The economy is back

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By Ken Howard

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09 June 2020, 10:50 AM

The economy is back. Sure, it’s not back to where it was last year, but the economy is no-longer contracting; schools are opening, restaurants are opening and the foot traffic is back in the shopping centres. I know, there are still plenty of concerns;

• Will there be a “second wave” of coronavirus infections (e.g. during the Northern hemisphere winter)?
• Will the US economy have to re-enter lock down?
• What happens when the Australian Government subsidies (e.g. job-keeper) stop in September?

 However, the secret is testing, tracing and “containing”, not economic lockdown.

1. If we find someone with the virus, they will need to enter some form of quarantine.
2. If we can trace everyone they have come in contact with, we can hopefully; a. Find the source of the infection (and hopefully it is someone we already know about), b. Find out if it has spread, and c. Reduce the "rate of infection" to less than 1 (in other words, if the number of new cases are below the number of recovering cases, the total number of cases will fall)
3. If we can "contain" the virus, we can buy time, for the health system to manage the case load. Time for science and medicine to study the virus and its long-term effects, and who knows, maybe even find a vaccine, or at least better medicines to treat the symptoms and any lasting side-effects.

With effective testing, tracing and "containment" we can develop and sustain effective treatment, and we can work out how to live with the coronavirus, just like we live with influenza, which kills tens of thousands, if not hundreds of thousands of people globally, every year.

We need the economy, if we are to sustain our lives and our livelihoods. The economy is the productive activity undertaken by all of us, to generate the goods and services we need for our daily lives. We need to be able to work, if we are to produce, transport and distribute; food, clothing, shelter, healthcare, education, entertainment etc.

So we need to work out how to live with the virus.

Testing, tracing, treating

There could be a "second-wave", but there is unlikely to be a nation-wide lock down. Hopefully, every major economy, is focused on developing their testing, tracing and treating capacity. In that way outbreaks can be isolated, and those infected can be treated and everyone else can go about their normal, daily life.

There should be plans for the "vulnerable", but for the rest of the healthy population, they should be able to return to their normal activity without onerous restrictions and isolation.

So in my view, the economic contraction of March, April and May has given way to an early stage recovery, which should continue to accelerate as the lockdown restrictions are lifted.

It may take three to six months to exhaust the easy gains, but allowing people to return to sport, entertainment, hospitality and domestic tourism, will create hundreds of thousands of jobs. The second leg of the recovery will be slower.

It will take time for international aviation to return to 2019 levels. It will take time to redesign / rebuild any business which has really struggled or even failed during the coronavirus period. It will take time to rebuild the reserves which have been consumed during the coronavirus contraction.

It is my view that interest rates will remain at or near zero through the recovery period, and potentially for many years to come. It is also my view that the Government will, as and where required, support the economy during the recovery phase.

In short, the best way to support jobs, repay debts and improve living standards, is with a vibrant economy.

During March, April and May, the government and the health system has had the opportunity to study the virus and refine the health and economic response to the virus.

In March the possibilities were poorly defined, and there were real examples of the health system failing in several major economies and tens of thousands of people dying.

But three months on, and 7,000 coronavirus cases later, only three out of 5000 Australians under the age of 60 who contracted the coronavirus have died, and 100 out of 2000 Australians over the age of 60 who contracted the coronavirus have died. To give this some context, during 2019, in Australia, there were 812 influenza-associated deaths.

The Australian economy will continue to recover

The economy is back, and it is my hope, based on the experiences of March, April and May, that the Australian economy will continue to recover. It has taken record low interest rates, record high levels of Government spending and the resources of many ordinary Australians (e.g. providing rental relief to tenants living and or working in their investment property and or drawing down on their retirement savings), but I believe the worst of the economic contraction is now behind us.

When it comes to the share market, what has been interesting about the coronavirus correction, is that many of the most expensive stocks (as measured by PE ratio, dividend yield and or price to book value) have remained expensive, with investors apparently focused on the long run possibilities.

While at the same time, many of the businesses stuck in the real economy (cyclical, discretionary, financial and property), providing goods and services for profit, are trading at prices reflective of the current uncertainty and challenges. The sectors that I believe represent the best value are banking, property and energy, and I would like to say a few things about retail property trusts.

The chart below shows the data from the Australian Bureau of Statistics (ABS), for retail sales in Australia, each quarter from December 2015.

There are three parts to each column;

1. The largest part, represents traditional retail, happening through a shop front, and makes up over 94% of all retail sales or around $ billion per quarter. I would note that the average growth over the last 4 years is between 1% and 2%.
2. The next largest part, is online sales by traditional retailers (i.e. retailers with a shop front, e.g. JB HiFi, Officeworks, Coles and Woolworths etc) currently running at around $3.2 billion per quarter, and having doubled in the last 4 years.
3. The smallest part, represents online only retailers, running at around $2 billion per quarter, having also almost doubled in the last 4 years

At this point, 20 years on from the start of eBay in Australia, online only retailing sits at around 2.2% of total retail sales, clicks and mortar (i.e. online sales by traditional retailers) sits at around 3.8% of total retail sales, and bricks and mortar sits at 94% of total retail sales.

Not to discount online retailing, it has been growing at between 20% & 30% a year for the last 4 years, while traditional shop front retailing has been growing at between 1% & 2%.

But that being said, landlords still provide a valuable service to both consumers and retailers, supporting just over 94% of all retail sales, worth over $300 billion a year. In my view, the success of any real estate comes down to location, and it is no different for retail real estate.

If you have a location that is visited by tens of thousands of people every day, people with jobs and money in their pockets, then you have a business proposition. It doesn’t matter whether you are selling coffee, comics or cosmetics, if the consumers are on your site, be that physical or digital, you have the opportunity to sell them something.

What's more, the tactile, social and service aspects of physical retail, will allow you to sell more goods and services, delivered immediately without the complications of last mile logistics or unwanted returns. The economic downturn has been sharp and severe, but the recovery has started.

Almost all retailers are now able to open their doors and it won’t be long, before customers return.

In fact there are some very encouraging signs, with foot traffic in many shopping centres having almost doubled in the last 4 weekends and it is my guess, once restaurants, cinemas and other entertainment and hospitality venues are allowed to return to normal, foot traffic will be back to 2019 levels.

At some point, in the not too distant future, the advice will no-longer be, work from home if you can, but it will be; pile onto public transport, cram into the lift and escape to the crowded food court at lunch time.

Okay that won’t be the advice, but for a whole host of reasons; social, teamwork, supervision, training, recruitment, motivation, business development, client service and just getting out of the house, workers will return to the office towers.

To the extent that working from home adds to productivity, it will no doubt persist, but there is a lot to be said for face to face interaction and the separation of work-life, from home-life. It is my view, that sometime in the not too distant future, investors will stop worrying about the coronavirus contraction and they will be faced with the reality of zero interest rates.

So if you have any questions about your current strategy or investment options, please do not hesitate to call me directly on 07 3334 4856.

More Information

Ken Howard is a Private Client Adviser at Morgans. Ken's passion is in supporting and educating clients so they can attain and sustain financial independence.

If you would like to learn more about assessing your finances, you can contact Ken or your closest Morgans branch.

General Advice warning: This article is made without consideration of any specific client’s investment objectives, financial situation or needs. It is recommended that any persons who wish to act upon this report consult with their investment adviser before doing so. Morgans does not accept any liability for the results of any actions taken or not taken on the basis of information in this report, or for any negligent misstatements, errors or omissions.