Jim Taylor: What’s driving the ASX this week?

Here are the main factors driving Australian equities this week, according to portfolio manager JIM TAYLOR. Reported by head investment specialist Chris Adams

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LAST week began with genuine concerns about the risk of escalation in the Middle East, moved to risk-on mode when a ceasefire looked to be holding, and ended with renewed commentary and signs of progress around tariff negotiations.

This was interspersed with US economic data (incomes, housing and consumption) which encouraged the prospect of more imminent rate cuts – though US Federal Reserve members appear reticent to change settings in the short term.

In Australia we saw inflation data that, while not materially different from consensus, did allow the market to firm its view on the likelihood of a July rate cut.

US Treasuries strengthened, with 10-year yields dropping 10 basis points (bps) to 4.28% and 2-years falling 16bps to 3.74%.

Commodities (ex-oil and gold) had a decent week following the de-escalation of geopolitical concern and progress on tariffs.

The S&P 500 rose 3.5% for the week to finish at all-time highs, led by big tech and consumer discretionary. The S&P/ASX 300 rose 0.3%.

Trade negotiations

There were several moving parts in play on trade last week.

US Commerce Secretary Howard Lutnick said the US and China finalised a trade understanding, codifying terms agreed in Geneva in May.

He said China would deliver rare earths to the US and – once Beijing did this – Washington would remove its countermeasures.

It appears China will also take steps to address US issues with fentanyl trafficking.

Secretary Lutnick indicated 10 major trade deals could be announced by July 9, when the delay to “Liberation Day” tariffs is due to expire.

Elsewhere, there was mixed messaging from the European Union.

There is a view that the EU may lower tariffs in effort to strike a deal with US before the July 9 deadline. Though EU Commission President Ursula von der Lynden noted “all options are on the table” if discussions don’t reach a suitable conclusion.

US Treasury Secretary Scott Bessent flagged an increased level of flexibility around timing of trade deals, stating that the July 9 date was “not critical”.

He also asked Congress on Thursday to remove section 899 language from the Big Beautiful Bill – a risk discussed in our note two weeks ago – after coming to agreement with G7 partners.

On a more negative note, Friday saw President Trump announce an end to trade discussions with Canada due to the latter’s Digital Services Tax. He will inform them of the tariff rate this week.

FedSpeak

Governor Michelle Bowman – having seemingly inherited the mantle from Christopher Walker as the most dovish FOMC member – noted that “retailers seem unwilling to raise prices on essential consumer items” and that “should inflation pressures remain constrained (she) would support lowering the policy rate as soon as our next meeting”.

When asked about a July cut, Fed Chairman Powell noted that “it if turns out that inflation pressures do remain contained, then we will get to a place where we cut rates, sooner rather than later”, while explicitly noting that he was not referencing a specific month.

He cited the challenge that “there isn’t really a modern precedent” for the tariff increases and that the “the process could go on for a long time” with “effects…large or small”.

Other speakers tended to toe Powell’s “wait and see” line, despite pressure to cut from the Trump Administration.

New York Fed President John Williams said the central bank’s interest-rate stance is “entirely appropriate” as uncertainty about tariffs and inflation lingers.

“Measures of underlying inflation…are still somewhat above our 2% target. And there are signs that tariffs are affecting specific categories of goods,” he said. “We need to be vigilant in analysing the totality of the data to see how conditions evolve.”

Boston Fed President Susan Collins signalled she feels July would be too soon to cut rates.

“We’re only going to have really one more month of data before the July meeting … I expect to want to see more information than that,” she said.
San Francisco President Mary Daly said tariffs may not lead to a large or sustained inflation surge, leaving the door open for a rate cut “in the fall.”

Supplementary Leverage Ratio

In addition, the Fed confirmed via a 5-2 vote that it is intending to reduce the enhanced Supplementary Leverage Ratio (SLR) for banks (introduced post-GFC), which will reduce the capital ratio that banks must hold against US Treasuries, relative to other, higher-risk assets.

This means reduction of US $13bn in capital requirements for the largest US banks a $200bn reduction for deposit subsidiaries.

Governor Bowman – in her role as Fed Vice Chair for Supervision – stated that “this proposal takes a first step toward what I view as long overdue follow-up to review and reform what have become distorted capital requirements”.

It is expected that this will free up capital for lending purposes and allow the banks to be more actively involved in buying Treasuries , especially during times of stress.

Powell noted they are trying to reduce the “disincentive to engage in low-risk activities”.

Bessent has stated that he believes this change will leads to a reduction of “tens of basis points” in US treasury yields.

This is likely only the first step that gets taken to reduce regulatory burden on the US banking system and Bowman – who was promoted last month and is now in charge of bank supervision – has made it quite clear that more changes are on the way.

“Our goal should not be to prevent banks from failing or even eliminate the risk that they will,” she said in her first speech in the new role. “Our goal should be to make banks safe to fail, meaning that they can be allowed to fail without threatening to destabilize the rest of the banking system.”

 

Australian macro and policy

There was good news on the domestic inflation front.

Headline monthly Consumer Price Index (CPI) fell 0.4% month-on-month (MoM) in May, with the annual rate easing 30bps to 2.1% year-on-year (YoY) – the lowest level since July 2021 and near the bottom of the RBA’s 2-3% target band. This was below consensus expectations of 2.4%.

Trimmed-mean Core CPI eased 40bps to 2.4% YoY, the lowest level since November 2021.

The seasonally adjusted CPI excluding fresh food, fuel and holiday travel increased 0.2% MoM versus 0.3% MoM in April.

The monthly decline in headline CPI was driven by holiday travel and accommodation prices (-7.0% MoM) following the sharp rise in April, as well as softer prices for fuel (- 2.9% MoM) and gas (-2.4% MoM).

These declines were partly offset by increases across volatile items such as electricity (+2.0% MoM) and food (+0.3% MoM).

Inflation continued to moderate across key housing components including rents (+0.3% MoM) and new dwellings, which were flat MoM.

Prices rebounded across vehicle maintenance (1.5% MoM), while insurance prices (-0.5% MoM) recorded a surprise decline.

The upshot is that estimates for Q2 CPI data – due 30 July – remain largely unchanged at 0.6% quarter-on-quarter and 2.6% YoY, while flagging risks to the downside following the May data.

Elsewhere, job vacancies rose 2.8% (or 9,500 jobs) in the three months to May 2025. This was mainly due to a 3.2% increase in private sector vacancies – public sector vacancies were up 0.6%. This indicates that the labour market remains tight.

US macro and policy

There are signs that consumer concerns about the impact of tariffs are receding.

The final June University of Michigan Consumer Sentiment Survey came in at 60.7, versus 59.8 expected and 52.2 in May.

Consumer sentiment surged 16% from May. This is its first increase in six months, but it remains below the post-US election bounce in December 2024.

Inflation expectations also receded. One-year forward expectations moderated from 6.6% in May to 5.0% in June. Five-year expectations came in from 4.2% in May to 4.0% in June.

The housing market remains weak. There were an estimated 623k new home sales in May, down from 722k in April and below the 693k expected.

At the same time the inventory of new homes is at 507k in May, which is the highest since October 2007 and up from 500k in May. This equates to 9.8 months of sales at May’s pace.

There is some recovery in existing home sales, which is taking share from new homes.

Real consumption fell 0.3% in May, versus flat expectations. This, along with negative revisions to previous data, sees consumer spending looking very weak.

That said, May’s fall was driven almost entirely by auto spending – which fell 7% post the pre-tariff surge. Spending on other durable goods remained reasonably flat at elevated levels.

Spending on services was flat in May as it has been for the quarter.

Assuming weakness in autos persists into June – and services sees some modest recovery – then Q2 consumption growth of 1.0-1.5% looks reasonable. This is better than the +0.5% seen in Q1, but well below the 3.1% average growth for FY24.

Given softness in the labour market, 2H consumption growth could be weaker again.

Nominal personal incomes fell 0.4% in May, versus +0.3% expected. The miss was driven by some anomalies in the public sector, so is not as bad as the headline suggests.

Employee compensation rose at 0.4%, which is steady. The savings rate fell from 4.9% to 4.5%. The slowdown in payrolls is likely to flow through to incomes over the remainder of 2025, slowing spending rates.

On the inflation front, the May Core Personal Consumption Expenditures deflator – the Fed’s preferred measure of inflation – increased 0.2% MoM, versus 0.1% expected, resulting in a 2.7% YoY rate, up from 2.6% in April.

The Core PCE goods measure rose 0.3%, showing some modest early pressure from tariffs. Core PCE services rose only 0.16%.

Judging by the 2018 tariff path, it is likely that the core PCE deflator increases by 0.3% to 0.4% in June and July as most companies that will pass on tariff costs do so in the first three-to-six months post implementation.

This sets the stage for the Fed to decide whether they are more concerned about an uptick of inflation – or weakness in employment – which are likely to occur simultaneously.

China macro and policy

There are signs that China is starting to see the impact of tariffs, as it looks for alternative markets to the US.

Industrial firms saw profits drop 9.1% YoY in May, versus a small increase seen in April.

Profits at industrial firms are now 1.1% lower on a January-May basis, versus 0.3% lower forecast by consensus.

Total overall industrial profits were USD379bn in January-May, more than 20% lower than the equivalent period in 2021 and 2022.

Markets

It has been interesting to note the impact of flows in Australian equities in the past eight weeks. Mutual and active funds have been net sellers, but more than offset by ETFs and passive funds.

Foreign-domiciled investors have swing from net sellers to net buyers since late-May and have been buying in more strength than local investors since then.

Financials (+1.8%) and Materials (+1.8%) led the market last week. This was offset by Energy (-4.4%) as the oil price fell. Defensive sectors Consumer Staples (-2.2%) and Utilities (-1.8%) also dragged.

 

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About Jim Taylor and Pendal Focus Australian Share Fund

Drawing on more than 25 years of experience investing in top-performing Australian companies and a background in accounting, Jim manages our Long/Short Fund and co-manages our Imputation Fund. He is a Chartered Accountant with membership of the Australian Institute of Chartered Accountants.

Pendal Focus Australian Share Fund is managed by Crispin Murray. The fund has beaten its benchmark in 14 years of its 18-year history (after fees), across a range of market conditions. Find out more about Pendal Focus Australian Share Fund here.

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