Markets last week

A round trip in risk markets stirred most assets last week. The former concerns about overheating and inflation quickly gave way to worries about floundering growth. The main issue has been centred in Asia, due to weak vaccine progress, the resurgence of the COVID-19 virus and the Chinese crackdown on technology companies. Recent PMI numbers in China have fallen, with services particularly hit, at a time when services PMIs have been soaring in the Western world. To counteract this negativity, the Chinese central bank cut the reserve requirement for banks, allowing them to lend more.

Considerable volatility was experienced in equity markets last week, but also in government bonds. The US 10-year bond yield fell to 1.25% mid-week (after hitting 1.75% at the end of March), before recovering to 1.36% at the end of the week. Simultaneously, equity markets plunged before rallying on Friday.

The see-saw action in many asset classes left credit markets relatively unscathed, highlighting the small likelihood of a major economic downturn at this stage in the cycle.

Over the week, equities were flat, but Asian markets did not have time to catch up with the US and European rally. Real estate and information technology were the strongest sectors whereas energy and financials did worst. Government bond yields fell but only by half of the mid-week drop. The US dollar took some profits and commodities were mixed, with oil down but copper and gold back up. 

The week ahead

Tuesday: US June CPI (Consumer Price Index), plus import price index and export price index on Thursday

Our thoughts: the markets may have shifted from worrying about inflation and overheating to lack of growth, but US inflation will still make headlines and could derail risk appetite once again, fuelling concerns of a stagflation scenario. Another eye-watering monthly rise is expected with headline CPI close to the 5% registered last month and the core CPI ex food and energy touching 4%. The Federal Reserve’s (Fed) gauge may be the core PCE (Personal Consumption Expenditures), which is generally lower than the core CPI, but these numbers are still uncomfortably high for markets, unless a clear way back down can be seen. In that respect, the breakdown of the monthly rise will give indications of how broad the inflationary surge is and hence how durable it may be. In addition, the import price index and export price index published a couple of days later should also give good colour on the detailed make-up of these price increases.

Wednesday: monthly Chinese data (retail sales, industrial production, fixed assets ex rural, property investment, surveyed jobless rate)

Our thoughts: Chinese growth still matters to the rest of the world, even with the monetary and fiscal stimulus from Western authorities. Given that the People’s Bank of China (PBoC) has just announced a cut in banks’ reserve requirements, there is a presumption that they should know of an impending economic slowdown. The growth in sales, production and investment will therefore be scrutinised by markets, particularly as the main headline from the Chinese government – GDP growth for Q2 announced on the same day – is viewed with suspicion in the West, whereas the other statistics are more likely to corroborate the growth story with more accuracy.

Thursday: UK claimant count rate and jobless claims change for June

Our thoughts: is this another jobless recovery or are we likely to see meaningful drops in the unemployed with the reopening of the economy? This will be the question on everyone’s lips this week. The furlough scheme is being wound down and hence, what impact will it have on the jobless numbers? The claimant count rate soared to 7.2% from 3% pre-COVID-19 and has so far eased back to 6.2% only. Can it go further down this year given the furlough unwind? Retail sales, housing and GDP may make market-moving headlines, but ultimately jobs will determine the growth ahead for the British economy.

The numbers for the week

Sources: FTSE, Canaccord Genuity Wealth Management

Central banks/fiscal policy

ECB and PBoC adding to policy easing whilst Fed minutes market-friendly

The US Federal Reserve (Fed) published minutes of the June meeting. The Fed members were not ready for a timeline to scale back asset purchases due to high economic uncertainty. “The committee’s standard of ‘substantial further progress’ was generally seen as not having yet been met, though participants expected progress to continue.” The committee had a lot of questions about how soon labour shortages and supply bottlenecks would resolve. They also “generally expected inflation to ease” once transitory factors due to the rapid reopening had abated, but “judged that the risks to their inflation projections were tilted to the upside”.

The People’s Bank of China (PboC) made a surprise announcement of a 0.5% cut to the RRR (reserve requirement ratio) from 12.5% to 12.0% on 15 July, which will inject 1 trn yuan (£111bn) into the banking system to help slowing growth. The RRR cut and a larger-than-expected jump in June credit, mark a decisive turn to an easing stance. China’s benchmark 10-year sovereign bond yield fell below the key 3% level for the first time since August 2020.

The European Central Bank’s (ECB) first strategy review in almost 20 years agreed to raise its inflation goal to 2% and allow room to overshoot it when needed. The decision marks a significant change from the previous target of “below, but close to 2%” and hence brings the ECB’s policy more in line with the Fed’s policy of symmetric overshoot.

United States

Strong services survey belies slowdown

Surveys: the ISM (Institute for Supply Management) services PMI slowed to 60.1 but marks the 13th consecutive month of growth. The prior month was a record high, so some moderation is not surprising. The declines were, in particular, in business activity, new exports and employment. The index of services employment dropped to the lowest level this year, slumping to 49.3 from 55.3 the previous month. Conversely, there were increases in backlogs (+4.7 points to a 65.8) and imports (+7.8 points to 58.2). Prices fell a little, -1.1 to 79.5, but were still close to record levels.

Housing: MBA mortgage applications fell 1.8% last week, less bad than the 6.0% slump the previous week, but nevertheless still on a downward slope, down 22.4% year-on-year despite lower mortgage rates and existing home prices up 24% over the same period.

Employment: JOLTS (job openings) remained at a high 9.2 million in May. Initial jobless claims increased by 2,000 to 373,000, above estimates, a disappointing outcome. Continuing claims fell to a pandemic low of 3.34 million. That could reflect more Americans taking jobs and falling off benefit rolls now that the US$300 weekly supplement has ended in many states.

Credit: consumer credit surged in May, from US$20bn to US$35.3bn, above estimates.

United Kingdom

Strong services and construction PMIs after weak growth out-turn

Surveys: the CIPS/Markit services PMI rose to 62.4 from 61.7. A year ago, it was 47.1. This is the fourth consecutive month of expansion. The IHS Markit UK construction PMI jumped to 66.3, showing that Britain’s construction industry expanded at the fastest pace in 24 years, driven by a surge in homebuilding. The strength of demand strained the ability of supply chains to keep up and fuelled the biggest increase in purchasing costs since the survey began in 1997.

Housing: house prices fell for the first time in five months in June, as the stamp duty holiday is coming to an end. The average value of a home declined 0.5% to £260,358, according to Halifax. The drop followed a 1.2% increase in May and left prices 8.8% higher than a year earlier. In the RICS survey, a net balance of 83% of property appraisers saw an increase in prices in June, little changed from the reading the month before.

GDP: UK economic growth disappointed in May, up 0.8% vs. 1.5% expected, down from a negatively-revised 2.1% the previous month. Manufacturing production was negative (-0.1%), as was construction output (-0.8%) and services rose only 0.9%. Over three months, GDP was up 3.6%. Year-on-year numbers looks very strong, obviously, but they are all below expectations. The trade balance improved sharply, from -£1,595m to +£884m.

Europe

Discrepancy between current conditions and expectations

Surveys: the eurozone Sentix investor confidence rose from 28.1 to 29.8, just a smidge shy of estimates. The ZEW survey, an important test of business confidence, showed mixed results. The eurozone expectations index slumped from 81.3 to 61.2. The German country data showed the current situation soaring from -9.1 to +21.9 but the expectations component falling sharply from 79.8 to 63.3. The Markit Germany construction PMI rose from 44.5 to 47.0, a level still indicating contraction.

Industry: German factory orders fell 3.7%, worse than expected. The slump was driven by weak export demand for cars following a steep rise the previous month as German companies deal with unprecedented supply-chain issues. German industrial production fell 0.3% in May and is up 17.3% year-on-year, down from 27.6% the previous month.

Sales: EU retail sales rebounded 4.6% in May, compared to a drop of 3.9% the previous month, giving a year-on-year growth of 9.0%.

China/India/Japan/Asia

Drop in China’s services survey

China: the unofficial Caixin services PMI fell from 55.1 to 50.3, due to a drop in travel, the recent resurgence in COVID-19 cases in China’s most populous province, Guangdong, and the spread of the delta variant putting pressure on new orders.

The PPI (producer price index) rose 8.8% year-on-year down from 9% previously and the CPI (consumer price index) fell from 1.3% to 1.1%. Money supply was mixed, with M2 rising from 8.3% to 8.6% year-on-year whereas M1 fell from 6.1% to 5.5%, probably one of the reasons behind the central bank’s cut in reserve requirements.

Japan: the Eco Watchers Surveys improved significantly. The current survey rose from 38.1 to 47.6 and the outlook from 47.6 to 52.4, both markedly above estimates.

Labour cash earnings rose from 1.4% year-on-year to 1.9% in May and household spending was up 11.6%.

Core machine orders for May surged to 7.8% from 0.6% the previous month, taking the year-on-year increase to 12.2% from 6.5%. Machine tool orders for June slowed down to 96.6% year-on-year growth from 141.9% the previous month.

Oil/Commodities/Emerging Markets

Oil prices trimmed their strong previous rise due to the OPEC tussle. Copper prices recovered at the end of the week. Gold managed to hold on to the US$1,800 level amid the market volatility.