31 May Federal Budget: the bottom line for equities
We believe the first and essential takeaway from this budget for share markets is that nothing much has changed. This is a pro-growth, pro-equities budget that will be strongly supportive of cyclical earnings and dividend growth. Riding on the back of revenue from surging resource exports at a time of record iron ore prices, we have observed the Federal Government resisting the temptation to pull back on its fiscal reins, delivering an expansionary spending program and pushing back the task of serious budget repair.
Amongst the spending announcements were a number of individual items with strong implications for specific sectors. These include a $1.2bn tourism and aviation rescue package, funding to underpin a new gas-fired power station in the Hunter Valley, which promises to boost demand for domestic gas contracts and protect the grid from blackouts and instability whilst new renewables projects come online.
But there were two major areas of focus in the budget that we believe could prove pivotal for markets and the economy in general over the coming years: dealing with significant and looming challenges in the retirement sector and the labour market.
Solving the retirement crisis
Australia is standing on the precipice of a demographic cliff as baby boomers exit the workforce and embark on a life in retirement that in many cases may stretch for more than a decade more than their parents. Although boomers are, in general, a wealthy demographic, many are cash poor with the bulk of their wealth tied up in one asset – the family home.
The Federal Government intends to incentivise retirees to downsize from their homes and upsize their superannuation, allowing sellers to inject $300,000 from the sale of their residence directly into tax-advantaged superannuation (that’s $600,000 for couples).
We believe this is positive news on a number of fronts: for home buyers who will benefit from additional supply in the housing market; for banks, who will benefit from credit growth associated with these new loans; and for over-55 property developers who will build many of the homes into which retirees will downsize.
Most importantly, moving from housing into superannuation will likely free up capital to access new inflation-protected cash flows for these retirees at a time when yields in term deposits, bonds and residential property all near rock-bottom. Thankfully for retirees, franking credits were left untouched and the expansionary environment means there should be room to run for dividend stocks. Two-thirds of dividends are yet to recover (or even restart) post-pandemic, and in our view, the strength of the resources sector in particular bodes well for August dividends.
Another outcome of increased spending on aged care will be the reviving fortunes of providers, which were adversely affected by the Royal Commission and COVID. Stocks in the sector rose over the past couple of months in anticipation of greater support, and we believe this should continue to shape up as a solid recover play over the coming months.
Pre-empting the labour crunch
Australia has long relied on international migration to fill supply shortfalls across all levels of the labour market. Border closures have brought that dynamic to a staggering halt, and as spare capacity in the labour market is rapidly absorbed in the recovery, the government is working to mitigate against the prospect of imminent labour shortages.
Domestic, funding for places and training in aged care and child care will help companies in those sectors (who are major employers of women in particular) grow their workforce to keep pace with demographic changes and expectations around care. We believe further tax cuts for low and middle income earners may also provide strong incentives for them to return to the workforce (as well as acting as stimulus for the retail sector).
Once borders re-open, the government has signalled that it will be aggressive in competing for labour supply. Targeting the top end of international talent, employee share purchase schemes will be made tax-exempt, which we believe should help the mining and tech sectors, in particular, attract interest from overseas engineers and technical specialists. Australia will also work to promote its global talent visa and simplify tax residency laws to pave the way for skilled migrants.
Policymakers comfortable with inflationary pressures – for now
The Government is acting now to shore up labour supply because it can see wage inflation on the horizon. Unemployment is likely to return to 4.5% by 2022, driving wage growth above 2%.
In small amounts, some wage inflation might not necessarily a bad thing, especially given the extent to which asset prices (especially houses) have outstripped wages in recent times. The Reserve Bank has certainly indicated that it is prepared to let the economy run hot and weather a certain amount of inflation in the process. It has plenty of tools to deal with inflation when it decides to do so; tackling disinflation or even deflation has proven to be a much harder task.
So with the RBA still full-steam ahead on monetary stimulus, and the budget keeping the pedal to the fiscal metal, we believe Australia’s triple boom in corporate profits, house prices and the resources sector shows no sign of stopping. In our view, budget cuts and interest rate hikes, when they do become necessary, remain as a risk over the medium term, but more immediately the main concern should be the rollout of the vaccine program and the avoidance of further outbreaks, which international experience tells us still have the potential to throw an economy off the rails.
Author: Dermot Ryan, Co-Portfolio Manager (Income) Sydney, Australia
Source: AMP Capital 13 May 2021
Reproduced with the permission of the AMP Capital. This article was originally published at AMP Capital
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