, they increase the call on household disposable income, a particular concern for the heavily indebted.

The timing of rate cuts has been pushed out as the higher-for-longer scenario gathers momentum, mostly from offshore. The RBA needs to have more certainty around inflation and is unlikely to change direction unless the economic picture deteriorates meaningfully.

Labor productivity

The Wage Price Index rose 0.8% in the June quarter taking the annual rate to 3.6% (private sector 3.7% and public sector 3.1%). Increases in wage awards by the Fair Work Commission, which kicked in on July 1, are currently working their way through the economy adding to corporate operating costs. With labor productivity continuing to decline, there is additional upward pressure on real wages, underpinning cost-push inflationary pressures. This remains at the forefront of RBA thinking when considering all the implications for monetary policy.

The labor market conditions are also expected to soften with the unemployment rate moving closer to 4% by year-end. Private sector investment is also expected to weaken.

The full Q4 Australia Equity Market Outllook report is available for Morningstar Investor subscribers here