Despite further falls in June the market has stabilised somewhat and a breath of positivity is beginning to embrace investors. The ASX300 Accum index fell by 2.6% over June equating to a fairly modest 13% total return for the 2010 financial year. Resources (-1.3%) led the market as a compromise around the super profit tax took shape, while Industrials (-3.2%) and Banks (-4.9%) disappointed. Despite this we have begun July on a positive note. Globally the IMF upgraded its global growth outlook while China reported slower yet still strong growth. In Australia the economy continues to perform well with improved employment numbers and increased confidence amongst both businesses and consumers. Cash rates are expected to be kept on hold until at least September (20% chance given to a August hike). Certainly the election announcement over the weekend will help move us closer to erasing some of the doubt from offshore investors about investing in Australia.
 
Equity Strategy
 
During the month we increased overweight positions to both Rio Tinto and BHP.  We do not suspect that China is in as dire shape as some suspect.  And too much attention was given recently to the Conference Board Leading Indicator revision which has only been in existence for a couple of months and was merely based on human error or if you like a "teething problem" in the calculation.  We believe the horse has bolted in terms of worrying about a China slowdown which began over 8 months ago. The point now is to find where the rate of change slows. We believe this is occurring if you look at the OECD leading indicator for China (in existence for over 30 years, not a couple of months) which has begun to slow its rate of decline in the past few months.
 
Resources will also benefit from the strong US manufacturing recovery which is the largest in over 35 years and is in turn delivering strong US corporate earnings. We expect US investors to increasingly focus on their own strong domestic outlook and turn their attention away from the problems in Europe. The latter is struggling but will likely slide from the headlines as the strong monetary stimulus now in place buys the region time to rationalise its unwieldy banking system. Recent strength in the Euro on the back of strong European manufacturing and bank stress tests has seen somewhat of a recovery here.
 
Feedback we are receiving is that Rio Tinto is beginning to generate a lot of interest from fund managers. The stock appears a standout on valuation metrics, close to the cheapest its ever been.
 
The other main strategy theme comes back to the "Shorter, Sharper Cycles" thesis discussed last month. This is based around investors shortening their investment horizon and frequently changing their risk appetite as a result of greater political intervention. On this measure we believe the domestic economy is at the outer reaches of the current cycle and faces a slowdown. Hence we like defensive growth exposures such as Woolworths, Wesfarmers, AGL Energy, Coca Cola, Origin Energy and even selected property trusts. Telstra is also looking more attractive following the governments hardline back down in offering compensation for Telstra's assets/infrastructure when the NBN begins to take shape. We believe this should underpin their dividend for at least the next 8 years while the network is being built.
 
Election and political certainty will go someway to resolving this slowdown however we do have some concern for the banks. Banking sector upgrades to EPSg in FY10 were based predominantly around a reduction in doubtful debt provisions. Looking forward to FY11, credit growth now must improve to maintain these growth rates. However with business investment stalling as management take a very conservative approach to borrowings so to is credit growth. This together with increasing financial regulation offshore may crimp banking performance. Note dividend yields do remain attractive and any major falls would be significant buying opportunities for income players as yields stretch past 8%.
 
An interesting study during the month surrounding shorter, sharper cycles identified those stocks that look attractive based on duration - the length of time investors are prepared to value growth into the future. Or how many years it would take to recoup the initial investment. The standouts on this score included RIO, BHP, OST, NAB, LLC and LEI. For more on this study feel free to ask and I can send the note through.
 
The US continues to look attractive predominantly on the back of company earnings. We expect housing and consumer confidence to continue to come under pressure, and remain positive while low rates continue and there is confidence in US paper. Disappointing data from time to time should be expected and would represent solid buying opportunities. We will look to Bernanke's semi-annual report on the state of the economy on July 21 and Leading Indicator data on July 22 for further clarity. Maintain US exposure via Westfield Group, QBE Insurance, CSL, Worley Parsons and Newscorp.
 
Overall, feedback from our institutional desk is that their clients are very gun-shy at the moment, in fact close to the most ever. There are 2 types of investors - those that have been and still are on the sidelines, particularly over the past 6 weeks, and those that have chased the market hard and are close to capitulation. What seems certain is that there is plenty of cash waiting to invest, whilst those short the market will have to cover those shorts aggressively if the market turns around (as we have begun to see with the market rallying 5.7% of its lows). This is particularly the case in the big resource stocks which many offshore hedge funds have been shorting recently on the back of sovereign concerns and Chinese slowdowns.
 
For any further information please do no hesitate to call.