Most global equity markets have now recovered the pullback of mid January to mid February to end the March quarter higher. Fears stemming from sovereign debt issues and Chinese authorities slowing growth have largely been put aside as markets focussed on other factors. We would expect a sustained, but uneven, global recovery in 2010 and beyond with Asia and Australia leading and Europe lagging. Increasingly, a number of central banks have started exiting their earlier policy support measures and are now starting to look to raise their official interest rates. In China, higher reserve provisions have not sufficiently curbed credit growth and higher interest rates and an appreciation of the Yuan will probably be required to prevent a further overheating in its economy.

In Australia, the economy continues to grow strongly. Fundamentals are continuing to point upwards and the risks to domestic growth and commodity prices continue to be on the upside. This would suggest that the Australian equity market overall should be well supported by both revenue and earnings growth in the remainder of 2010. Risks however remain and we believe that a level of volatility in markets will continue for some time.

Going forward, sovereign debt issues of European countries, fears of the effects of a moderation of growth in industrial growth in China, are likely to continue to pose risks to the improving global growth outlook.

Download a pdf version of this report:2010.04.21 Quarterly Economic and Market Commentary

Global equity markets have continued to regain much of the ground lost post the Global Financial Crisis. The global economy’s transition from recession to recovery is taking place faster than had been expected only 6 to 12 months ago with most developed economies now starting to post positive quarterly growth rates. As we stand in January 2010, major world stockmarkets have staged remarkable recoveries throughout 2009 and the major drivers for equity market performance being low interest rates, improving profit expectations and appetite for risk, continue to remain supportive but there are significant risks going forward. The major risks to the present recovery of the world economy are the developing asset bubble in China and the fragility of the US economy.

In Australia, the economy is growing, the A$ is very strong against the major world currencies, interest rates are low although increasing and unemployment now seems to have peaked at around 6 percent. The government is starting to look at unwinding much of the fiscal stimulus and the RBA has quickly moved to increase interest rates by 0.75% over the past 3 months. The risk is that further RBA interest rate increases to counter expected inflationary trends going forward and slow economic recovery could lead to further unemployment. Also, there are risks that China’s attempts to moderate economic growth will impact negatively on Australia’s booming resources and energy sectors.

The Australian stockmarket as measured by the S& P 200 is up 31 percent for the year and more than 50 percent from its March 2009 lows. Going forward though, the key performance drivers will be how the domestic economy holds up without the prop of federal government stimulus, how corporate earnings improve and the outlook for global growth.

Download a pdf version of this report: 2010.01.13 Quarterly Economic and Market Commentary

Global equity markets have by and large regained much ground lost post the financial trauma created by the Lehmann brothers collapse in September 2008. The recovery matches that of credit markets where credit spreads have returned to levels more typical of a period of economic weakness. The global economy’s transition from recession to recovery is taking place faster than had been expected and it is becoming clear that a number of countries and regions emerged from recession last quarter. As we stand, following the end of the September quarter 2009, the three major drivers for equity market performance being interest rates, profit expectations and appetite for risk, remain supportive.

In Australia, the economy has held up better than expected being the only economy in the G2O to avoid a technical recession. Unemployment has not, and is not, expected to rise to previous recession levels. With large amounts of fiscal stimulus, the RBA is now expected to raise official cash rates significantly from the emergency level of 3% over the next 12 to18 months to slow the economy.

Global Economic and Financial Conditions

The global economy has benefited from the massive fiscal stimulus provided over the past year. Its impact has been particularly pronounced in China through the first half of 2009. More recently, it has helped Japan and Europe record a mild lift in GDP in the June quarter. The US should be a clear beneficiary in the September quarter through incentives for new car buyers and first home owners.

With a reviving manufacturing sector, it is becoming clear that a substantial number of countries and regions have started to emerge from recession. A large fall in business inventories and firming demand has set the stage for a powerful lift in global industry as firms close the gap between the level of output and sales.

To date a good portion of the growth has been derived from government support whether directly from government spending or indirectly from tax cuts, cash hand-outs and incentive schemes to buy durable goods.

The key to a sustained worldwide recovery in consumer spending is a reduction of the drag from contracting labour markets and past wealth losses. There is more work to be done here, however significant progress has been made on these fronts with the pace of job shedding having moderated, global stock prices having sharply risen and credit market conditions having eased significantly.

In the US, there are encouraging signs that housing markets are stabilising with housing indicators showing improvement recently. New and existing home sales have picked up, housing starts are expanding and house price declines are moderating considerably.

Internationally, interest rates have been at historical lows at around the 0 to 1 per cent across developed economies. The message from central banks remains that interest rates will stay on hold for the foreseeable future. Recent statements from the US Federal Reserve, Bank of Japan, European Central Bank and the Bank of England were guarded in their assessment of current conditions. Each emphasised the low levels of activity and resource utilisation and the likelihood of a slow recovery once growth resumes. This points to subdued core inflation and a continuation of accommodative policy. One would anticipate the deferring of interest rate rises from Central bankers until after unemployment has peaked. This is distinctly different to Australia where the RBA has become the first major central bank to begin raising interest rates from a 49 year low of 3 per cent as its confidence grows that the economic recovery will pick up pace next year.

Going forward any rise in official interest rates internationally will probably be gradual and policy will remain supportive of economic growth.

Internationally amongst developed countries, business sentiment has improved in recent months suggesting positive momentum.

With consumer confidence subdued and unemployment set to rise further, the recovery could still disappoint as the fiscal stimulus fades. Unemployment in the US rose during September, from 9.7 per cent to 9.8 per cent. Non-farm payrolls fell by 263,000 in September, whereas economists had anticipated a 175,000 drop.

A key indicator showing improved credit market conditions is the LIBOR-OIS spread. It is a comparison between the London Interbank Offered Rate (LIBOR) and the overnight index swap (OIS) rate. The OIS is effectively the interest rate at which the Federal Reserve will lend to banks. The LIBOR is a measure of the interest rate at which banks are prepared to lend to each other. Fixed interest analysts aren’t too concerned with the nominal value of each of these rates. What they are concerned with is the relationship between these two rates. Typically, LIBOR is higher than the OIS, but knowing that alone isn’t enough. It is the spread between the two rates which is significant as a measure of credit market conditions.

Fig.1 3 month LIBOR-OIS Spread (Jan 2003 – July 2009)

The graph depicts how much the spread has fluctuated away from an average (of about 10 basis points) over 6 years. The higher spread is typically interpreted as an indication of a decreased willingness to lend by major banks, while a lower spread indicates increased willingness and higher liquidity in the market. So, the spread can be viewed as indication of banks’ perception of the creditworthiness of other financial institutions and the general availability of funds for lending purposes.

The spread has historically hovered around 10 basis points. However, in the midst of the financial crisis of 2007–2009, the spread spiked to an all-time high of 364 basis points in October 2008, indicating a severe tightening of credit. Since then, the spread has declined substantially, dropping below 100 basis points in mid-January 2009 for the first time since September 2008.

As at the end of the September 2009 quarter, the LIBOR-OIS spread, a key gauge of banks’ confidence in the market, remained narrow, indicating continued optimism. The LIBOR-OIS Spread was 12.4 basis points, up slightly from recent lows of approximately 11 points. A narrower spread denotes greater bank confidence as they charge lower interest rates to their most trusted customers – other banks. Forecasts are for a LIBOR-OIS spread of 8.5 to 9 basis points by calendar year’s end.

The International Monetary Fund expects the global economy to grow in the fourth quarter, but suffer a 1% contraction overall for the 2009 year. In its latest biannual World Economic Outlook (WEO) the IMF has lifted its forecast for global growth for 2010 to 3 per cent. However, the IMF has warned of a weak global recovery and the possibility of a further slump as government-backed stimulus loses strength, underlining that the main risk is that a global recovery may “stall”. These were the views in its WEO published on the eve of autumn IMF/World Bank session in Istanbul recently.

Domestic Economy and Financial Conditions

The Australian government has endeavoured to support the Australian economy through highly stimulatory fiscal policy in the face of the worst economic downturn since WWII. Australia’s fiscal boost came in the form of cash payments to low-and middle-income households which helped preserve jobs in labour intensive sectors such as retailing and hospitality. Further, the government’s boost to social infrastructure saved jobs in construction.

The jobs outlook in Australia is improving with the number of job ads in the ANZ jobs survey rising in September for the second consecutive month. Jobs advertised in newspapers and on the internet rose 4.4 per cent in September after a 4.1 per cent rise in August. Previously, job ads had contracted for 15 consecutive months from May last year to July this year.

The unemployment rate in Australia was at 5.8 per cent at the end of September and at the time of writing the September figures have just come in lower at 5.7 per cent. The absence of an increase in unemployment has meant that consumer confidence has and now will probably stay higher than otherwise expected. Unemployment is not expected to rise to the 8.5 per cent as forecast in the May budget with many now forecasting a 6.5 – 7 per cent peak unemployment rate sometime in 2010.

At the end of September, business confidence is at a six year high and consumer sentiment is now at a two year high.

Underlying inflation in Australia is at 3.9 per cent above the RBA’s 2 to 3 per cent target range.

Turning to interest rates, the RBA board decided that there was no need to keep the official cash rate at the 49 year low of 3 per cent and began what could now be a lengthy process of unwinding monetary policy stimulus, raising interest rates at its October 6 meeting by 0.25 of a percentage point. Australia is now the first developed country to raise interest rates since the global financial crisis and has signalled that it will continue to gradually raise rates over the months ahead.

The A$ has recovered sharply from its lows last year reflecting a combination of $US weakness, stronger commodity prices and, now, increasing interest rates. While a short term correction in the $A looks likely, the broad trend is likely to remain up reflecting a commodity constrained world and the relative strength of the Australian economy. Presently, the A$ is valued at US90c after dropping to US60c in October last year.

Turning to growth, the RBA is now of the view that growth in 2010 would likely to reach close to the trend rate of 3 per cent, well above its August forecast of 2.25 per cent. This came only a week after the IMF’s half yearly report released at the end of the September quarter where it predicted the pace of economic growth in Australia will pick up to 2 per cent in 2010, up from its earlier forecast of 1.3 per cent, and forecast unemployment rising to just 7 per cent. This is well below the government’s budget forecast and one of the best outcomes among developed countries. In its forecasts, it also raised its growth forecast for 2009 to 0.7 per cent. It warned, however, of a “premature exit” from fiscal and monetary stimulus measures, saying a policy-induced rebound might be mistaken for the beginning of a strong recovery in private demand. This followed the Australian manufacturing sector having recorded a second month (September) of modest growth after sharp downturns over the previous year according to the AIG performance of manufacturing index released in early October.

Turning to the federal budget deficit, the deficit for the 2008/2009 year came in at $27.1 billion, $5billion better than had previously been forecast in the May 2009 budget.

Global Equities

The 3rd quarter of 2009 saw international markets generally perform well, with the exception of China and Japan, in line with the Australian market with double digit returns.

Index	Qtr % Change	12 Mth % Change
FTSE 100 Index (UK)	20.8%	4.7%
S&P/ASX 200 (Australia)	19.9%	3.1%
Sensex (India)	18.2%	33.2%
German DAX Index	18.0%	-2.7%
S&P 500 Index (US)	15.0%	-9.2%
Singapore Straits Times	14.5%	13.3%
Hang Seng Index (Hong Kong)	14.0%	16.3%
Nikkei 225 (Japan)	1.8%	-10.0%
Shanghai Composite (China)	-6.1%	21.2%

Table 1. Movements in Major Global Indices as at 30 September 2009 ranked in order of quarterly performance.

Figs.2 to 6 show the movements in the major indices of the United States, United Kingdom, Germany, China and India over the 12 months ended 30 September 2009.

Fig.2 S&P 500 Index (United States)

Fig.3 FTSE 100 (United Kingdom)

Fig.4 DAX 30 (Germany)

Fig.5 Shanghai Composite (China)

Fig.6 Sensex (India)

The graphs show the continued strengthening of the major indices of the North American, European and Indian regions throughout the 3rd quarter of 2009.

US markets rose 15.0%. Markets were initially driven down by speculation that the US would need a second Government stimulus package. Yet there was evidence that the recovery was gaining traction with a stronger than expected read on GDP which fell less than the forecast 1% annualised in the second quarter, as well as further data showing that the rates of decline in housing and job losses were slowing.

The FTSE gained 20.8% in the quarter on news of better than expected economic data. UK manufacturing output rose over the September quarter recording its first positive quarter on quarter growth since March 20008. This together with a rebound in housing demand and other supportive signs from business surveys is leading to the view that the recession in the UK is ending, although recovery is expected to be slow.

In Europe and in particular the larger economies, Germany (DAX was up 18.0% for the quarter) and France have already exited a recession and are similarly showing signs of recovery with improved credit conditions, policy support and economic and profit recovery.

The laggards this quarter were Japan and China, with the Nikkei up just 1.8% and the Shanghai composite down 6.1%. China’s rally ground to a halt as there were fears that the Government would try to clamp down on excessive lending. The Chinese economy however, continued to report strong investment and production figures

Overseas equities will continue to have support as an asset class on a risk/return basis given its leverage to a recovery and the current historically low returns from both cash and bonds. However, the rally in global equities over the past quarter has been largely driven by Price/Earnings multiple expansion and unless earnings are revised up going forward, increasing stock prices will not be sustained. Having said that, with low returns from cash and bonds and the beginnings of economic recovery emerging, the current environment is favourable for equities. The question is whether demand can be sustained once Governments withdraw stimulus packages and whether an earnings recovery will eventuate as is expected.

Australian Equities

The Australian equity market continued to strengthen throughout the quarter with the S&P ASX 200 index increasing 19.9% for the quarter and the S&P ASX 200 accumulation index increasing 21.5%. On a 12 month basis to 30 September, the S&P ASX 200 index is up 3.1% and the S&P ASX 200 accumulation index is up 8.3%.

Figure 7 shows the performance of the S&P ASX 200 index over the 12 months ended 30 September 2009.

Fig. 7 S&P ASX 200 Index for 12 months ended 30 September 2009

Table 2 shows the industry sector performances for the quarter and year ended 30 September 2009 ranked in order of quarterly performance.

Index	Qtr % Change	12 month % Change
Financials Ex REITS	33.2	17.2
Industrials	29.0	-12.2
REITS (Property)	28.0	-30.0
Consumer Discretionary	24.5	2.0
Information Technology	23.6	24.7
Consumer Staples	12.4	6.4
Energy	12.2	2.1
Materials	10.8	4.6
Healthcare	7.4	-3.8
Utilities	5.4	-9.1
Telecommunications	-3.0	-19.8

Table 2. S&P ASX 200 Industry Sector Performances for Quarter and Year Ended 30 September 2009

Rising property, financial and mining stocks underpinned strong gains on the share market over the past quarter.

As at the end of the September quarter, the All Ordinaries Accumulation index was up 34.9% since the start of 2009 and at its highest level in 12 months, yet still 24% off its previous high.

Good news coming out of reporting season in August boosted the market higher as investors started to look towards the improved growth expectations for the remainder of the 2010 financial year. Earnings per share growth of approximately 3 to 4% for the All Ordinaries Index is now the consensus. Stocks which reported better than expected results included Woolworths, Sonic Healthcare and BHP Billiton.

All sectors finished up during the quarter with the exception of Telecommunications (down 3%). The more defensive sectors were left behind as the pursuit of cyclicals continued. Financials were strong with the sector up 33.2%, whilst Healthcare (7.4%), Utilities (5.4%) and Telcos (-3.0%) were among the weaker performers. In corporate news, Telstra fell to a three-month low in mid September after the federal government outlined a reform agenda that would force Telstra to sell some of its assets.

Other corporate activity included Seven Network taking a 19.9% stake in Consolidated Media. Amcor made a bid for parts of Rio Tinto’s Alcan packaging business, and Woolworths entered the hardware business with a takeover for Danks.

The $A/$US gained strength over the quarter rising from $0.80 to $0.88. This caused some concerns for companies with offshore earnings, but reflects the outlook for rising interest rates in Australia which have now started to occur.

The market generally has been supported by some upward earnings revisions, however most of the re-rating in the equities market has been due to an expansion in PE multiples rather than earnings upgrades. Since the bottom of the market in March 2009, the average PE multiple of the market has expanded by around 6 multiple points to a PE of 16 times.

Cash

The Reserve Bank of Australia (RBA) kept official rates at the 49 year historical low of 3.00% during the September quarter. However at the time of writing, the RBA had just announced a 25 basis points rise in rates to 3.25%. Thus the RBA has become the first major central bank to begin raising interest rates as confidence grows that the economic recovery will pick up next year. The RBA has now begun a process of unwinding monetary policy stimulus.

90 day and 180 day bank bill yields have remained relatively steady but increased towards the end of the quarter as the market anticipated interest rate rises. Yields rose from 3.19% to 3.39% pa and 3.31% to 3.78% pa respectively. Increases in yields on 90 day term deposits have generally been steady, with the best rates on 90 day term deposits moving up slightly from 4.25% to 4.50%pa over the quarter.

Fixed Interest

As the fear in credit markets continued to ease throughout the quarter, so did the selling pressure on many hybrid securities. As a result prices of Hybrids improved over the quarter. Seven Network TELYS3 (SEVPC) rose in value by 9.6% whilst the Fairfax Convertible Preference shares (FXJPB) rose 42.2%.

The Commonwealth Bank of Australia issued a Prospectus for a new hybrid security CBA PERLS V (CBAPA). They will pay a fully franked dividend of 3.40% above the prevailing 90 day bank bill swap rate. Based on the current 90 day bank bill rate of approximately 3.70%, this equates to a grossed up dividend yield of approximately 7.1% per annum on the issue price of the security.

As we enter the new quarter, we are reviewing the relative attractiveness of the various hybrids and will be considering whether a further reduction in the number of hybrids we recommend, and the overall weighting of this asset class, is now warranted.

Listed International and Australian Property

Listed Real Estate Investment Trusts (REITs) had a strong quarter with the ASX 200 Property Accumulation index up 30.5% over last three months. The rally was driven more by a shift in sentiment than by any fundamental improvement in the operating earnings. During the reporting season several Australian REITs in the office sector including Commonwealth Property Office and Dexus disappointed on earnings guidance and dividends, yet their share prices ended higher ending up 14.5% and 12.7% respectively.

Many of the higher risk REITS undertook capital raisings to repair their balance sheets or renegotiated lending terms. They included Valad Property Group, Growth Point Properties Australia (previously Orchard Industrial Trust) and ING Industrial and helped sentiment for the sector.

The outlook continues to be challenging for the sector. With many share prices having re-rated it is difficult to see how much further upside there will be, given that forecast full year 2010 distribution yields for the sector are now averaging a relatively low 5.5%. Investors may see 2010 earnings as a trough in earnings and may look past 2010 earnings for guidance, but the risk is that near term threats may begin to dominate perceptions again.

While actions taken to date have been necessary and have improved the underlying fundamentals of many of these REITS, it is our view that a cautious approach is still warranted.

The S&P ASX 200 Property Accumulation Index, although increasing 30.5% for the quarter ended 30 September 2009, is still down -23.7% for the calendar year.

Investment Outlook

While stronger than expected company earnings reported in August helped fuel the strong share gains of the Australian equities market into September, there are concerns that the strength of the recovery in prices may be somewhat ahead of the anticipated improvement in company earnings. In the short term, there is the risk that the rally in stock prices may not be sustainable. The market will be looking for and needing to see an improvement in underlying earnings for share price gains to keep increasing.

However, taking a two to three year view, we think that at current prices, the shares of many leading Australian listed companies are still relatively attractive. Earnings expectations could easily expand if the global cyclical economic recovery gathers pace and cost cutting instituted by companies over the past year delivers a boost to corporate profits.

At current low interest rates, many equities and some hybrids continue to provide very attractive yields relative to cash particularly when franking credits are taken into account. With equities, evidence of earnings recovery will now be required for further significant gains. The next catalyst for the stock market will be the upcoming February 2010 reporting season when companies announce their results for the half year.

Although the rapid surge has left the share market on a 12 month forward P/E multiple of about 16 times, above the long term average of 14, if the economic environment continues to improve as we expect, then earnings expectations will improve.

We are also cautiously optimistic about the ongoing performance of Asian and European equity markets over the next 12 months, and as with the Australian market, we expect that price appreciation of equities over the next year or so will be considerably slower than we have seen over the last two quarters.

We remain of the view that asset allocation and individual stock selection are critical to portfolio performance in these uncertain times and are prepared to quickly recommend any changes to take advantage of opportunities to maximise returns for clients and protect capital.

Wayne R Morgan BSc (Hons), GDipAppFin, F Fin, AFP

Managing Director and Representative

Morgan Wealth Management Group Pty Ltd

Australian Financial Services Licence No 234555

Disclaimers

The advice contained in this document is general advice only and is not personal financial advice. It should not be acted upon without the reader consulting his or her financial adviser to determine the appropriateness of the advice to the personal financial and investment objectives of the reader.

Morgan Wealth Management strives to provide the best advice to clients based on current economic conditions, financial conditions and government legislation. However, Morgan Wealth Management is not responsible for any losses sustained by its clients due to changes in financial markets, economies or government legislation. No responsibility can be accepted by Morgan Wealth Management for events beyond its direct control.

In the course of providing advice to you, Morgan Wealth Management will often provide you with historical information on the performances of various securities and managed funds. In considering the advice and information presented, you should be aware that past performance is not a reliable indicator of future performance.

Morgan Wealth Management provides information to its clients in the strictest of confidence and requires clients not to disclose that information directly or indirectly to third parties without Morgan Wealth Management’s written authorisation. Accordingly, Morgan Wealth Management is not responsible for any losses, suits, damages, expenses or any claim whatsoever arising from a third party utilising or relying on confidential information given by Morgan Wealth Management to its clients.

Download a pdf version of this report: October 2009 Quarterly Economic and Market Commentary

Global equity markets continued to strengthen during the second quarter of 2009, building on the initial improvements which first originated mid way through the first quarter. From levels which appeared heavily over sold, all major equity markets posted strong gains throughout the quarter with the improvement in the major Asian indices, on a percentage return basis, a particular highlight.

In Australia, while our market continued to improve, it was a noticeable laggard with the 9.7% return for the quarter underperforming the vast majority of major equity indices, many of which recorded double digit returns and a good proportion of which recorded returns in excess of 20% for the quarter.

Global Economic and Financial Conditions

Much of the economic data confirmed what financial markets had begun pricing in over 18 months ago, with the global economic slow down continuing to worsen during the first quarter for 2009. However, investors continued to shift their attention away from the poor data regarding where we had been to focus on the prospects for a potential economic recovery later in the year.

While many lagging economic indicators such as employment and Gross Domestic Product continued to reveal the depths of the problems experienced globally, it was the improvement in many of the leading indicators which encouraged investors, with some of the large cash raised during the sell-off being reinvested back into equities.

By the end of the first quarter GDP in the United States had contracted at an annualised rate of -5.5%, recording its third consecutive quarterly fall for the first time in 34 years (The last time this occurred was from the 3rd quarter 1974 to the end of the 1st quarter 1975). Non-farm unemployment continued to rise, but it was the declining rate in job shedding which investors took heart from, with the monthly jobless rate falling from a high of approximately 700,000 jobs earlier in 2009 to 322,000 in May (At the time of writing, the June unemployment figures bucked the recent trend recording an unexpected pick up in the rate of newly unemployed to 467,000 for the month of June). The number of people unemployed in the United States now stands at approximately 14.7 million or 9.5%, its highest reading in more than 25 years.

Along with the declining rate of newly unemployed, many manufacturing, production and sentiment indices continued to show signs of stabilisation and improvement. In Europe, the Manufacturing Purchasing Managers Index rose to 42.4 in June from a low of 33.5 in February, its strongest result since September 2008 (a reading below 50 generally indicates an economy is still in recession). There was also an improvement in the Services Purchasing Managers Index to 44.5, comfortably above its low of 39.2 in February.

In the US, the Institute of Supply Managements Manufacturing Survey hit 42.8 in May, and the average for the 2nd quarter was approximately 5 points higher than the average in the first quarter.

Japan has also shown strong signs of an improvement in business confidence with the Japanese Ministry of Finance Business Confidence Survey recording its biggest improvement ever jumping from -66.0 in March to -13.2 in June.

In emerging Asia, China continues to lead the way, making use of its command economy to force state owned banks to lend and state owned enterprises to produce, providing an effective short term support mechanism to the economy. The latest data from the Chinese suggests economic growth is tracking back up at the 8% per annum rate officials had been targeting. This implies that quarterly GDP in China has now rebounded to 2% for the  2nd quarter of 2009. This is a big improvement from the 0% growth estimated in the last quarter of 2008. According to the ANZ Bank, emerging Asia is expected to grow from 3.75% this year to 6.5% in 2010 and 7% in 2011, albeit downside risks are still abound, with persistent weakness in US and European consumption a problem yet to be resolved.

Domestic Economy and Financial Conditions

The widely tipped technical recession in Australia did not occur as many had predicted. Gross Domestic Product recorded a 0.4% improvement in the 1st quarter of 2009, boosted by a significant fall in imports during the period to offset domestic demand weakness which fell -1.8% during the quarter. This compares to a downwardly revised GDP contraction of 0.6% for the final quarter of 2008. While Australia technically avoided a recession, registering just one quarter of negative growth, non-farm GDP did fall in the last two quarters of 2008. When combined with the depth of the contraction in the last quarter of 2009 and the significant weakness in domestic demand, the actual business environment certainly had all the characteristics of a recessionary operating environment.

Figure 1 below shows the year on year and quarter on quarter Gross Domestic Product for Australia.

Fig. 1 Australian GDP Growth from 1980 to 2009.

Unemployment in Australia has remained remarkably resilient, albeit the unemployment rate ticked higher during the quarter from 5.3% to currently be at 5.7%. Businesses are yet to feel the need to slash employee numbers with a large proportion of the increase in unemployment driven from an increased participation rate driven to some degree by school leavers looking for employment and baby boomers delaying retirement plans. However, the 51.4% decline in job ads over the past 12 months indicates that the unemployment rate will likely continue to rise over the course of the next 12 months with the Reserve Bank of Australia and the Federal Government expecting unemployment to peak at approximately 8% by late 2010.

Figure 2 below shows the unemployment rate and participation rate in Australia between 1978 to 2009.

Fig. 2 Australian Unemployment Rate and Participation Rate

Global Equities

The 2nd quarter of 2009 saw international markets generally perform much stronger than the Australian market. The reason for this outperformance may have to do with the S&P ASX 200 rallying quite quickly relative to other markets initially, however, there also appears to be a general mood among overseas institutional investors that Australia has lagged the rest of the world into the slow down and will inturn lag the rest of the world out of it.

Index	Qtr %     Change	12 month %        Change
S&P 500 Index (US)	16.7%	-28.2%
German DAX Index	20.5%	-25.1%
FTSE 100 Index (UK)	12.9%	-24.5%
Nikkei 225 (Japan)	20.9%	-26.1%
Sensex (India)	51.5%	7.7%
Shanghai Composite (China)	25.5%	8.2%
Hang Seng Index (Hong Kong)	36.6%	-16.9%
Singapore Straits Times	39.5%	-20.8%
S&P/ASX 200 (Australia)	9.7%	-24.2%

Table 1. Movements in Major Global Indices as at 30 June 2009.

Figs.3 to 7 over show the movements in the major indices of the United States, United Kingdom, Germany, China and India over the 12 months ended 30 June 2009.

Fig.3 S&P 500 Index (United States)

Fig.4  FTSE 100 (United Kingdom)

Fig.5  DAX 30 (Germany)

Fig.6  Shanghai Composite (China)

Fig.7 Sensex (India)

The above graphs show the continued strengthening of the major indices of the North American, European and Asian regions throughout the 2nd quarter of 2009, with India and China the only two major regional indices to record positive growth over the 12 month period, albeit to finish the financial year still well below previous highs reach in late 2007.

Given the strength in global markets since their respective bottoms, it is not unreasonable to expect that any future improvement in global equity markets will be much more measured going forward. While all markets have rallied on improving leading economic indicators, evidence of a real improvement in economic activity will now likely be needed in order to see further material rises in global equity markets going forward.

Australian Equities

The Australian equity market continued to strengthen throughout the quarter with the S&P ASX 200 index increasing 9.7% for the quarter and the S&P ASX 200 accumulation index increasing 10.6%. On a 12 month basis however, both markets remained well below where they start the financial year with both indices recording returns of -24.2% and -20.1% respectively.

Figure 8 below shows the performance of the S&P ASX 200 index over the 12 months ended 30 June 2009.

Fig. 8 S&P ASX 200 Index for 12 months ended 30 June 2009

Table 2 below shows the industry sector performances for the quarter and year ended 30 June 2009 and is ranked in order of quarterly performance.

Table 2.  S&P ASX 200 Industry Sector Performances for Quarter and Year Ended 30 June 2009

Index	Qtr % Change	12 month % Change
Consumer Discretionary	18.5	-19.6
Industrials	13.3	-33.9
Consumer Staples	11.5	-7.14
REITS (Property)	11.0	-46.9
Energy	10.4	-26.1
Materials	10.0	-35.3
Financials Ex REITS	9.0	-12.0
Telecommunications	5.7	-20.0
Information Technology	4.7	0.86
Healthcare	3.5	-3.0
Utilities	-2.7	-23.4

Investor rotation out of the more defensive sectors such as Telecommunications (5.7%), Healthcare (3.5%) and Utilities (-2.7%) continued throughout the 2nd quarter, as these sectors were sold off or avoided in preference for higher beta cyclical sectors such as Consumer Discretionary (18.5%) and Industrials (13.3%).

Interestingly some of the stocks which have been less responsive to the change in investor sentiment, or have weakened as a result of this rotation, now appear relatively attractive compared to historical valuation measures with Healthcare, for example, now trading at a Price to Earnings discount compared to the market for the first time since late last decade.

The Resources sector on the other hand now appears stretched on a 12 month forward consensus analyst earnings basis, with the sector currently trading on a price to earnings ratio of 21.4 times for 2010. Investors, however, now appear to now be looking through this trough in earnings over the next 12 months, with the price to earnings ratio for the sector, based on consensus analyst estimates, expected to rise during 2011, bringing the 2011 price to earnings ratio down to 13.0x, potentially providing some value support for the patient investor.

In terms of company specific news for the Australian market; ANZ Bank successfully raised $2.85 billion via an institutional share placement and retail share purchase plan, allowing it to purchase selective Royal Bank of Scotland Asian assets. Macquarie Group successfully raised $540 million in additional capital to strengthen its balance sheet. CSL’s proposed $3.1 billion takeover of Talecris Biotherapeutics was abandoned after the US Federal Trade Commission proposed legal action to block the deal on anti-competitive grounds. Subsequently CSL announced an on-market share buyback worth $1.6 billion or some 9% of issued capital. And BHP Billiton and Rio Tinto announced they had signed a non-binding agreement to establish a 50/50 production joint venture involving both companies’ Pilbara iron ore assets following Rio Tinto’s withdrawal from its strategic partnership agreement with Chinalco. Rio Tinto also announced a fully underwritten Rights issue to raise approximately $15.2 billion to pay down debt.

Cash

The Reserve Bank of Australia reduced interest rates a further 25 basis points to lower the official cash rate to 3.00% in April and has remained on hold since. At the time of writing the RBA just announced that interest rate will remain on hold for a further month but stated that it still maintains its mild easing bias.

90 Day and 180 Day Bank Bills have remained relatively steady during the quarter with yields rising only slightly from 3.11% to 3.19% pa and 3.08% to 3.31% pa respectively. Increases in yields on 90 day term deposits have generally been a little more noticeable, in absolute terms, with the best rates on 90 day term deposits increasing from lows of approximately 3.75%-3.9% pa to currently be around 4.25%-4.35% pa.

Fixed Interest

Given clients generally have a reasonable exposure to this asset class the strong improvement in most of these securities throughout the quarter was extremely pleasing. As the general fear in credit markets began to ease, so has the selling pressure on many of these hybrid securities. What was disappointing was that given the fear in financial markets, this asset class did not need the added market distortion of the government deposit guarantee, although the measure taken was understandable. As a result, many of these securities were being priced at or near default levels, even though the underlying fundamentals of many of these companies did not warrant it.

Since the bottom many hybrid/income securities have produced extraordinary capital returns with ANZ’s preferred securities (ANZPB) producing an increase in its price of 12.5%, National Australia Bank’s income securities (NABHA) increasing 21.0%, Orica’s Step-Up Preference Shares (ORIPB) increasing 37.1% and Macquarie Bank’s income securities (MBLHB) increasing a staggering 92.7% by the end of the quarter.

As we enter the new quarter we are currently reviewing the relative attractiveness of this asset class against further increases in equities, here in Australia and overseas, and will be considering whether a reduction to the asset class is now warranted.

Listed International and Australian Property

Many of the structural issues which brought down the property sector over the past 2 years still remain, albeit significant steps have been taken to reduce the severity of these issues. Many REITS in Australia and overseas have conducted significant and highly dilutionary capital raisings in order to keep their bankers and other creditors at bay. Although this sector has rallied some 11% during the quarter and some 32.5% since the most recent market bottom, for investors who held any of these trusts from the peak till now, the long term wealth destruction will be lasting.

While moves taken to date were necessary and have improved the underlying fundamentals of many of these REITS, it is our view that a cautious approach is still warranted, with better risk adjusted returns achievable elsewhere.

In Australia, the S&P ASX 200 Property Sector increased 11.0% for the quarter ended 30 June 2009 but is still down -46.9% for the financial year.

Overseas the UBS Global Investors Property Index in Australian dollars terms fell 43.4% for the 12 month period.

Investment Outlook

We are cautiously optimistic about the ongoing performance of Australian, and Asian, equity markets over the next 12 months.  We expect that any price appreciation of equities over the next year or so will be much slower than for the past quarter.   At current interest rates many equities, and some hybrids, provide very attractive yields relative to cash particularly when franking credits are taken into account.   The release of company reports over the August 2009 reporting season will be of particular interest and may give some guide to the short term prospects for individual Australian companies.

We remain of the view that asset allocation and individual stock selection are critical to portfolio performance in these uncertain times and are prepared to quickly recommend any changes to take advantage of opportunities to maximise returns for clients and protect capital as we have done over the past 18 months.

Disclaimers

The advice contained in this document is general advice only and is not personal financial advice.  It should not be acted upon without the reader consulting his or her financial adviser to determine the appropriateness of the advice to the personal financial and investment objectives of the reader.

Morgan Wealth Management strives to provide the best advice to clients based on current economic conditions, financial conditions and government legislation.  However, Morgan Wealth Management is not responsible for any losses sustained by its clients due to changes in financial markets, economies or government legislation.  No responsibility can be accepted by Morgan Wealth Management for events beyond its direct control.

In the course of providing advice to you, Morgan Wealth Management will often provide you with historical information on the performances of various securities and managed funds.  In considering the advice and information presented, you should be aware that past performance is not a reliable indicator of future performance.

Morgan Wealth Management provides information to its clients in the strictest of confidence and requires clients not to disclose that information directly or indirectly to third parties without Morgan Wealth Management’s written authorisation.  Accordingly, Morgan Wealth Management is not responsible for any losses, suits, damages, expenses or any claim whatsoever arising from a third party utilising or relying on confidential information given by Morgan Wealth Management to its clients.

Wayne R. Morgan B.Sc. (Hons), Grad. Dip. App. Fin & Invest, F Fin, FPA(Aff)

Managing Director and Representative

Morgan Wealth Management Group Pty Ltd

Australian Financial Services Licence No. 234555