Thoughts on the week ahead from Insight Investment

From

Matthew Merritt

Summary

  • Manufacturing and soft data from the US and eurozone remains strong, supporting our pro-cyclical stance
  • Recently when central banks have tightened policy, currencies weakened post announcement due to the dovish language contained in the statement – the UK hike this week followed this playbook
  • Today, President Trump addresses the South Korea National Assembly, which could contain comments regarding North Korea. While some macro data will be released next week, apart from European services PMIs and Chinese data, these releases are not likely to be particularly market-moving

Market and economic review

Global economic data: US manufacturing remains strong after reaching 13-year high

Last month the manufacturing ISM index showed US manufacturing activity hit a 13-year high, partly due to the supplier deliveries component of the index being elevated due to Hurricanes Harvey and Irma. Excluding September’s artificially high data point, the ISM in October was still the highest since 2011. The fact consumer spending and business investment continues to lift manufacturing supports the case for a pro-cyclical stance in portfolios. Apple’s market capitalisation reached a new high, becoming the first $900bn company in the US following strong earnings and bullish guidance.

Eurozone: economic confidence reaches high not seen for almost 17 years

With the eurozone outlook improving, the European Commission business confidence indicator has reached a high not seen since January 2001. The revival in growth, decline in unemployment and increasing corporate earnings and investment appear to be lifting the eurozone out of its economic slump and mirrors the earlier recovery of the US.

US central bank: Jerome Powell nominated by President Trump to be next Federal Reserve chair

On Thursday President Trump nominated Jerome Powell to be the next Federal Reserve (Fed) chair. He will be the first Fed chair since Paul Volcker not to have a doctorate in economics. The appointment was well flagged and was the favourite on betting websites. He is seen as a relative dove, and likely to continue the supportive interest rate policy of the current chair Janet Yellen. Powell is, however, seen to be more supportive than Yellen regarding changes to post-crisis financial sector regulation. The nomination of the new chair overshadowed the meeting of the Federal Open Market Committee, at which there was no change to policy. There was no change following the Bank of Japan meeting either.

Bank of England: GBP falls 1.4% vs USD following dovish 25bp hike

The Bank of England (BoE) on Thursday lifted interest rates by 25bp to 50bp, the first interest rate increase since the financial crisis started 10 years ago. As markets had already priced in this increase, the omission of the previous guidance that the bank rate may rise more than markets expect caused GBP to fall 1.4% against the USD, and long-dated gilt yields to soften slightly. We note that markets appear to be pricing in only two 25bp increases in the next three years. The pattern of weaker currency and lower yields is potentially the opposite of what might be expected post a tightening of monetary policy. The language that implying near-term rate increases are unlikely led to the hike being branded a “dovish hike” and mirrors the impact of last week’s European Central Bank tapering of its quantitative easing programme.

Global politics: arrests in the US and Spain yet to have significant impact on markets

Significant political risks emerged over the week, but so far markets appear to be sanguine. In the US three people were charged by special counsel Robert Mueller. There could be further developments in his investigation of Russia’s interference in the 2016 presidential election as one of the three, George Papadopoulos, had secretly pleaded guilty some time ago and is cooperating with investigators. Separately, a judge in Spain has jailed eight Catalonian separatists without bail on charges of rebellion, and a European arrest warrant for the former Catalan President Carles Puigdemont was issued. Puigdemont fled to Brussels after Spain seized control of the semi-autonomous region of Catalonia following the declaration of independence.

Outlook

While this week had a heavy release schedule of macro data, next week is relatively calm. On Monday the process for mark-ups of the US tax bill will start. The major surprise when the tax plan was released was the plan to limit the deduction to mortgage interest and local property tax. Also on Monday we receive the remaining European PMIs. Chinese trade data and CPI are unveiled on Wednesday and Thursday.

There could be further President Trump-related news flow next week, with the president holding bilateral talks with Japanese Prime Minister Abe on Monday. There could be commentary regarding North Korea when the US president addresses South Korea’s National Assembly on Wednesday. We note on Friday it is Veterans Day in the US, but stock markets will remain open.

Next week will see the US earnings season come to a close. While earnings were on average above expectations, market reaction was relatively muted reflecting the lofty valuations. However the European earnings season is still in full swing, and appears to be stronger than in the US with earnings-per-share growth in double digit territory.
The value of investments and any income from them will fluctuate and is not guaranteed (this may be partly due to exchange rate fluctuations). Investors may not get back the full amount invested. Past performance is not a guide to future performance. Unless otherwise attributed the views and opinions expressed are those of the fund manager at the time of publication and are subject to change. The content of this document is valid for one month from date of issue.

By Matt Meritt

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