Investment Light Still shining amid the Economic Gloom

Domestic outlook for late 2025 more positive, but things could get worse before they get better …

2024 is ending with the OCR significantly lower than when it began. However, it would be pushing it to say we’re out of the woods just yet. While the RBNZ has seemingly committed to a cycle of rate cuts, it still faces a difficult task with GDP down to recessionary levels, immigration slowing and unemployment still on the rise. Consequently, we expect caution to overpower confidence for at least the first half of 2025.
As we roll into the New Year, we see three key influences over the investment market: interest rates, the strength of the dollar, and geo-political uncertainty.

Interest rates

The reduction of mortgage rates from over 7% to around 5.75% may be providing some relief for homeowners, but it’s still a long way short of being cause for celebration for a generation who had become accustomed to borrowing at levels comfortably below this. 

This rate drop will, however, encourage behaviour change from retail investors who will likely head back to the equity markets as they see term deposit rates drop to around 3%. Sectors here that look appealing as rates fall include commercial property and retirement villages. Commercial real estate values already look to be stabilising, although income concerns remain through pressures on occupancy and the removal of building depreciation. Meanwhile the retirement sector – already supported by our aging population – will benefit from a more active residential market that enables retirees to sell their homes to move into villages.

Falling rates also tend to encourage greater M&A activity, so after something of a lull we shouldn’t be surprised to see some of our NZX companies subject to buy-out bids. Particularly given that we see potential for earnings growth later in the year, as active investors we would demand full value for any sale over the coming months.

For fixed income investors, falling rates should support the potential for further gains in longer maturity bonds. The NZ yield curve has taken a more positive shape since the rate cut cycle began, and as the cash rate moves lower towards neutral or even stimulatory territory, we’d expected investors to seek value along the curve.

The strength of the NZ$

With Government fiscal policy here now set to neutral or even contractionary, the likelihood is that our economy and dollar will weaken further compared to bigger global nations.
A weak dollar will of course be welcomed by our exporters, notably our dairy, meat and produce sectors, and should support a resurgence in international tourism. But on the flipside, the negative impact it will have on importers could risk fanning the embers of inflation and relighting that fire.

The irony here is that while Trump’s second coming is part of the problem in causing our dollar to weaken, or perhaps rather the US dollar to strengthen, if he follows through with his threat to impose heavy tariffs on China then he could also provide respite for our importers as China will need to find a solution to its sudden oversupply of goods.

Geo-political uncertainty

All of which brings us neatly to our third key influencer! 2024 had been dubbed the election year, as over half of the world’s population headed to the polling booths. Following some surprise results in Japan and Europe, as well as Trump’s re-election, this next year we will likely see significant policy changes around the globe that could further disrupt the status quo. Alongside ongoing unresolved conflict in Eastern Europe and the Middle East, and growing tensions across Europe and Asia, Trump’s tariffs are just one consideration. 

Despite the uncertainty of the last year, economic growth has held up reasonably well through most parts of the world – and better than what we expected a year ago, when there was still significant concern that key economies could enter into recession.

The combination of modest growth and falling rates has underpinned a good year for global equity investors with the S&P500, Nikkei 225, FTSE100 and Eurostoxx 600 all hitting new all-time highs over the course of 2024. Looking ahead to 2025, earning expectations still appear achievable, with the impact of lower borrowing costs expected to flow through to businesses and consumers as the year goes on. Therefore, we expect to see solid returns for global equity investors.

Back here in little old New Zealand, we think it’s still too early to call a recovery for cyclical stocks, such as those exposed to the building sector. In fact, it’s for these companies that we think things could get worse before they get better, and are not discounting the possibility of further earnings downgrades.

However, we also expect that given time for their effect to flow through, lower interest rates will see company earnings pick up, probably as we enter the second half of the year. In the meantime, as active investors we’ll continue to focus on those sectors that have proved themselves resilient to volatility, such as data centres, renewable energy, retirement and healthcare.