Goldman Says Potential RBA QE May Not Pack Punch for Stocks
(Bloomberg) -- Australia’s stock market may not get the kind of boost historically seen in its peers should the country’s central bank unleash quantitative easing, according to Goldman Sachs Group Inc.
The problem is already-low bond yields and elevated equity valuations, Goldman analysts Matthew Ross and Bill Zu wrote in a Nov. 1 note. While Goldman still doesn’t see Reserve Bank of Australia QE as the base case, Friday’s report is the latest in a number of studies on potential scenarios by the bank in recent months.
With the RBA’s key interest rate at a record-low 0.75%, speculation of unconventional measures has climbed; it was the subject of a panel discussion at a Citigroup Inc. conference last month. If global and domestic conditions fail to improve in 2020, the RBA would probably roll out an open-ended QE program at the point that it cut the cash rate to 0.25%, Goldman economists wrote.
QE programs deployed around the world in the wake of the global financial crisis boosted stocks as lower bond yields drove up equity valuations, in Goldman’s analysis. But that may not work for Australia.
“Reflecting already-low global bond yields, Australian equities are trading on much higher multiples today than U.S./U.K./Europe equities were when their QE programs commenced,” the Goldman analysts wrote.
Because Australian value stocks have lower valuations, they could outperform over the short term compared with companies termed as growth shares, Ross and Zu wrote. And given that more than one-third of earnings for members of the S&P/ASX 200 Index come from non-Australian dollar sources, a weaker Aussie could give those stocks a “major tailwind.”
But more broadly, “we are skeptical that QE would drive a strong earnings recovery and therefore expect any risk-on rally to be relatively short-lived,” Ross and Zu concluded. Bank shares, which make up a quarter of the benchmark stock index, would also struggle, they indicated.
U.S. 10-year Treasury yields were above 3% when the Federal Reserve announced its first version of QE in November 2008. Australia’s 10-year yields have lately drifted around 1%, and hit 0.85% in August. They were at 1.153% as of 10 a.m. in Sydney.
Foreign investors own about half of Australian government bonds, meaning their yields are strongly influenced by global dynamics, not just domestic policy and economic fundamentals. Yields have tumbled amid low inflation and policy easing by the Fed and others.
Australia’s central bank governor Philip Lowe has repeatedly said he doesn’t anticipate extreme monetary policies, a once unthinkable occurrence in an economy buoyed by China’s growth. Andrew Boak, Goldman’s chief Australia economist, and colleagues said timing for any such move is uncertain, but would probably feature an open-ended QE program of A$20 billion ($14 billion) of bond purchases a quarter.
If the experience of peers holds, then A$200 billion of total buying would reduce Australian bond yields by 40 to 50 basis points across medium-to long-term bond maturities, Goldman estimated.
Purchases would probably focus on the three-to-five year sector, to match the structure of Australian bank funding, the bank said. One challenge is that, given the relatively small size of Australia’s government bond market, the RBA could end up owning a third of it by the end of 2022 -- creating money-market squeezes and volatility in short-term rates, Goldman warned.
For the immediate future, economists see the RBA staying on hold. Lowe will likely hit the pause button and hold the cash rate at 0.75% in Tuesday’s policy decision, a Bloomberg survey shows.
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