Carry on, carry off 

In August, central bank actions and concerns about a weaker economic outlook dominated the financial landscape, leading to a significant shift to risk-off and surging volatility. However, heavy selling in equities was quickly reversed, with most markets recovering their losses by the end of the month. However, government bond yields did not experience the same rebound and reset to a lower level. As a result, while equities posted gains, bonds outperformed them over the month. The MSCI World Index gained 1.7% compared to the Bloomberg Global Aggregate Index's 2.4% return (total returns in local currency).

The U.S. Federal Reserve (the Fed) has a dual mandate: maintaining price stability with a 2% inflation target and achieving full employment. As the inflation rate approaches the target, the labour market's health becomes increasingly important. In July, the U.S. unemployment rate rose to 4.3%, triggering the Sahm Rule, a historically accurate recession predictor. This raised concerns about the U.S. economy's strength and increased expectations for aggressive rate cuts by the Fed. Investors shifted from risk-on assets to safe havens, pushing the VIX index to an intra-day high of 65 and driving 10-year U.S. Treasury yields down to 3.8%.

The Japanese yen (JPY) carry trade, which involves borrowing at low interest rates in Japan to invest in higher-return markets, came under significant pressure. The Bank of Japan's rate hike and hawkish tone at the end of July strengthened the JPY, jeopardizing this carry trade and leaving investors scrambling to cover short positions in the currency. The unwinding of USD/JPY carry trades led to a broader equity sell-off across the region, but Japanese equities experienced the steepest selloff. The TOPIX index fell 12.4% in one day before recovering to close August down 2.9%.

We believe the U.S. economy is cooling rather than contracting, extending this phase of the economic cycle. The second quarter gross domestic product (GDP) was revised higher to 3.0% quarter-over-quarter (q/q) annualised, and the rise in the unemployment rate reflects increased labour supply rather than a lack of demand. Strong consumer spending supports the conviction that a soft landing is achievable.

In his speech at the Jackson Hole Symposium, Fed Chair Jerome Powell acknowledged that "the time has come for policy to adjust," signalling the start of the policy easing cycle in September and shifting discussions to the extent of upcoming rate cuts.

Despite the early August selloff affecting global equity markets, quality stocks have proven resilient. The MSCI World Quality Index experienced a smaller drawdown during this volatile period and closed the month up 2.9%, outperforming the MSCI World Index. We remain optimistic about quality stock selection through sound active management.

Australian economy:

• The Reserve Bank of Australia (RBA) left the cash rate unchanged at 4.35% as expected. The messaging was tough, noting that policy will need to be sufficiently restrictive, and that inflation will take some time before coming sustainably into the target range. The updated staff forecasts is for a slightly strong growth profile (GDP 1.7% in Dec ’24 and 2.5% in Dec ‘25) and steady inflation view. Trimmed mean inflation is forecast to be within the top of the target band by Dec ’25 (2.9%). The RBA does not require inflation to be in the target band to cut rates, but moving towards it, and the first rate cut is likely to come in 1Q 2025.
• Broad economic data suggested a soft GDP print for the second quarter. Private caped declined 2.2% q/q and residential investment contracted (-0.1% q/q) for the third consecutive quarter.
• The July consumer price index (CPI) inflation figure of 3.5% year-over-year (y/y) was a little higher than expected but down over the prior month, indicating the impact of mid-year government subsidies and the large decline in energy prices.
  (GTM AUS page 5)
• An orderly slowing in the labour market continued in July as the unemployment rate rose to 4.2%, its highest level since early 2022 but still low in historical terms. Quarterly wage growth remained at 4.1% in the three months to June, after the first quarter growth rate was nudged higher to 4.1% y/y.
  (GTM AUS page 9) 
• House prices were up a solid 0.5% month-over-month in August, but the year ago change continues to decline and fell to 7.1% y/y. As in prior months, the pace of house price appreciation varies widely by city. House prices in Sydney rose 5.0% y/y in Sydney but fell by 1.0% y/y in Melbourne.
  (GTM AUS page 10 and 11) 
  

Equities:

• The ASX 200 gained 0.5% in August, topping the table in Australian dollar (AUD) terms compared to global markets. However, local terms lagged the 1.3% return in European markets and 2.4% in the U.S. Japan, as noted earlier, remained in negative territory for the month at -2.9%, but is still up 16.0% year-to-date. Australia small caps reversed the July gains and fell by 2.0% in August.
  (GTM AUS page 31)
• The Australian August earnings season resulted in an even balance on beats and misses, with 27% and 26% respectively, and 47% of companies reporting earnings in line with expectations. The overall picture was not positive, as 46% of reporters downgraded the earnings outlook by an average of 3.4%.
• The consumer was in focus during the earnings season. The backdrop is uneven but resilient when it comes to household consumption as the cost-of-living pressures are starting to shape spending behaviour.
• Earnings expectations for the U.S. have crept higher for 2025, with consensus expecting 15% y/y earnings per share (EPS) growth. The 2Q earning season in the U.S. underwhelmed when looking at earnings (4.3%) or revenue (0.7%), a surprise compared to long-run averages. However, margins rose back above 12%.
  (GTM AUS page 33)
• At the sector level in Australia, tech was top of the table with a 7.9% return, followed by industrials (3.5%) and consumer services (2.3%). The laggards were energy (-6.7%), materials (-2.1%) and utilities (-1.7%).

Fixed income:

• Australian government bonds yields fell 15 basis points (bps) over the month to 3.97%, 1 bp higher than where they started the year. The U.S. 10-year Treasury yield declined by 14 bps to 3.92%, the same yield as the 2-year Treasury yield, meaning the U.S. yield curve is not inverted but flat.
  (GTM AUS page 49)
• Across the credit spectrum, returns were positive. Global investment grade rose 1.9% and high yield was up by 1.5% (GTM page 48). The risk-off tone that gripped equites did not translate to credit markets as spreads remains at the lower end of historical ranges.
  (GTM AUS page 51) 

Other assets:

• Commodities were down marginally in August and the Bloomberg Commodity index fell 0.4%. Energy prices contributed to the decline as the price of a barrel of Brent crude was 1.8% lower at USD 79.93.
  (GTM AUS page 64)
• The steady weakness in the Chinese property sector continues to weigh on the price of iron ore, which was further impacted by news of rising steel stockpiles in China. The iron ore price was down to USD 98 per ton at the end of August and well off the plus USD 140 it started the year.
  (GTM AUS page 67)
• Outside of bulk commodities, metals did better as aluminum (9.4%), copper (1.2%) and nickel (3.5%) rose. The gold price made another new record high in August and ended the month over USD 2,500 per ounce.
  (GTM AUS page 67)
• Rising expectations of a sharper U.S. rate cutting cycle was a headwind to the U.S. dollar performance in August. The AUD was 3.9% against the greenback, while the euro and JPY gained 3.7% and 3.2%, respectively.
  (GTM AUS page 69)