Markets closed quite mixed in February, with some weakness in local and American stocks while European and Chinese equities continued higher. The ASX200 ended the month down 3.79% while the exchange rate further weakened to US62c. The RBA’s recent 25 basis point rate cut may continue to pose some downside risks to the AUD/USD exchange rate, particularly if the US Federal Reserve decides to hold rates at the current level for longer. Meanwhile, both short term and long dated global bond yields have fallen in February, reiterating the disinflation narrative (Chart 1).
Turning to recent movements in geopolitics, bitter Oval Office talks saw a clash between Zelensky and Trump regarding the state of Ukraine which Russia invaded 3 years ago now. Trump insisted Zelensky was losing the war with people needlessly dying and threatened to withdraw US support unless a deal is made. He stressed that Putin wants to make a deal and that Zelensky is “gambling with World War Three”, urging him to be more thankful of America’s support. Hours after the heated meeting, Trump said he wanted an ‘immediate’ ceasefire between Russia and Ukraine, stating he believed Putin was ready for a peace deal. European leaders now show support behind Ukraine, with Germany and the UK being the biggest advocates. If America does withdraw support, this could pose many problems for Zelensky as the US is the single largest contributor of military and financial aid to Ukraine. Oxford Economics have recently set out three key scenarios for 2025 below (Chart 2).
A fragile ceasefire is where there are no solid security guarantees and Russia remains in control of re-escalation, insisting on Ukraine’s de-militarisation, the permanent annexation of occupied territories, and regime change. There is also a high chance that no ceasefire will occur at all, though Russia’s weakened economy after global sanctions may prompt Putin to reconsider his negotiations to be more equitable to Ukraine. Overall, geopolitical risks remain elevated, and we will continue to carefully monitor the outcome of any negotiations and how they may affect the value of certain investments across Europe.
RBA February Rate Cut and the Effect of US Trade Barriers
With the annual CPI change in the December 2024 quarter of 2.4%, inflation in Australia is finally firmly in its 2-3% target band and the Reserve Bank Board decided at its February 18th meeting to lower the cash rate target by 25 basis points to 4.10%. Several big banks have followed suit with the announcement, cutting their mortgage rates to the same magnitude by the end of February. Household balance sheets are in decent shape, but sentiment remains subdued with cooling consumption growth due to tight monetary policy settings. At the same time, the labour market remains very tight despite the broader slowdown in economic activity. Employment jumped in December with solid gains in both part-time and full-time employment, partly supported by government spending. Chart 3 shows job vacancies climbing over this first quarter which further indicates the labour market will not slacken anytime soon.
The US-Australia trading relationship is facing some uncertainty due to Trump’s aggressive tariff proposals, however when you separate the signal from the noise, the US receives only around 4% of Australian goods exports. This includes steel and pharmaceuticals which has already been subject to new tariffs, so the trade barriers are unlikely to be a major downside for the local economy. With that being said, the Australian government is in the process of trying to negotiate exemptions to these tariffs, as it was able to during the first Trump Presidency. This may be difficult after White House Trade Advisor Peter Navarro took aim at Australia for dumping subsidised, below-cost aluminium into the United States, drawing comparisons to the behaviour of Russia and China. In 2024, Australian aluminium accounted for less than 2% of US imports and government sources speaking on the condition of anonymity said they were not aware of concerns from US companies about subsidised or dumped aluminium. Even if the exception is not secured, the direct trade linkages between the US and Australia are small, and it is the effect on China that will have a greater impact on the local economy.
Portfolio Positioning
Now that we have a better understanding of Trump’s position on trade policies and his response to Zelensky’s strong stance on continuing the fight for Ukraine, we can begin to anticipate policy shifts and their effects with more confidence. With that being said, making short term tactical shifts in an ever-changing environment can prove to be more costly to one’s investment returns, and portfolio diversification across the major asset classes is key. Seeking multiple risk and return sources will help smoothen the return series of your portfolio, however equally important is selecting the highest quality managers to most efficiently extract the risk premiums that exist throughout various markets (like private credit where there is an additional illiquidity premium, or private equity where an additional complexity premium exists for certain transactions).
We continue to maintain a substantial allocation to equities with an expansion in our evergreen private equity managers that exposure to buyout, secondaries, co-investments. With global yields remaining elevated, it is a good time to be exposed to private debt across asset-backed, direct lending and private credit secondaries that provide stable income. Real assets like private infrastructure also provide strong inflation protection and can aid in generating a higher income yield. Liquid alternatives like managed futures and multi-strategy hedge funds can also provide a buffer during downturns as well as a source of liquidity that can aid in portfolio rebalancing.
LBPs investment philosophy focuses on the long-term wealth goals of capital preservation and income generation, and we do this through a disciplined investing framework and remaining invested through the cycle. As evidence shows that timing the market often leads to sub-optimal outcomes, we focus on creating robust multi-asset class portfolios with diversified sources of risk and return.
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