Market Bulletin: Frankfurt – frugal or festive?
The fact that Mario Draghi duly lowered rates and extended QE ended up getting less attention than the disappointment felt on markets.
Investors can forget all too easily that central bank decisions are not necessarily designed to please them, or even to fulfil the consensus expectations of markets.
Perhaps, then, it should come as no surprise that, somewhere between Mario Draghi’s advanced signalling and market participants’ interpretation of that telegraphing, the European Central Bank’s plans for December 3rd got lost in translation. As a result, what should have been broadly positive news for most equity and bond investors ended up disappointing markets by not going further.
Second-guessing the precise details of central bank policy is a fool’s errand, but the broader direction of travel was already becoming clear ahead of last Thursday’s press conference. In essence, the ECB is determined to offer eurozone growth a helping hand. So it was that the deposit rate was dropped by ten basis points to -0.3%, the bank’s €60 billion-a-month bond-purchase programme was extended for a minimum of six months (to March 2017), and more asset purchases were promised.
Some investors had hoped too far – combined with falls for oil stocks, this brought the FTSEurofirst 300 Index down 3.6% over the course of the week. But amid the disappointment, there were also acknowledgements that the bank might want to leave itself some policy slack for the future. Besides, eurozone indicators more broadly are hardly doomsday material.
“Draghi can perhaps be accused of building himself up too much as ‘the man who never disappoints’; and the media for exaggerating his ability to push the boundaries of central bank policy,” said Stuart Mitchell of S. W. Mitchell Capital. “But the European economy is already beginning to recover really quite nicely and the cost of money has already fallen to very low levels right across the eurozone. We just have to wait patiently for the effects of the lower oil price and weaker euro to work their magic, but eurozone equities remain very good value.”
On Tuesday, an official data release showed eurozone unemployment at 10.7%, its lowest level in almost four years. Unemployment in Germany, the eurozone’s dominant economy, fell to 6.3%, its lowest level since reunification in 1990, boosted by domestic demand. In France, services figures were less encouraging, but business growth reached a five-month high. Such signs of growth doubtless fed into ECB thinking; so too, perhaps, did complications around inflation. The primary mandate of Europe’s chief central bank is to keep inflation just below 2%. Last week it came in at just 0.1%, which appears worryingly low.
The reality is less simple. This year’s price plunges for oil and commodities – which often reflect global supply trends more than local demand – have driven the dip in inflation. No wonder central banks and economists also look at core inflation, which strips out such volatile contributors as oil and metals – last week’s reading for eurozone core inflation was 0.9%.
Inflation figures can also be distorted by timespans. Standard inflation measures tend to compare prices to where they were a year earlier. But the major oil and commodities price declines began in the third quarter of 2014, only losing steam in January this year.
That means oil and commodities declines continue to drive – and arguably distort – today’s inflation numbers. But on current trends, eurozone inflation numbers should start to look very different in 2016, as oil and commodities prices exert far less downward pressure. At that point, the kind of ECB ‘extreme easing’ many on markets had hoped for could even start to look unwise.
On another track
In the US, Mario Draghi’s opposite number painted a very different picture of her own policy intentions. Speaking to the US Congress’s joint economic committee, Janet Yellen underlined that unemployment had dropped to 5% and that economic growth indicators were positive, and sounded upbeat notes about America’s inflation trajectory. “I currently judge that US economic growth is likely to be sufficient over the next year or two to result in further improvement in the labour market,” said Yellen. “Coupled with my judgment that longer-term inflation expectations remain reasonably well-anchored, [these two trends] serve to bolster my confidence in a return of inflation to 2%.”
On Friday, US payrolls data provided a further boost, with figures showing a further 211,000 jobs added in November. Data published on Wednesday showed that nonfarm productivity in the US economy rose 2.2% in the third quarter (annualised) – better than expected. The S&P 500 struggled a little midweek, and ended the week down 0.83%.
US markets are not without headwinds. The number of companies worldwide to default on their debt this year has entered triple figures for only the second time in more than two decades –a significant proportion have been US shale companies harmed by the falling oil price. After a meeting in Vienna on Friday, the Organization of the Petroleum Exporting Countries (OPEC) indicated that it would not cut oil production – the usual way to increase prices. Brent Crude ended the week down 1.4% at $43.24 a barrel.
China notched up another symbol of global recognition last week as the International Monetary Fund formally added the country’s currency, the renminbi, to its basket of ‘special drawing rights’ currencies. Amid talk of the IMF moving too early due to political pressure, the decision to include the renminbi is likely to contribute to the currency’s global stability – and to encourage Beijing to pursue a less idiosyncratic currency policy.
In a trend now becoming markedly familiar, the official manufacturing indicator last week showed a contraction while the country’s services indicators did the opposite. But the independent Caixin manufacturing index – sometimes viewed as less vulnerable to political interference – showed an improvement. Chinese markets were buoyed by these various pieces of news, although the Shanghai Composite’s five-day rise was less than half a percent.
As China’s pace of growth continues to slow, the attention of markets is turning increasingly to India. Last Monday, India’s official GDP growth forecast for the fiscal year 2015/16 came in at 7.4%, above China’s official forecast for its own growth. Meanwhile, the interest rate was left at a four-year low and it was confirmed that the first ‘masala bonds’ would launch in January, beginning in London. (Masala bonds are rupee-denominated bonds issued abroad – the British equivalent is called a ‘bulldog bond’.)
Japan saw improved retail sales and output figures published on Tuesday, adding to confidence that its technical recession will prove to be little more than technical. (Last week a number of economists raised doubts over whether Japan had in fact entered recession after all.) But retail and output upticks were not spectacular and investors on the Nikkei remained focused on events abroad. The Nikkei 225 dropped 1.91% over the course of the week, in great part due to disappointment at the ECB package.
In the UK, climate talks in Paris and a vote on bombing ISIS/ISIL targets in Syria dominated column inches, while markets remained more subdued, watching Thursday’s ECB press conference closely. A Bank of England stress test on UK-based banks was significant for returning positive results, but the FTSE 100 ended the week down 2.15%. Perhaps the most significant corporate news of the week came from the mouth of James Murdoch, son of Rupert Murdoch, when he indicated that the family might reduce its controlling stake in Sky.
S. W. Mitchell Capital is a fund manager for St. James’s Place.
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