Talking points in this update
1. Don’t bet on a cash rate cut helping
A few economists and investment bank analysts have priced in up to a 0.50 cut this year but there is debate about how much this would actually help lift auction clearance rates, reduce mortgage interest rates and improve consumer sentiment and spending. I will argue in this update it won’t do much at all.
2. Businesses are starting to invest
According to the Australian Bureau of Statistics (ABS) private sector capital expenditure (CAPEX) increased over the last quarter of 2018 after declining for the previous three quarters. Does this show businesses are getting more confident or was this a release of pent up demand from being unable to access credit earlier? Read more below…
A cash rate cut will happen, but it won’t really help
The cash rate has been sitting at 1.5% for two and a half years, the longest time it has not been changed in our countries history.
There are a few important data points the board of the RBA look which will dictate when and the direction of rate changes.
For example, the just released ANZ / Roy Morgan Consumer Confidence Index for 4Q18 dropped by 4.6% which as an economic indicator shows people in general are very sceptical about the future and will spend and invest less. These kinds of indexes are not hard science, but the RBA does look at them, and that is what makes them noteworthy, so when the headline figure from this report drops you can bet that the RBA will notice and it will form part of their view on the economy, and subsequently their call on cash rate movements. In this case, it would suggest to them that a cut is the best option.
Adding to that, this week the Australian Bureau of Statistics (ABS) said that lending to households declined by 2.4% in January and about 20% drop in home loans. This is a downward trend we have seen all of last year due to the credit crunch.
A rate cut won’t reverse this trend or make up the loss on property values.
The unemployment rate is the data point to watch. I conclude that once the RBA starts to see a weakening in employment and rise in unemployment, they will cut rates. We have seen unemployment sitting around ~5% since last year, this is a very low historical number, but is kind of misleading in that it does not capture ‘under-employed’ people or part time workers. Regardless, once the ‘official’ unemployment figure rises you can bet that the governor of the RBA will be keen to cut rates.
Real estate agents will be hoping that the cut will lift the auction clearance rates and buyer sentiment before winter and give a boost to the traditionally busy spring season, but the issue of credit, or more accurately the lack of credit, remains. This will continue to stifle would be new buyers, upgraders and investors.
It is also worth commenting that 2018 is a big election year with state elections in March and Federal in May, so any move by the RBA will be seen as political and could damage the sitting government and the incoming government, mainly by diminishing their narrative that the Australian economy is doing well because cutting the cash rate is a sign that the economy needs a boost.
Businesses might think the worst is behind us
The ABS stated that around $30 Billion of capex spending, that is to say businesses spending on commercial property like warehouses or buildings, or equipment and machinery, was done in the last quarter of last year.
This is being viewed by the government and the RBA as a positive thing as it signals businesses are investing again.
Most of the talk about the current credit crunch has been related to the negative impact it has had on residential property prices and access to credit, but it has also dramatically limited businesses access to finance.
If you are a small business owner you would know that when you walk into a bank to get a business loan, the first thing they ask you is if you own property.
If your answer is no, then they will also say no to your loan application.
Historically Australian banks have generally required property to secure a business loan.
Australian banks won’t give money for much besides property seeing their asset books are largely made up of the homes of everyday Australians. They are as addicted to it as we are.
But this is starting to change, or at least the options that businesses have to borrow is changing.
Over the past decade a rise in online lenders often referred to as ‘Fintechs’ (financial technology) have popped up offering mostly unsecured business loans.
A well known one is called ‘Prospa’ who just announced they have funded $1 billion dollars of loans to businesses in Australia. Quite the mile stone, even if it does come a few short months after their failed attempt to list on the Australian Stock Exchange.
And there are many others. All of which are offering business loans without having to use property as security.
But there is a catch, and in this case, it is the cost of the loan coming from (very) high interest rates. Prospa has had effective rates over 30% in the past, compared to 5% for secured business loans, this is extremely expensive.
When I am talking to business clients about debt capital and deploying the ‘right kind’ funding in their business we often weigh up the pros and cons or property backed loans and unsecured loans. The scales usually have low rates but lock in contracts on one side, high rates and flexibility on the other.
As with most things in business it is a balancing act.