Index Returns – as at 28 February 2019

Returns greater than 1 year are annualised.

Key Economic and Market Risks

• Return to solid global growth with modest inflation (Positive)

Current concerns over a slowdown in economic growth turn out to be overblown. China stabilises growth around 6.5% while US growth holds well above trend. Europe and Japan improve after recent setbacks, supported by extremely easy policies. Emerging market economies recover. Bond yields remain relatively low as inflation remains contained. Equities resume their rally. Positive for cyclical exposures.

• US Fed tightens more than expected (Negative)

The Fed pause does not last long as US growth stays stronger than currently expected and wages growth continues to rise towards 3.5% yearon- year and beyond. Bond yields rise back towards 3.5% and markets adjust, particularly those that have previously benefited from low US rates and a low US dollar. Potential risks in equities and particularly in emerging markets and
high yield sectors.

• European political risks intensify (Negative)

The rise of populist parties across Europe leads to policies aimed at reducing immigration and backtracking on globalisation. Debt-to-GDP ratios, which are still at extremely high levels, become difficult to stabilise while growth and inflation fail to improve. The prospect of a hard Brexit and the resulting economic dislocation causes markets to panic. Equity markets suffer and defensive assets outperform.

• European political risk (Negative)

Significant political risks remain. In the aftermath of the “Brexit” vote there is concern over the rise of the populist parties across Europe broadly supporting reduced immigration and some “backtracking” on globalisation. France holds elections in May 2017. The threat of deflation remains given growth and incomes remain subdued and unemployment and debt levels are extremely high. Debt to GDP ratios are still extremely high and difficult to stabilise while growth and inflation are low. Equity markets suffer, defensive assets outperform.

• Global geopolitical risks intensify (Negative)

Responses from US trade partners over tariff rises results in a trade war and protectionist policies as the new political norm. While the two Koreas appear to have defused tensions for now, there is still a risk that the situation could become inflamed, while uncertainty over the position of other major powers undermines risk appetite and markets.

• US and China fail to reach a trade deal (Negative)

The current trade truce ends with no deal between China and the US leading to a further escalation in the trade war. This leads to lower growth as real consumption declines and heightened uncertainty undermines investment. Financial markets experience weakness and volatility, adding to the weaker outlook.

• Chinese ‘hard landing’ (Negative)

The Chinese authorities are slow and too timid in their response to the current cyclical and structural downturn given their increased emphasis on financial stability. This causes a sharp downturn in the property market, exposing high levels of local government debt and undermines consumer spending. The yuan is allowed to depreciate and capital outflows intensify. This leads to GDP growth well below 5.0%. Negative for the global economy but also the Australian economy, equities, commodity prices, emerging markets and particularly resources and the Australian dollar. Bonds outperform.

• Low interest rates, tax cuts, and stronger commodities (Positive)

AWith cash and mortgage rates at or near record lows, the currency at reasonable levels, and a sharp improvement in the fiscal position allowing tax cuts, the domestic economy surprises to the upside. This, along with a renewed lift in global growth, a rise in commodity prices, and strengthening infrastructure investment flows through to domestic employment, incomes, and
growth. Domestic equities lift and the RBA signals tightening.

• Australian house prices weaken considerably (Negative)

The tightening in lending conditions, out-of-cycle lifts in mortgage rates and other measures undermine house prices. Investor sentiment sours with a backdrop of weak wage growth and high levels of household debt. An oversupply in the high-rise market severely impacts rents, prices, construction activity and employment. Funding conditions tighten. The economy is at risk of recession and the bank sector is impacted. The Australian dollar and equities fall,while bond yields move lower.