The US S&P 500 index ended broadly flat for week, rising 0.1% as of 12pm London time as positive earnings results, particularly from financials, were countered by a sharp fall in the oil price on Monday and a hawkish testimony from the chair of the US Federal Reserve (Fed), Jay Powell. Mr Powell said, “for now”, the Fed continues to believe that gradually raising rates remains the right course of action. This led the US dollar index, a comparison of the US dollar to a basket of internationally traded currencies, to climb to its highest level in over 12 months. This upward rise was only broken by President Trump saying that he is “not thrilled” by the Fed’s rate rises, and the strong dollar “puts us at a disadvantage”, halting the rally in its tracks.
However, the damage was done for Emerging Markets, which have become very sensitive to the rise in the US dollar, particularly impacting those countries reliant on international flows to fund current account deficits. The MSCI Emerging Markets index fell 1.4% over the week, as did emerging market currencies, which in aggregate, fell to their weakest level versus the dollar since the beginning of 2016.
The emerging markets were also not helped by Larry Kudlow, US National Economic Council director, who said on Wednesday that negotiations between the US and China aimed at defusing trade tensions had stalled, and in his opinion, it is the Chinese president who is holding up a deal between the two countries. Chinese equities fell, with the Hong Kong Hang Seng index falling 1.1% over the week, and China’s currency, the renminbi, falling to its lowest level versus the dollar in a year.
However, falling currencies were not all bad news for stock markets this week. Sterling sold off sharply this week, initially due to Prime Minister Theresa May only narrowly defeating an attempt by pro-European Conservative MPs to keep the UK in a customs union with the European Union, by 307 votes to 301. This was followed by inflation readings for June falling short of expectations, with core inflation (excluding energy and food) falling to 1.9% for the year. Weaker than expected retail sales data for June, also sent the pound briefly below $1.30 for the first time since September 2017, as sales declined 0.5% month-on-month. The weak figures have prompted some to question the likelihood of an August rate rise by the Bank of England’s Monetary Policy Committee, however, markets are continuing to price in an 82% probability of a 0.25% rate rise. The UK stock market, however, managed to remain flat for the week, despite the poor news, as sterling weakness flattered earnings expectations for internationally listed companies on the London Stock Exchange.
Japanese equities also benefitted from Yen weakness, and dollar strength, with the Topix index climbing 0.9%. However, despite the euro weakening a little versus the dollar, the Eurostoxx 50 has fallen 0.4%.
The Australian S&P/ASX 200 finished the week trading 0.3% higher, with the energy and materials sectors being the only notable drags on the index. These sectors came under pressure after commodity and base metal prices suffered amid ongoing trade tensions between the US and China. Energy and Materials stocks ended the period lower by 2.2% and 1.2% respectively.
Meanwhile in economic news, the Australian dollar jumped up 0.5% yesterday to US $0.7431, as employment data showed the Australian economy created 50,900 jobs in June far exceeding the forecast of just 17,000.
Oil fell sharply on Monday, following reports that Libya is reopening ports for exports, just at the point that Saudi Arabia has pledged to supply extra oil, to alleviate pressure on rising prices.
Brent crude fell 4.6% on Monday, before closing at $71.87 a barrel. After a choppy week, it is now trading at $72.64 a barrel, whilst US WTI (West Texas Intermediate) is trading at $69.87. This left the energy sector as one of the worst performing over the week.
Despite lead indicators suggesting that the global economy is enjoying a gentle pickup in growth, there are a number of factors causing concern to investors. Top of the list is undoubtedly the extent to which President Trump’s trade war escalates. Firstly, although the world can stomach the tariffs that have been instigated so far, a significant escalation runs the risk of increasing inflation in the short term, whilst dampening demand further out, benefitting no one.
Secondly, how much of the pickup in growth can be attributed to companies’ front running the introduction of tariffs? No one is quite sure, but the implications are a subsequent slowdown.
Thirdly, the continued grind up in US interest rates continues to be a concern to markets, especially whilst the US dollar is strengthening. This is further compounded by the Fed undertaking quantitative tightening (opposed to easing), with an acceleration in this process due in the second half of the year. However, we continue to believe that the rise in rates to date has been appropriate given the moderate inflationary pressures that the US economy is experiencing, rather than an attempt to choke off inflation. In addition, although this is draining liquidity away, it is countered by fiscal stimulus through US tax cuts.
Discover how to turbo charge your savings.
Download your FREE Expat Savings Guide now!