Markets last week
Risk markets once again attempted to correct but the net result over the last week was fairly small. The ostensible concern driving the downdraft in equities right now is about slower growth with potentially less support from the Fed due to tapering. UK, US and European equities were hit most, whereas Asian equities, which had suffered previously, were quite resilient this time round, with Japanese equities actually soaring. The Japanese market bucked the trend due to expectations of a stimulus package after the upcoming election. In terms of sectors, consumer discretionary was the most defensive, whereas healthcare, real estate and utilities corrected the most.
The economic backdrop has not improved, with declining surveys, surging producer price inflation and softer services growth. Jobs are looking better in the US, however, with jobless claims continuing to fall, job openings hitting all-time highs and the prospect of additional job creation after extra unemployment benefits lapsed last week. The picture in the UK is quite different, though. The winding down of the furlough scheme may lead to more unemployed, at least for a while.
Politics and central banks returned to the fore. The UK government voted a £12 billion package of annual tax rises through national insurance contributions and dividend taxes. Although the Biden administration has put forward a long series of tax increases for the US, the UK is the first country to enact this. The European Central Bank attempted to draw a semantic distinction between “recalibration” and “tapering” of its asset purchases, as the European economy is looking more buoyant.
There was a small rise in bond yields, in particular gilts, and currency pairs were only moderately changed. Commodity prices were more active. China sold some of its oil reserves to keep crude prices down but failed to have a major impact, whereas copper rallied sharply on Friday and gold fell again below US$1,800.
The week ahead
Tuesday: monthly Chinese data for August by sector (retail sales, industrial production, fixed assets ex rural, property investment, surveyed jobless rate)
Our thoughts: Chinese PMIs have fallen, with services PMIs below the 50 threshold between expansion and contraction. They should anticipate drops in various sets of economic data. The question is whether such drops could have been registered as early as last month. The expectation is that all readings should be a little weaker, but the current estimates don’t warrant the huge economic concern that is currently being experienced. Do we need to wait another month or two or will a slowdown start to show up? Also, the PBoC (People’s Bank of China) may very well stimulate the economy further with money supply changes and reserve requirement ratios, but they would have to figure out how deep the slowdown is before making any moves.
Tuesday: US CPI (consumer price index) and core CPI (ex food and energy)
Our thoughts: inflation is still a major issue in the US. According to recent polls, people are much more concerned about inflation than unemployment and hence consumers may vote with their feet if prices keep surging. The current expectation is for a slight downtick in CPI and core CPI, but this would not constitute ‘transitory’ inflation. Nevertheless, if the direction of CPI is down rather than up, it could have a psychological impact that would prevent bottleneck-induced price hikes in a few sectors from spreading into the broader economy. It will also be important to dissect the price increases into sectors and products and understand whether any of them are sticky.
Wednesday: UK CPI, RPI (retail price index) and PPI (producer price index)
Our thoughts: after the US, the UK is the one country where inflation could derail the economic recovery. Indeed, during the last cycle the UK was the only G7 nation to post a 5% inflation reading, which makes it vulnerable to price rises in general. Further, UK breakeven inflation rates (i.e. inflation expectations) are at a 13-year high now. The UK is suffering from the same sources of inflation as the rest of the world (supply chain gaps, employment skills mismatches, imported commodities), but in addition the UK has been affected by the loss of many European workers due to Brexit which is felt in various sectors of the economy and causing business bottlenecks or even shutdowns. Hence, the importance of following inflation closely. It is true that the Bank of England is likely to remain on the sidelines longer now that taxes are going up, but its attitude will depend on the level and sustainability of inflation.
Markets for the week
|In local currency||In sterling|
|Index||Last week||YTD||Last week||YTD|
|Hong Kong equities||0.9%||-4.0%||1.0%||-5.7%|
|Emerging market equities||-1.2%||0.7%||-1.1%||-0.8%|
|Government bond yields (yield change in basis points)|
|Current level||Last week||YTD|
|10-year US Treasury||1.31%||-2||39|
|10-year German Bund||-0.36%||0||21|
|Current level||Last week||YTD|
|Commodities (in USD)|
|Current level||Last week||YTD|
|Brent oil (bbl)||72.05||-0.8%||39.1%|
|WTI oil (bbl)||68.63||-1.0%||41.4%|
|Copper (metric tonne)||9387.5||-0.5%||20.9%|
Sources: FTSE, Canaccord Genuity Wealth Management
Central banks/fiscal policy
£12bn in additional taxes in the UK and “the lady’s not tapering” from the ECB President
The UK government has increased personal taxes to pay for health and social care costs. National insurance contributions will rise by 1.25% from April 2022. Dividend tax rates will also rise by 1.25% from the next tax year. The move is designed to raise £12bn for the next tax year and £36bn over the next three years. This tax increase was voted through by Parliament.
The European Central Bank (ECB) announced that it will slow down the pace of its pandemic bond-buying programme, reflecting the eurozone’s strong economic recovery. This was labelled not as tapering, but rather a “recalibration”, with ECB President Christine Lagarde channelling her inner Margaret Thatcher saying “the lady’s not tapering.” The Governing Council decided to conduct purchases at a “moderately lower pace” than the roughly €80bn monthly amounts in the past two quarters. There was a reiteration of the pledge to keep the €1.85trn programme at least until March 2022, purposely not signalling the end of emergency stimulus.
New ECB forecasts showed a stronger near-term outlook for prices and growth, though still insufficient to fulfil its mandate. Inflation will average only 1.5% in 2023, below its 2% target.
Jobs are improving across the board
Employment: an estimated 7.5 million people have lost some form of unemployment benefits (mostly $300/week unemployment bonus and Federal Unemployment Benefit Extensions beyond the usual six-month limit). New jobs could therefore be created in the next few months, which could make the Fed’s tapering decision easier.
Job openings rose to a fresh record high in July, rising to 10.9 million from an upwardly revised 10.2 million in June, as per the Job Openings and Labor Turnover Survey (JOLTS) and up 62.8% year-on-year. The number of vacancies exceeded hires by 4.3 million in July, the most since data going back to 2000. The number of people who voluntarily left their jobs (“Quits”) rose to 4 million in the month, with the rate at a near record 2.7%.
Jobless claims fell the most since late June as the labour market continues to recover. Initial unemployment claims decreased to 310,000, from 345,000, below estimates. Continuing claims also fell to 2.78 million from 2.8 million. These claims represent the final week of pandemic benefits. Claims should fall from here but it’s not clear by how much. The pre-COVID-19 average was around 220,000, so there is a way to go.
Inflation: the PPI (producer price index) rose from 7.8% year-on-year to 8.3%, with the PPI ex food and energy rising 6.7%, up from 6.2% and the PPI ex food, energy and trade at 6.3% from 6.1%.
Housing: home prices increased 18% in July compared to a year earlier, according to CoreLogic. The jump is the largest 12-month gain in the index since the series began 45 years ago. On a month-over-month basis, home prices increased by 1.8% in July from June.
Mortgage applications fell 1.9% for the week, the third decline in the past 4 weeks and down 9.2% year-on-year. The mortgage rate is unchanged at 3.03%, so the drop in applications has to do with high prices rather than interest rates.
Credit: consumer credit fell to US$17bn in July from US$37.8bn the previous month.
What does the end of furlough mean for UK employment?
Sales: new car registrations fell 22% in August year-on-year, slightly better than July.
Surveys: the Markit/CIPS construction PMI fell from 58.7 to 55.2. The BRC (British Retail Consortium) sales like-for-like rose only 1.5% in August, vs. 4.7% the previous month and below estimates.
Housing: the average value of a UK home rose 0.7% in August to £262,954, as per the Halifax. The annual pace of increase slowed a smidge to 7.1%. The phasing out of the stamp duty holiday doesn’t seem to have had a big impact. The RICS (Royal Institute of Chartered Surveyors) house price balance fell to 73% from 77%.
Employment: at the end of July, 1.6 million people were still on furlough, the lowest level since the start of the pandemic and 340,000 fewer than a month earlier. Since the start of the COVID-19 pandemic, 11.6 million workers have benefited from the furlough programme, which will be wound up in three weeks. At the peak of the pandemic in May last year, nearly nine million people were on furlough. It is almost inevitable that some increase in the jobless numbers will be seen as the furlough programme stops.
GDP growth: the UK economy barely grew in July, expanding just 0.1%, vs. 1.0% in June, below expectations. The figures left output 2.1% below the level in February 2020, before the pandemic struck. Services and manufacturing grew at 0%, construction output declined 1.6%. Mining and utilities seem to have grown to make up for the difference. It was the weakest month for the economy since January.
Expectations falling even with a strong current situation
Surveys: the Sentix investor confidence index in the Eurozone fell from 22.2 to 19.6, in line with expectations. The ZEW survey of economic expectations fell for the fourth month, down 13.9 to 26.5. Also, the ZEW for the eurozone fell 11.6 to 31.1. The current economic situation, however, was perceived less negatively in the same survey, up 2.6 to 31.9 for Germany and up 7.9 to 22.5 for the eurozone.
Industry: German industrial production rose for the first time in four months, up 1% in July and 5.7% year-on-year, up from 5.4% the previous month. French industrial production rose 0.3% in July, bringing the year-on-year growth to 4%, down from 7.3% the previous month.
Slowing surveys not affecting strong exports from China
China: exports rose 25.6% year-on-year in US dollar terms in August, better than estimates, and imports increased 33.1%, with the trade balance rising from US$56.6bn to US$58.3bn.
The Chinese PPI rose again to 9.5% from 9.0% but the CPI fell from 1% to 0.8%. This huge discrepancy has been in existence for many months now and does not seem to get resolved either way.
Money supply was almost unchanged, with M0 up 6.3% year-on-year vs. 6.1% previously, M1 up 4.2% from 4.9% and M2 up 8.2% vs. 8.3%.
Japan: labour cash earnings rose 1% in July, up from 0.1% the previous month and household spending rose 0.7% vs. a negative -4.3% previously.
Surveys in Japan have fallen quite sharply, with the Eco Watchers Survey (current) down from 48.4 to 34.7 but the outlook down only from 48.4 to 43.7. Machine tool orders rose 86.2% year-on-year in August, down from 93.4% the previous month.
The PPI was up 5.5% year-on-year in August, slightly down from the previous 5.6%.
China released national crude reserves to keep oil prices in check. Brent and WTI crude oil prices fell by US$2 briefly but half of that amount has already been recovered. Copper rallied more than 3% on Friday, due to wage deals in Chile easing copper supply risks. Conversely, gold fell again below the US$1,800 level it has been hugging for months.