S&P/ASX 200, RBA, CHINA, IRON ORE – Q4 TOP TRADESCommodity prices wax and wane but cash flows remainLoose fiscal and monetary policy are here
S&P/ASX 200, RBA, CHINA, IRON ORE – Q4 TOP TRADES
- Commodity prices wax and wane but cash flows remain
- Loose fiscal and monetary policy are here to stay for now
- As the economy reopens, conditions are ripe for expansion
The ASX 200 has traded close to 6% below the high seen in August. This was largely on the collapse of the price of iron ore and the risk of regional economic contagion of Evergrande, the Chinese property group, defaulting on its debt. The RBA and the federal government have loose monetary and fiscal policy settings. This is likely to remain the case, fundamentally supporting the index.
The Chinese Communist Party (CCP) has stipulated that the country’s steel mills must produce less output in the second half of 2021 than was produced in the second half of 2020. The price of iron ore recently dipped below USD 100 per tonne from recent highs above 200 USD per tonne.
Australian miners have costs of sub-20 USD per tonne due to the scale of the required infrastructure in place. The CCP has previously made it clear that it wants to move away from relying on Australia for iron ore. If the price of iron ore falls below 80 USD a tonne, marginal producers from other sources become unprofitable.
The share price of the big miners in the S&P ASX 200 Index have already fallen by 30-50% to reflect the lower commodity price. They may fall further, but iron ore prices appear less likely to see the scale of already seen drops.
Regional risks undermined Australian equities late in the third quarter. The episode of the potential default by Evergrande highlighted this vulnerability. However, this risk was extinguished by government intervention. China is not the only government willing to step in to ensure post-pandemic recoveries remain intact.
ASX 200 has traded close to 6% below August Highs
Chart created with TradingView, prepared by Dan McCarthy
The RBA has stated that interest rates changes are on hold indefinitely and that the current level of their bond-buying program will remain in place until February 2022, unless circumstances change. If the economy turns down, more liquidity will likely be added. If the economy turns up, equity markets may remain higher.
The federal government is maintaining an extraordinary level of stimulus, as stated in the 2021-2022 budget, adding to economic activity.
New South Wales, the most populous state, will come out of lockdown in October. Other states are set to follow. The economic bounce-back from exiting the lockdowns in 2020 lead to GDP growth of 3.3% for the fourth quarter alone. It’s possible to see something similar in the coming months.
There are risks to a bullish case for the ASX 200, especially if foreign central banks tighten more than markets anticipate. An event like this could cause a temporary selloff and for the ASX 200, a break below the previous low near 7197.2 would likely force a re-assessment of the outlook.
— Written by Dan McCarthy, Strategist at DailyFX
Contact Dan via @DanMcCarthyFX on Twitter
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