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Leading US, UK and eurozone indicators portrayed a healthy global economy, even as stocks stuttered and political risk mounted.
Once upon a time, investors in the developed world used to worry about economics and leave politics well alone. Last week offered another reminder that much has changed in recent months, as a raft of positive economic indicators across the developed world contrasted with potentially historic ruptures in both domestic politics and international relations.
Most significant among the good news was Friday’s US payrolls report, which showed that jobs in the US in January rose by 227,000, significantly above expectations, albeit in the context of disappointing wage growth. The unemployment rate came in at 4.8%, up marginally but still very healthy.
Earlier in the week, the Federal Reserve left interest rates unchanged in a unanimous decision. It anticipates a few hikes this year, and inflation rising to its 2% target. In some ways, the rate inaction looks odd, given that growth, jobs and inflation are all on the rise – orthodoxy might imply a rate rise. But these are unorthodox times in the US, and the Fed may be waiting on the president’s tax, spending and protectionism decisions.
Those who believed that elected office and its constraints would tame Donald Trump have thus far been proved largely wrong. Last week the president’s policy shocks continued, as he appointed a eurosceptic ambassador to the EU, fell out publicly with the Australian prime minister over immigration, and fired the US Attorney General after she advised Justice Department lawyers to ignore his six-country travel ban.
The S&P 500 struggled, partly on immigration worries, ending up just 0.09% despite the Friday payrolls report, although Trump’s plan to cut regulatory time lags on drug approvals boosted health stocks.
Peter Navarro, the head of the newly-formed White House Trade Council, said last week that a trade priority of the new administration was to repatriate global supply chains on products sold in the US. Meanwhile Kevin Brady, the Republican Congressman leading preparations for an overhaul of the tax regime, said that his proposed US import tax would be ready for implementation later this year.
The US financial sector received a boost as Trump confirmed plans to review the 2010 Dodd-Frank Act, which imposed strict regulations on the sector. US bank stocks have outperformed in recent months.
Their European peers have not enjoyed quite the same boost, and last week there was more bad news for Deutsche Bank. Quarterly results showed a 44% dip in profits and a net loss of €1.4 billion for the year. Germany’s leading bank still faces hefty bills for mortgage misselling prior to 2008 and last week it was fined $500 million by US and UK regulators for a Russian fake trading scandal. Moreover, Deutsche said it was still in talks over the issue with other regulators. More fines may yet follow.
Politics continued to loom large across Europe. As leaders met in Malta, much of the focus was on Donald Trump’s Eurosceptic public comments – and the potential damage to both the transatlantic alliance and potentially to the future of the EU. European leaders chose to take a strong line, criticising Trump’s comments.
Moreover, election risk was potentially raised due to a financial scandal that may yet end the presidential hopes of Francois Fillon, France’s Republican candidate. Fillon, a free market conservative, was formerly viewed as a shoo-in to beat Marine Le Pen, leader of the eurosceptic Front National, his expected opponent in the two-candidate presidential runoff that takes place in May. Emmanuel Macron, a Socialist Party figure standing as an independent, may yet benefit as a result. French bond yields have risen due both to the spike in political risk and concerns over inflation. The Eurofirst 300 ended the week down 0.72%.
Brexit vote #2
In the UK, economic indicators showed that manufacturing in January had grown at its fastest rate in more than two years, although input costs also rose. Outbound shipments of goods have risen steadily since the pound’s post-referendum fall, although the UK tends to export high-quality goods, which are relatively price-insensitive. The Markit-CIPS report for the services sector showed it had lost some momentum in January, following the strong end to 2016, although it remains positive, and consistent with a healthy growth rate of 2% annually. The FTSE 100 was effectively flat, rising just 0.05%, buffeted by political and corporate news. (Among leading indices, the Nikkei 225 was the laggard, slipping 2.8% as the yen rose against the dollar.)
The Bank of England chose to leave interest rates on hold at 0.25% and raised its economic growth forecast for 2017 to 2%. In line with the manufacturing indicators, the central bank also raised its inflation forecast.
Even after the relatively subdued inflation of recent years, investors have been significantly affected, according to a report published by Royal London last week. According to the study, a sum of £1,000 deposited in cash ten years ago would now be worth less than £900. Had the same £1,000 been invested in shares, bonds and property, it would be worth £1,500 today. The report noted that many savers switched to cash in the wake of the global financial crisis – a case of allowing fear to drive investment decisions.
MPs last week voted to allow Theresa May to trigger Article 50 of the Lisbon Treaty, giving her carte blanche to go ahead as planned at the end of March. The vote was easily won and may have done more damage to the Labour Party than anyone else. Nevertheless, the EU could dig in its heels over the UK’s €40-60 billion exit fee, warned the UK’s former ambassador to the EU, Sir Ivan Rogers.
David Davis also chose the Commons debate on Article 50 as the moment to publish the government’s White Paper on Brexit. The paper laid out priorities on immigration, market access, legal supremacy and more, but also left plenty unclear. JPMorgan was quick to express its disappointment: “the shallowness of the analysis and absence of detail are matters of great concern, in our view…the plan as constituted cannot be delivered…[multinationals] may choose to vote with their feet.”
Despite worries over rising protectionism, several multinationals reported good earnings. Apple returned to revenue growth after several months without, thanks to revived iPhone sales and an expanded services offering. Amazon said it will spend $1.5 billion on a new US air transport hub – the expansion of its delivery demand means the likes of FedEx and UPS can’t meet all its needs. There were good results for Philip Morris, and investors were impressed by Reckitt Benckiser’s plans to buy Mead Johnson, a baby food manufacturer, and by Shell’s plan to sell its North Sea holdings for $3.8 billion, part of a larger divestment drive.
Some retail names suffered, among them Under Armour and Abercrombie & Fitch (A&F), but some investors believe the latter still retains good long-term potential.
“A&F is one of the cheapest retail brands globally in our view, and it’s going through a restructuring just now,” said Kevin Beck of Paradice Investment Management. “We see a lot of strong growth dynamics online but they are still having to rationalise their store footprint at the same time. [And thanks to] a 5-6% dividend, we are getting paid to wait.”
Paradice Investment Management is a fund manager for St. James’s Place.
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