Market Bulletin - Finely balanced
Latest US jobs numbers fail to give a pointer to when interest rates will rise.
The volatility of August overlapped into the first days of September, as uncertainty persisted over when the US Federal Reserve would raise interest rates. Markets are likely to remain uneasy until the timing of that decision becomes crystal clear. The best course of action for long-term investors remains to stand back and ‘zoom out’ on markets until the day-to-day or even month-to-month fluctuations look less significant.
The weekend communiqué from the G20 meeting in Ankara avoided mentioning the two hot potatoes of US interest rates and Chinese growth, though it expressed support for Chinese economic policy and confidence in the world’s economic outlook. Markets had looked instead to the latest US employment figures to give them a firm steer on whether the Fed would or would not move in September.
Frustratingly, the numbers that emerged suggested neither course of action – or both. US non-farm payrolls increased by 173,000 in August, markedly less than expected and down from a high of 250,000 earlier this summer. That would favour deferring any rate hike until December, perhaps, or even 2016. But the unemployment rate fell from 5.3% to 5.1%, its lowest for over seven years, while average hourly earnings rose to give a year-on-year increase of 2.2% – figures which would support an earlier move.
Chris Williamson, chief economist at research firm Markit, said the latest figures gave “frustratingly little new insight into whether the Fed will start to hike rates”.
With indicators pulling in opposite directions, it’s no surprise that expectations of a September rise remain finely balanced. Capital Economics puts the chances at 50:50, and points out that a 0.25% hike would put the federal funds rate at between 0.25% and 0.5%; hardly enough to derail the world economy. “The bigger picture, though, is that we still forecast that the FOMC will raise the federal funds rate further and faster over the next year or so than most expect, as a tightening labour market puts significant upward pressure on wage and core inflation,” it noted.
Some markets were less phlegmatic. The Chicago Board Options Exchange Volatility Index (VIX) rose on the news to touch 27.9 – its historic average is 20. The S&P 500 index fell 1.5% on Friday, leaving it 3.4% down on the week.
Chinese markets were calmer, not least because the mainland exchanges were closed for holidays on Thursday and Friday. As the recent panic subsides, a number of commentators pointed out that prospects for China’s, and hence the world’s, growth are not as bad as some thought. German finance minister Wolfgang Schäuble said the G20 agreed there was no reason to fear slower Chinese growth. Fitch, the credit ratings agency, said in a new report that the pessimism had been overdone. It accepted that Chinese growth was slowing, and predicted 6.8% for this year, below the government’s 7% forecast. Indeed, it said, China’s “new normal” could mean 5% average growth over the next five years, and more volatility. But it believed consumption would remain resilient and that fiscal policy would continue to support growth.
Capital Economics added its own voice of moderation, saying that China’s prospects were not as bleak as many now assumed. It said that more clarity over policy-making would be welcome, particularly on the exchange rate – the yuan was recently devalued over three successive days. But it believes that the manufacturing downturn was partly due to one-off factors and the services sector “continues to do much better”.
Tokyo’s Nikkei 225 index had a particularly bad week, falling by 7% in response to a stronger yen and a dire Purchasing Managers’ Index (PMI) reading for Hong Kong. The August PMI was 44.4, the lowest since 2009, suggesting a further drop in orders from mainland China.
The European Union (EU) commissioner for economic affairs, Pierre Moscovici, said that while a Chinese slowdown posed the biggest risk to the EU economy, it would not deflect it from its present gradual recovery. A rising euro was of less concern, Moscovici said, as it was offset by lower oil prices and the fact that central banks were “still very active”. He was referring to the European Central Bank’s (ECB) €1.1 trillion quantitative easing (QE) programme.
Earlier in the week, the EU had announced that its unemployment had dropped to its lowest since June 2011, and August inflation held steady at an annualised 0.2%. ECB president Mario Draghi then indicated that the bank would, if necessary, extend the “size, composition and duration” of its QE bond-buying programme. It is currently due to end in September 2016. His remarks were made in the context of the Chinese and emerging market slowdown, but were also designed to counterbalance the ECB’s downgrading of two key economic forecasts for the eurozone – inflation down from 0.3% to 0.1% and growth from 1.5% to 1.4%.
The FTSEurofirst 300 Index had risen more than 2% on Draghi’s “dovish” remarks, but gave it all back after the US jobs numbers were released, to end the week 3% lower.
Greek Prime Minister Alexis Tsipras’s Syriza party fell behind in the opinion polls as it was deserted by the youth vote. Tsipras had taken advantage of an earlier polling lead to call a snap election later this month. The latest numbers suggest Syriza will lose narrowly to the conservative New Democracy party, which is leading for the first time in 18 months. It says it would keep Greece in the eurozone whatever the cost.
Commodities had a volatile week, with a trading range of $6.50 a barrel for Brent crude oil, which ended the week back below $50, at $49.61. Copper fell 2.4% on Friday alone. The deflationary effect of recent commodity price falls means that the Bank of England’s Monetary Policy Committee won’t raise UK interest rates in the immediate future. Bank governor Mark Carney told a central bankers’ conference in Jackson Hole, however, that developments in China were unlikely to affect the timing of any such rise.
Retail rained off
August was the worst month in the UK high street since the financial crisis, as retail sales fell 4.3% compared to last year. It’s thought this was because the bad weather kept shoppers at home, or because they used a stronger pound to go abroad in search of sunshine. Overseas trips have increased by 9% this year, according to the Office for National Statistics.
UK manufacturing, on the other hand, received a fillip from the opening of Hitachi’s £82 million new train factory in Newton Aycliffe, County Durham. This is Hitachi’s first rail plant in Europe, and was hailed by Chancellor George Osborne as “a huge boost to confidence for British manufacturing”. Nissan, which began making cars in the North-East in the 1980s, announced it would invest a further £100 million in building its new Juke model in Sunderland.
As in other major markets, however, the FTSE 100 Index reacted skittishly to the employment figures from the US, while its mining and energy constituents reflected the fitful course of commodity prices. The benchmark index fell 3.3% during the week.
Fund manager Loomis, Sayles & Co is amongst those believing that the Fed could make a policy error if it hikes in September, and expects the first rate increase will be delayed until later in 2015, arguing that low US inflation and increasing deflationary risks from abroad give the Fed few reasons to rush rate hikes. It also points out that developed markets have outperformed emerging markets for some time, and that recent market fears merely continue this theme. “August regularly brings periods of particularly low liquidity in financial markets, and this can cause significant price moves. Our advice: don’t panic.”
Loomis, Sayles & Co is a fund manager for St. James’s Place.
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