Australian Spotlight - July 2024

At 10:08 am (AEST) on 15 July 2024, the ASX 200 broke the 8,000 barrier for the first time (see chart below). But unlike the breaking of the 7,000 mark in January 2020, it was more of a raspberry than a bugle call. There is too much uncertainty around the direction of interest rates and Australia’s near-term economic outlook.

Still, there are important drivers behind the recent rise in the ASX 200 to note, and a lot has happened since January 2020, including the ASX 200 falling to 4,500 in March 2020 at the onset of the COVID-19 pandemic. The 8,000 mark may not have attracted too much fanfare but the ASX 200 is punching above its weight.    

The pandemic push

When the WHO declared COVID-19 a pandemic on 11 March 2020, the world did not know how to react. By definition, a 1-in-100-year event tends to turn the tables on expectations and projections. Like stock indices around the world, the ASX 200 plunged.

What happened next was unexpected. Government stimulus payments to housebound consumers led to booms in eCommerce and stock trading. This saw indices quickly rebound to where they were before. Stocks connected to eCommerce, COVID-19 vaccines, and working from home led the way. In Australia, this can most clearly be seen with the rise of buy-now-pay-later fintech startup Afterpay.

Afterpay was formed in 2014 and quickly found a niche. However, business really boomed during the pandemic (see chart below) and was underlined by a 5% acquisition by TenCent in May 2020. This was then dwarfed by the USD 39 billion takeover by US payment provider Square (now Block) in August 2021 - the biggest M&A ever for the Australian market.

Afterpay share price

Rising terms of trade

As China’s real GDP grew at an average of 10% per year between 1991 and 2011, which included a real estate construction boom, demand for Australian iron ore and coal grew rapidly which pushed up their prices and Australia’s terms of trade. Australian mining companies were wallowing in cash.  

Australia’s terms of trade then steadily fell until 2016 as supply increased from our miners after several years of capital expenditure and China and the global economy slowed.  

However, between 2016 and 2022, Australia’s terms of trade increased again and actually surpassed the 2011 peak. Iron ore was the big contributor (see chart below). A flood from a burst dam restricted production from Brazil’s Vale between 2019 and 2022. Various government stimulus for the Chinese real estate market also helped push up demand over the period. China’s residential real estate market accounts for around one-quarter of China’s steel consumption. 

The price of iron ore and Australia’s terms of trade have fallen since 2022 but it remains at levels just under the 2011 peak. This has kept the share price of Australia’s big iron ore miners like BHP and Fortescue moving up. Both companies are among Australia’s top ten largest companies.

November and December 2023 rallies

As was the case in the US, as Australia’s inflation began to fall in late 2023, expectations of rate cuts in 2024 began to grow and this spurred stocks forward. After three months of declines, the ASX 200 rose 4.5% in November and 7.1% in December (see chart below).

Financial sector in 2024

The US market is an outlier with its tech stocks - no other country has anything like a Magnificent Seven (M7). 

Financial stocks represent around 30% of the ASX 200 with basic materials second at 20%. That means that around half of the ASX 200 index concentrates on banks and miners.

While the M7 has been driving US stocks forward over the last year, in Australia, financial stocks have been the main driver (see chart below). Financials were the third best performer in the year through to 24 July at 23.46%. Only consumer discretionary (26.6%) and IT (25.14%) performed better - but these other two have much lower weights in the index. Materials decreased 8.44% over the period.

The chart below also shows that most of the recent increase in financial stocks has come in 2024. Taking off where the November and December 2023 rallies finished, financial stocks have helped push the ASX 200 over the 8,000 mark.

What has been behind the increase? Earnings growth has been weak for the major banks and they are facing increasing competition in the home mortgage and business lending spaces. The increase seems to be driven by sentiment: Australians love their big four banks and their big dividends.

Source: marektindex.com.au

Final thoughts

With the amount of Australian retirement funds invested in Australian stocks, movements in the ASX 200 have a huge impact on the current and future wealth of Australians. Breaking the 8,000 barrier perhaps didn’t attract big headlines but it is still a milestone worth celebrating even if the economic outlook for the next six months is uncertain.