Market Bulletin - Alien territory
Major stock markets remained flat as commodities prices slipped, until Friday data showed disappointing US jobs growth.
A report published by the Center for American Progress last week showed that the US economy is 13% smaller today than economists had forecast before the financial crisis. As of last Friday, more than $13 trillion of government debt around the world paid a negative yield. Since Lehman Brothers filed for bankruptcy in 2008, central banks have now cut interest rates 673 times – once every three trading days.
Add to that the UK vote to leave the European Union and the Republican Party’s nomination of Donald Trump as its candidate for the US presidency, and it is clear that many old certainties are disappearing.
Another unprecedented event was added to the list last Tuesday, when the European Commission boldly set its biggest fine to date. Apple, the Commission said, had avoided paying appropriate taxes and would need to pay Ireland, where its headquarters are based, €13 billion. Washington and Dublin quickly expressed their strong disagreement, while Tim Cook, CEO of Apple, resorted to unpublishable language to describe what he thought of the ruling.
“While this is a significant number, when put into perspective relative to Apple’s net cash, free cash flow generation and market cap, it is small,” said Paul Boyne of Manulife Asset Management. “Apple and Ireland are looking to appeal the charge and this will take a long time to resolve. Assuming a US$14 billion tax charge, in our view, this only has a US$2-US$3 per share impact to our fair value target, which we believe is small.”
Apple’s 2015 revenues were $240 billion, and its stock – America’s largest listing – barely seemed to notice the ruling, but the greater threat posed by the decision is to Europe’s reputation as a predictable and friendly environment for business. The FTSEurofirst 300 enjoyed a particularly healthy week, rising 1.9%. But the more important trend was for the month of August, when the Euro Stoxx banks index rose 7%, having recovered 24% since its severe July dip. Bank stocks enjoyed similar recoveries last month in Japan and the US, and last week saw the biggest inflow of funds to US financial companies since last November.
In the UK, the FTSE 100 rose by 0.83% for the week. London provided much of the headline news in a report published by the Bank of International Settlements. Its figures show that the capital is losing its edge as the global hub for currency trading, with its first market share drop in more than a decade, from 40.1% in 2013 to 37.1% today. Asian currencies accounted for most of the lost custom – and euro trading in London now faces an existential threat since the vote to leave the EU.
Among the various data publications last week, however, a number suggested that the UK is bucking the expected sharp economic downturn following the Brexit vote. Factory output reached a ten-month high in August, equalling its strongest monthly rate of increase since Markit began publishing its figures 25 years ago. Export orders provided the strongest tailwind, as a cheaper pound improved competitiveness. Construction activity and consumer confidence indices both showed improvements in August, although remained negative overall.
Other figures published last week revived concerns about the immediate impact of the vote. Borrowing for new cars dropped, while house prices went up slightly in August as fewer homes were put on sale, according to Nationwide. Meanwhile the UK’s largest employers scaled back graduate recruitment plans for the first time since recovering from the financial crisis. The number of positions offered for traineeships and apprenticeships fell by 3%, according to the Association of Graduate Recruiters, against a 13% rise last year. Business confidence is at a five-year low, according to a Lloyds survey, as just 19% of companies reported an improvement in business activity – down from 41% in July.
Whatever short-term impact the Brexit vote itself exerts on economic sentiment and activity, markets will ultimately be far more interested in realities. Last week, Theresa May rebuffed suggestions that she should hold off triggering Article 50 of the Lisbon Treaty before national elections in Germany and France in the middle of next year, and insisted that early next year remained the most appropriate time to proceed. She is also under pressure to clarify the UK’s business relationship ambitions with China, following her apparent pull-back from George Osborne’s full-throttle courting of Chinese investment. The week’s G20 meeting in Hangzhou provides the most obvious opportunity to do just that.
At least until a Brexit timetable and plan is spelled out, much of the shape of current growth and investment in the UK remains shaped by central bank policy, in the wake of the August decision to lower rates and increase bond-buying. In fact, overseas investors have reduced their holdings of gilts for the first time in six months, with £4.4 billion of outflows in July, according to figures published by the Bank of England last week. If part of the reason is the risk created by the Brexit vote, the other side of the coin is the low return currently on offer – even the 10-year yield on government debt ended the week at just 0.7%.
Yet despite interest rates hitting all-time lows, consumer finance trends show that savers’ love of cash remains as deep as ever. The latest report from HMRC on ISAs revealed that a record high of £80 billion was subscribed in the last tax year, of which just under 80% was deposited in Cash ISAs. Of the total £518 billion now invested in ISAs, 52% is held in Cash ISAs. Consumer group Which? reported that some ISA savers are receiving returns of as little as 0.05% and, with inflation at 0.6%, many Cash ISA savers will be losing money in real terms. It remains to be seen whether April’s introduction of the Personal Savings Allowance, which provides tax-free interest on standard accounts, will lead to savers putting their ISA allowance to better use.
Work in progress
While much of the midweek focus in the US was on the treatment of Apple, by the weekend attention had turned to the payrolls report. Unfortunately, the figures showed that the US had added just 151,000 jobs in August, below the 180,000 that had been expected.
That may yet stay the central bank’s hand in the autumn, given the centrality of the report to both sentiment and the broader economic outlook. Investors presumably made the same assumption, given the rise in the S&P 500 following the announcement after a mildly negative few days. The index ended the week up 0.3%.
Nevertheless, there are signs that the US may not be alone in looking beyond its central bank in its quest to address slow growth. Last week Jack Lew, the US Treasury Secretary, expressed confidence that major central bankers around the world are increasingly coming round to the US administration’s view that fiscal stimulus is increasingly needed.
He probably didn’t need to spend long persuading Japan of his views. Last week the Nikkei 225 rose 3.5%, helped by a falling yen, but the country remains at the dangerous edge of the growth spectrum and has already embarked on just the kind of stimulus Lew advocates. Moreover, there were signs that the Chinese economy, a buttress to Japan’s economic health, is lagging still further – a fall in copper prices implies that Chinese demand is lagging – and copper consumption is often a proxy for broader Chinese growth. Oil gave a similar reading, ending the week below $47 for a barrel of Brent crude.
Manulife Asset Management is a fund manager for St. James’s Place.
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