Safe-haven buying may explain why Australian stocks are surging

Mark Dadswell/Getty ImagesSafety first.
  • Australia’s ASX 200 has increased 8.5% since the start of April.
  • A lower Australian dollar and an expectation that interest rates will remain lower for longer has likely contributed to its recent outperformance.
  • Deutsche Bank says the ASX’s defensive qualities, along with cheaper valuations in the banks, may have encouraged offshore investors to buy into the market.

After years of being a global underachiever, Australia’s stock market has been a standout performer this year.

The benchmark ASX 200 has rallied 8.5% since the start of April, a somewhat remarkable performance given mounting concerns surrounding the outlook for the Chinese economy, Australia’s largest trade partner by some margin.

It now sits just shy of the decade high of 6,250.80 points set late last month, seemingly ignoring the carnage witnessed in Chinese financial markets over the past few months.

Investing.comASX 200 Daily Chart

So why is the ASX suddenly a market darling at a time when concerns about the global economy are elevated?

While a sharply lower Australian dollar, especially against the greenback, has undoubtedly been a factor, proving a tailwind for companies with a large share of offshore earnings, that alone doesn’t explain the size of the recent move.

A perception the RBA may leave official interest rates unchanged for even longer, at the margin, may have also supported higher-yielding sectors, particularly those that were beaten up when long bond yields were shooting higher earlier in the year.

However, in relation to other markets, especially in Asia, the ASX appears to be remarkably resilient in turbulent times.

To Tim Baker, Macro Strategist at Deutsche Bank, this reflects that Australian stocks are a defensive destination for capital flows in Asia.

Deutsche Bank

“Australian equities are quite defensive, even with the sizeable resource weighting,” he says. “Volatility has consistently been lower than most markets for decades now.”

Baker says this partially reflects that the ASX has a heavy weighting in defensive sectors, account for almost 30% of the market, in contrast to many of its Asian peers with an average of 20%.

Deutsche Bank

Along with its safe haven appeal, Baker says there are other factors that are helping to support the market at present.

“There’s also the large pool of domestic savings to act as a ballast for markets. And Australian companies generally deliver good corporate governance and healthy dividend yields,” he says.

He also points buying from offshore investors after years of being underweight Australian equities.

“Both the data and investor feedback suggest foreigners have been heavily underweight Australian equities, meaning a small rise in flows can have an outsized impact,” he says.

“Supporting this, the Q1 balance of payments data revealed a sharp drop in net equity flows in late 2017/early 2018.”

So offshore investors, in his opinion, may have contributed to the recent burst of buying.

And that may include in Australian banks, something Baker says have grossly under-performed both the ASX and financials in other major markets.

“Aussie banks underperformed significantly over the year to May, both relative to the Australian market and overseas peers,” he says.

“Regulatory risk weighed, as did slowing credit growth.”

Baker says they’ve attracted interest given the cheapening up in valuations, contributing to the broader rally in the ASX 200 given they account for 25% of the Australian market.

Looking ahead, Baker expects many of the prevailing trends will continue in the period ahead.

“Positioning is likely still quite light, and we agree that banks have become overly cheap. And until there’s further clarity on trade tensions, defensiveness could stay valued,” he says.

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