Markets last week
Concerns about inflation in the US were heightened last week with the announcement that some companies are making large scale and sweeping increases in wages. The dominant sectors for these wage hikes, however, are heavily skewed toward banks, retailers and restaurants, which all need to fill their branches and stores in time for the reopening, so it is unlikely to be a recurring compensation increase.
In the US, discussions have taken place between Republican senators and the Biden Government to come up with an alternative proposal for infrastructure spending. The difference between the parties is mainly about how to finance the stimulus, with Republicans favouring user fees and Democrats tax rises. Whether a deal is reached or the Government has to rely exclusively on the Democratic Congress members, it looks like the spending package will be much less than the original US$2.3trn headline of the American Jobs Plan.
Although the market is concerned about the US Federal Reserve (Fed) tapering its market purchases of government bonds, there was more demand for US treasury bonds last week. It has not been advertised widely, but the Fed is now selling short-term Treasury bonds and buying longer ones, an unofficial ‘Operation Twist’, which has kept long-term bond yields in check for the last couple of months.
Amid the general rise in government bond yields this year, it is easy not to notice that the last two holdouts for negative interest rates (10-year government bond yields) in the world, Germany and Switzerland, are fast approaching positive levels, highlighting the relentless upward pressure on bond yields globally.
Over the week, technology equities have led but over the month they are still at the bottom of the league. Government bond yields have stalled. The dollar resumed its downtrend after rising during Q1. Commodities corrected, led by oil due to the expectation of a deal with Iran on its nuclear programme. Gold, however, continued its recovery started at the end of March. At the end of the week, equity markets have mostly recovered from the earlier falls with Asian markets doing best and the US worst.
The week ahead
Tuesday: UK Public Finances
Our thoughts: in March, when Chancellor Rishi Sunak announced his budget, some amazing spending proposals were unveiled with borrowing and debt levels not seen since WWII. It’s easy to remember that debt is dynamic and changes fast. The most recent public sector borrowing requirement showed eye-watering levels of public deficit: March saw more than £27bn and the expectation for April is for a jump to £35bn. The pandemic turned a single digit average borrowing month to something in the £20s of billions and the question is how high it will go and whether the surge in retail sales and the reopening of the economy will have some dampening effect on such a juggernaut of public borrowing. Maybe April is too soon after the budget to see any improvement but understanding the trend will matter to markets.
Wednesday: Chinese industrial profits
Our thoughts: percentages of growth can always be used to prove anything but last month’s Chinese industrial profits stunned the world by increasing 92.3%, granted from a depressed level but not from the bottom of the cycle for China. Beyond the percentages, the total profits for industrial enterprises in China have risen to 711bn renminbi (US$110bn), a level not seen since 2017, showing that China has outgrown the rest of the world, which is struggling simply to regain its pre-Covid earnings level. As usual, there is no market consensus estimate for industrial profits, but this will be an excellent indicator of whether the Chinese economy is stalling or still storming ahead. Given that China has been ahead of the rest of the world during the pandemic, both getting into and out of it, its growth performance should be a good guide of what awaits us in the West next year when the stimulus starts to wear out.
Friday: US PCE deflator and personal income/personal spending
Our thoughts: inflation is likely to remain headline news for at least a few months. Despite the variety of measures, the core PCE (Personal Consumption Expenditures) is the one that the US Federal Reserve (Fed) will pay attention to as its inflation gauge with a 2% average target. The PCE Deflator is expected to rise from 2.3% to 3.5% in April, with the core PCE Deflator jumping from 1.8% to 3.0%. PCE tends to be lower than CPI, hence this 3% level is one that markets will notice. Once again, the devil will be in the detail in analysing the increase and prising apart the one-off spurts from the potentially recurring inflationary elements. In addition to the PCE data, personal income and personal spending will be published for April. The US consumer has been spending considerably less than his/her income due to government payments and the lockdown-induced stall in spending. April will be a good guide on whether this dynamic may be changing, although it will have to be adjusted for taxes (April is when Americans pay their taxes).
The numbers for the week
Sources: FTSE, Canaccord Genuity Wealth Management
Central banks/fiscal policy
Fed’s minutes may indicate some tapering later this year
The minutes of the US Federal Reserve (Fed) April meeting have been dissected by markets for signs of a potential change in policy. Fed members noted that it will be some time before the “substantial further progress” test has been met. Higher inflation was thought to continue to be transitory, with a comment that “a number of participants suggested that if the economy continued to make rapid progress toward the Committee’s goals, it might be appropriate at some point in upcoming meetings to begin discussing a plan for adjusting the pace of asset purchases.” This is basically tapering purchases without using the word.
There were further comments about asset valuations becoming a concern.
Overall, the minutes point to a further discussion about tapering during the summer leading to a possible reduction of purchases before the end of the year.
The US Treasury Department called for a global minimum corporate tax of at least 15%, less than the 21% rate it has proposed for the overseas earnings of US businesses.
Surveys no longer rising uniformly but jobless claims on a downward trend
Housing: housing appears to be past its peak in the US. The May NAHB homebuilder index was unchanged at 83, having drifted down from its top reading of 90 in November. April housing starts slumped 9.6%, well below estimates, but building permits rose 0.3%. Existing home sales dropped by 2.7% in April after falling for the previous two months.
Surveys: the Empire State index dipped to 24.3 in May from 26.3. Within the survey both the indices for prices paid and prices received hit record highs. The Philadelphia Fed Business Outlook index fell in May to 31.5 from 50.2 (a 48-year high), still in expansion territory. Prices paid and received are rising sharply, delivery times are lengthening and unfilled orders are rising to record levels. The Leading Index rose from 1.3% to 1.6% in April. Pre-Covid this index was always close to 0% so the increase is meaningful. Lastly, the Markit manufacturing PMI rose from 60.5 to 61.5 and the Markit Services PMI soared from 64.7 to 70.1, the highest level since the creation of the index in 2018.
Employment: initial jobless claims continued their recent downtrend, falling to 444K from 478K the previous week. The labour market improvement is also showing up in longer workweeks and higher levels of capital expenditures to reduce costs per hour.
Buoyant numbers, particularly retail sales
Employment: the claimant count rate in April was stable at 7.2% with the jobless claims down 15.1K. The number of payroll employees rose by 0.3% in April.
For the three months to March, the Labour Force Survey measure of employment rose 84K or 0.3%, with the three-month average unemployment rate down 4.8% in March, from 4.9% the previous month. The year-on-year growth in average weekly earnings, including bonuses, fell to 4.0% in March, from 4.5% previously.
Official statistics show that 4.2 million people (15% of all employees) were furloughed at the end of March. Redundancies should therefore pick up again from July, when employers have to cover 10% of the missing wages of any furloughed staff, and then in September, when the scheme ends.
Inflation: CPI (consumer price index) inflation increased to 1.5% in April, from 0.7% in March and core inflation rose to 1.3%, from 1.1%, both as expected. The jump mostly reflects a rebound in energy prices and a recovery in clothing inflation. The PPI (producer price index) is eye-watering, 9.9% for PPI input and 3.9% for PPI output, but, as we have seen in China, PPI doesn’t feed into CPI that easily.
Housing: the official house price index (average price for all dwellings) rose by 1.8% in March and the year-on-year growth picked up to 10.2% from 9.2% the previous month.
Surveys: the CBI Trends total orders balance rose to +17 in May, from -8 in April. The GfK consumer confidence index improved from -15 to -9. The Markit/CIPS services PMI increased to 61.8 from 61.0 and the Markit/CIPS manufacturing PMI jumped to 66.1 from 60.9, some of it driven by bottlenecks and supply chain issues. It looks like manufacturing output may have reclaimed its pre-pandemic level. The survey also points to inflationary pressures, with the output price index rising to its highest in 23 years.
Retail sales: including petrol, sales rose by 9.2% in April, with the year-on-year growth up to a stonking 42.4%, from 7.1% the previous month. Volumes rose to 10.0% above the 2019 average and 3.6% above the 2020 peak.
Stronger services PMI despite moderate inflation
Growth: real GDP in the eurozone fell by 0.6% in Q1, after a 0.7% decline in Q4. Employment in the eurozone fell 0.3% in Q1.
Trade and industry: the trade surplus in the eurozone slumped to €13.0 billion in March, after a revised €23.1bn in February.
Car registrations in the EU 27 jumped by 218.6% year-on-year in April, but the comparison is with virtually zero registrations one year ago, so the percentage is meaningless.
Output in Eurozone construction rose by 2.7% in March, driving the year-on-year to +18.3%, from a revised -5.4% the previous month.
Surveys: the eurozone manufacturing PMI was steady at a high 62.8, from 62.9 and the services PMI surged from 50.5 to 55.1 with France particularly strong on the services PMI. Eurozone consumer confidence rose from -8.1 to -5.1.
Inflation: headline CPI inflation in the eurozone rose by to 1.6%, from 1.3% in March, matching estimates. The core CPI fell to 0.7% from 0.9%. Energy inflation rising explains the headline reading, whereas the low core number is caused by technical distortions.
China: no meaningful statistics were published
Japan: industrial production rose 1.7% in March, up 3.4% year-on-year. Capacity utilisation jumped 5.6% in March.
Oil prices drop on Iran rumours
Rumours of significant progress being achieved in western negotiations with Iran on its nuclear programme were sufficient to send oil prices tumbling down after they hit their highest level this year, due to the possible return of Iranian production to the oil market. Crude prices, therefore, fell 3% during the week. Other economically sensitive commodities also corrected. Gold diverged from industrial metals and energy, rising 2%, partly due to some investors moving from cryptocurrencies to the yellow metal.