Insight Investment’s global economic outlook for the week ahead (week beginning 22 October 2018)
The multi asset team at Insight Investment notes: A busy earnings season in the US, review of Italy’s sovereign ratings and top-tier data releases will be in focus.
As the US earnings season gathers pace, major companies including Amazon, Verizon, Microsoft and Caterpillar are scheduled to report this week. With 56 firms reporting so far (roughly 14% market cap), expectations for earnings growth have increased to 22% from a pre-season level of 20%. Corporate buybacks remain a strong tailwind for US earnings and the theme is set to continue this quarter. Management guidance remains above the historical average. However, any management guidance on the potential impact of tariffs for 2019 outlooks will be vital.
Away from this, October PMIs and advance Q3 GDP prints are scheduled to be released this week.
Italian budget discussions and credit rating review hold the key to market sentiment in Europe. Staying with Europe, the European Central Bank (ECB) is set to meet on Thursday. Although no change is expected in policy rates, the meeting is likely to be closely watched for more colour on how the ECB will reinvest maturing quantitative easing (QE) proceeds after the expected end of QE in December this year. In terms of data, the provisional October PMIs are due to be released on Wednesday. The market will be hoping that the recent stabilisation trend in Europe has been maintained.
Brexit negotiations and reaction to the latest extension on the transition period will continue to dominate proceedings. The budget vote will be vital in deciding the future of the current government and consequently the broader Brexit debate.
Summary of last week: Market and economic review
- A volatile week for risk assets as investors asses macroeconomic conditions and the US earnings
- Sharp sell-off in Italian assets as the European Commission looks set to reject the proposed Italian budget
- Chinese central bank promises to ease financial conditions as the domestic equities hit multi-year lows
Volatile week for equity markets
It was a week of two halves in the US for equities. It started positively due to upbeat earnings reports and benign September inflation data. Risk assets rallied significantly on Tuesday boosted by positive earnings reports from a variety of sectors including healthcare, financials, technology and transport. Netflix was a particular highlight, which beat expectations with strong earnings and a sizeable increase in the subscriber base. In response, the stock rallied 16% in after-hours trading. In financials, Goldman Sachs and Morgan Stanley reported strong numbers resulting in their stocks surging by 3% and 6%, respectively.
As the week progressed, elevated yields and the ongoing sector rotation from cyclicals to defensives dampened the risk tone. Global political developments including the alleged murder of the Saudi journalist and the subsequent withdrawal from the Riyadh investment conference by Treasury Secretary Mnuchin did not help the risk sentiment. The US Federal Reserve (Fed) published the September Federal Open Market Committee meeting minutes on Wednesday, signalling a broad confidence in the strength of US economy. The minutes also reaffirmed the Fed’s current forecast of three hikes while the market is currently pricing two. The US yield curve steepened marginally over the week with the 10-year trading around the 3.2% level.
China – respite for domestic equities as the Central bank intervenes
As domestic stocks continued to falter in early hours of trading on Friday, central bank officials in China moved to shore up investor confidence. The Chinese central bank tried to downplay the weakness in recent GDP data, while emphasizing their confidence in longer-term fundamentals. They are currently studying measures to ease financing difficulties for companies and are willing to use monetary policy tools to support credit expansion. In response, Chinese equities reversed their losses and closed 3% higher.
Earlier in the week, the US Treasury published its semi-annual report on foreign exchange practices. Although it refrained from labelling China a currency manipulator, the report did emphasize concerns about recent weakness in the renminbi.
Italian budget – the debate escalates
The first draft of the Italian budget law was presented to the European Commission earlier this week, which led to a confrontational exchange between Rome and Brussels. The initial response from the European Commission was broadly negative, pointing towards a rejection of this draft. Reacting to this, Italian yields rose to 3.68%, their highest level since February 2014.
As the political debate heats up, an additional factor which will keep Italy in the news is its imminent rating review. The current consensus is for a one-notch downgrade with stable-to-medium-term outlook. Any further downgrades to its rating or outlook could result in an aggressive sell-off in Italian assets.
Brexit negotiations – a longer transition being discussed
Earlier last week, the UK Prime Minister acknowledged her willingness to accept a provisional transition period extending beyond the initially agreed deadline of December 2020. The underlying logic, which defends this extension as a necessary means to avoid any border issues in Ireland, failed to appease hard-line Brexit supporters. The upcoming budget vote holds the key for the current government, where coalition partner DUP could potentially act on their previous threat of withholding support.
Economic releases – inflation data remains relatively benign
The highlight of the week was the UK average hourly earnings release, which surprised to the upside, rising at its fastest pace since January 2009. Subsequently, the September CPI reading, printed below consensus, highlighting that wage growth is not yet feeding through in higher inflation. In Europe, final September CPI releases came in-line with expectations at 2.1% yoy.
