MarketMinder Europe provides our perspective on current issues in financial markets, investing and economics. Our goal is to analyse key topics in an entertaining and easy to understand manner, helping you see the news of the day in a unique perspective.
Investing in financial markets involves the risk of loss and there is no guarantee that all or any capital invested will be repaid. Past performance neither guarantees nor reliably indicates future performance. The value of investments and the income from them will fluctuate with world financial markets and international currency exchange rates.
What to make of the US economy? Sentiment measures and many financial commentators we follow portray conditions as quite bad. In our view, the latest economic data are mixed, with two of this year’s stronger American indicators potentially showing some cracks in November. In our experience, the consensus view amongst commentators we follow is: Things aren’t good and are about to get worse, with many pencilling in an American recession (a period of contracting economic output) next year. We won’t deny that a recession is possible. But from an investing perspective, we don’t think a US recession is an automatic market negative, as our research suggests stocks care more about how expectations align with reality. In our view, the popular reaction to the latest November data suggests positive surprise may not be hard to achieve.
Starting with the “Personal Income and Outlays” report, where the US Bureau of Economic Analysis (BEA) announced real (i.e., inflation-adjusted) personal consumption expenditures (PCE) were flat in November, stalling after October’s 0.5% rise.[i] Goods spending fell -0.6% m/m whilst services spending ticked up 0.3%.[ii] PCE price indexes showed inflation slowed, as headline prices rose 5.5% y/y following October’s 6.1%.[iii] November was headline PCE’s first month below 6% since January this year, continuing the deceleration since June’s high of 7.0% y/y.[iv] A big factor: energy prices’ ongoing slowdown. Though PCE energy goods and services prices continued rising at double-digit rates (13.6% y/y in November after October’s 18.4%), they have decelerated considerably from June’s 43.6% clip.[v] But energy prices aren’t the only ones slowing, as core PCE prices (which exclude energy and food) eased to 4.7% y/y from last month’s 5.0%.[vi]
Separately, the US Census Bureau announced November durable goods orders fell -2.1% m/m, a reversal from October’s 0.7%.[vii] The widely watched nondefense capital goods orders (excluding aircraft)—also known as core capital goods orders and which corresponds to the equipment segment of business investment—rose 0.2% m/m.[viii] Several commentators we follow had a similar take on all these data: Inflation may be easing, which is positive, but consumer spending and business demand are softening, which is bad.
Steadfast. Iron-willed. Throughout the autumn, as Japan’s yen plunged to generational lows versus the dollar, officials at the Bank of Japan (BoJ) clung to a policy called yield curve control, whereby they set an official ceiling of 0.25% for 10-year Japanese government bond (JGB) yield.[i] As long-term interest rates globally rose this summer and autumn, the BoJ announced it would continue making “unlimited” bond purchases if necessary to prevent the 10-year yield from punching through the ceiling.[ii] When higher long rates outside Japan seemingly pulled investment from Japanese assets to their Western counterparts—weakening the yen—officials maintained the ceiling and used foreign exchange reserves to support the exchange rate.[iii] But that changed Tuesday, when the BoJ suddenly reversed course and loosened its capped rates, known also as an interest rate peg. 10-year JGB yields jumped, the yen strengthened and commentators we follow globally called it a game changer with global implications—the rate rise being just the tip of the iceberg.[iv] But we think a more sober, less-theatrical analysis reveals this wasn’t so huge a shift.
For one, we have long observed that pegs are seemingly made to be broken, so we think it shouldn’t be too surprising that BoJ Governor Haruhiko Kuroda and his colleagues took advantage of a recent global fall in long rates to make some tweaks and avoid the perception that it was surrendering to market forces (meaning, that speculators had forced its hand by trying to force rates higher).[v] At Tuesday’s meeting, policymakers raised the 10-year JGB yield’s allowed bandwidth to 0% plus or minus half a percentage point, effectively setting the ceiling at 0.50%.[vi] But lest you think this is some big pivot, they also upped their monthly JGB purchases from $55 billion (£45.4 billion) to $67 billion (£55.3 billion) per month.[vii]
Upon announcing the move, the BoJ cited concerns about market function—not a shift in its inflation outlook.[viii] Reading between the lines, we would guess policymakers are arguing they successfully beat the JGB market into submission when defending their peg earlier this year and that continuing to do so would now bring more risks than benefits, including difficulty pricing corporate bonds and other assets that use JGBs as a baseline rate. Increasing its JGB purchases—and leaving the policy rate at -0.10%—seemingly underscores its belief that even with the recent uptick, inflation remains too slow, with feeble monetary drivers masked by energy prices lately.[ix] Hence it remains committed to what it views as loose policy—negative rates and quantitative easing (QE) bond buying—which we would crudely summarise as indicating the monetary beatings will continue until morale improves. Banks will likely still struggle to lend amidst slim net interest margins (meaning, the small gap between their funding costs and the potential interest rate they can charge on new loans).[x] JGBs appear likely to remain in short supply for investors as the BoJ keeps adding to its huge holdings. And we think international investors will probably still see little to no reason to plop some money in the yen—not when all other comparable assets globally have much higher yields.[xi]
Based on the financial headlines we monitor, it seems 2023 can’t come soon enough for investors. Global stocks are down this month, and based on the latest sentiment gauges we have reviewed, wintertime blues are prevalent.[i] Down moods are understandable, but we think investors benefit from remembering feelings alone don’t predict the economy or stocks.
The recent spate of sentiment surveys in the US and Europe showed some minor improvements, but the picture still appears dour overall. Bank of America’s December fund manager survey found a majority of investors (68%) think recession (a broad, economy-wide decline in activity) is likely in the next 12 months, easing a bit from November’s 77%.[ii] A recent Bankrate poll noted about two-thirds of surveyed US adults don’t think their personal finances are likely to improve in 2023, with about 3 in 10 Americans anticipating their situation will worsen.[iii]
In the UK, research firm GfK reported its consumer-confidence barometer improved to -42 in December from November’s -44.[iv] Yet this was the 8th straight monthly reading of -40 or worse—a first since GfK’s records begin almost 50 years ago—as some slight improvement in their view of next year’s general economic situation didn’t prevent consumers from feeling down about their personal finances.[v] The Ifo institute announced German business morale was better than expected in December, with the gauge measuring feelings about the future rising to 83.2 from November’s 80.2, and though economists acknowledged the probability of recession fell a bit, a downturn is still the baseline forecast.[vi]
UK GDP (gross domestic product, a government-produced measure of economic output) for October hit the wires Monday, and in what we saw as a rather telling sign of sentiment, not many commentators we follow spent much time on it. In our experience, headlines would have typically bent over backward to explain that the 0.5% m/m rise stemmed primarily from the Queen’s funeral knocking September’s output, pushing it into October—as the Office for National Statistics stressed in its data release.[i] This caveat likely means October’s growth doesn’t much reflect the broader economy’s state, in our view. But this year, our research suggests economic trends aren’t the primary item weighing on sentiment. We think that honour goes to inflation (broadly rising prices across the economy), so we don’t find it shocking that the UK Consumer Price Index (CPI, a government-produced measure of goods and services prices across the broad economy) report for November stole centre stage. Whilst inflation slowed, commentators we follow warned much more pain is in store even if the inflation rate has passed its peak—with more Bank of England (BoE) rate hikes likely to come.[ii] In other words, the same forecasts we have seen all year. Yet against that sentiment backdrop, the UK is one of just four MSCI World Index constituent countries with positive year-to-date returns in local currency.[iii] In our view, this speaks volumes about how markets work.
We think it is fair to say things aren’t exactly going terrifically for the UK economy. GDP contracted in Q3, putting the nation back on recession-watch.[iv] BoE forecasts presume one is underway.[v] It was just one of four developed nations to contract in Q3.[vi] But unlike Japan, the Netherlands and Luxembourg—all of which grew at least 1.0% q/q in Q2—its slide followed meagre Q2 growth.[vii] Its year-to-date high inflation rate, 11.1% y/y, trails only Belgium, the Netherlands and Italy amongst developed nations.[viii] Inflation’s modest slowdown from that to 10.7% y/y in November hardly seems anything to celebrate, in our view.[ix] Yes, there was some relief on petrol and transit prices, but without seasonally adjusted monthly data, there are no granular trends to investigate, making it difficult for us to pin down where prices are slowing. So if you are looking at the data alone, we think it is easy to see why some are making a case for the UK as the latest proverbial sick man of Europe, a label given to a European country supposedly experiencing economic hardship.
But in our view, markets tend not to think in these terms. For one, our research suggests they are forward-looking. This means they pre-price widely expected events, opinions and forecasts well in advance. We have seen recession forecasts dotting UK financial headlines for over half a year now, which we think likely limits the power for actual GDP declines to surprise anyone. From our vantage point, high energy costs have similarly dominated the national conversation, seemingly rendering relatively faster inflation a foregone conclusion. In our view, the energy price caps that reset at higher levels in April and October likely make it easier to pencil in high costs, compared to other nations where the prices fluctuate more. When the data confirmed these bad expectations, markets seemed mostly to sigh and moved on, looking more toward the future—a future where even the biggest pessimists see growth resuming in 2024, which is now well within the 3 – 30 month range that stocks focus on, in our view.[x]
EU members agreed to a $60 per barrel price cap on seaborne Russian oil last Friday, following through on a US-led aim to limit, if not sever, financing sources for Moscow’s brutal war in Ukraine—without destabilising global oil markets.[i] The EU, Group-of-Seven nations (G7) and Australia implemented it Monday, although there is a 45-day transition period before it is enforced.[ii] Coverage suggests this “watershed” moment ushers in an “unpredictable new phase” for oil markets, with Turkey’s premature enforcement efforts getting wide attention from commentators we follow as alleged evidence.[iii] But in our view, there are few surprises here, as the cap has been under public discussion for months. Furthermore, it was set above discounted levels Russia reportedly sells oil at now—mainly to Chinese and Indian buyers, who aren’t even party to the agreement.[iv] Hence, we don’t see this changing much for markets.
Western governments first proposed a price cap this summer.[v] But only now, after hemming and hawing for weeks, has the EU been able to settle on a $60 ceiling for Russian oil delivered by ship.[vi] This filled in a key detail from the G7’s September plan, coming alongside the EU’s embargo on buying Russian crude, which has gradually taken effect this year.[vii] In practice, the new price cap bans Western companies from insuring, financing or shipping Russian oil bought above $60.[viii] That price level is subject to change and will be reviewed every two months starting in mid-January.[ix] Theoretically, it will be adjusted to stay at least -5% below average Russian crude oil prices—as tabulated by the International Energy Agency (IEA), not necessarily actual transactions, which are harder to track—if all 27 EU member countries and the G7 agree unanimously. Upon any change, there would be a 90-day grace period for ships at sea to comply.
Also note what the price cap doesn’t cover: Russian natural gas, which Europe is more dependent on (though it is growing less so).[x] Whilst a gas price cap is being discussed, talks have been contentious. EU meetings scheduled for 13 December could yield a breakthrough on this front, but energy ministers are reportedly far apart.
Last week, America and the eurozone announced a spate of price and jobs data—triggering plenty of analysis and discussion amongst commentators we follow about the implications for inflation (broadly rising prices across the economy) and future monetary policy. Here we round them up and highlight some tidbits we think are worth considering for global investors—after all, these areas together comprise about 78% of the global stock market.[i]
Energy’s Ongoing Impact on Eurozone Inflation
Eurozone inflation slowed for the first time since June 2021, hitting 10.0% y/y in November—below analysts’ consensus projections of 10.4% and down from October’s 10.6%.[ii] Amongst the main components, energy and services prices grew more slowly—easing from October’s 41.5% y/y to 34.9% and 4.3% to 4.2%, respectively—whilst the food, alcohol & tobacco category sped (from 13.1% to 13.6%).[iii] Core inflation (which excludes volatile energy, food, alcohol & tobacco prices) registered 5.0%, unchanged from October.[iv]
As stocks’ frustrating and disappointing 2022 winds down, we think it is worth noting that a few of this year’s market-related worries may be starting to fade. Globally, oil and gas prices are down—as we write, they have fallen about -40% from their high in USD this year.[i] Inflation rates in the US and eurozone are moderating.[ii] In the UK, long-term gilt yields are down as of late.[iii] Also pulling back from extremes: the US dollar, whose year-to-date rise versus a broad currency basket is down from 11.5% in late September to just 5.9%.[iv] Even the pound, which fell toward parity with the buck in late September, has strengthened lately, cutting the dollar’s 2022 gain against it from 26.0% to 11.1%.[v] In our view, this movement isn’t inherently good or bad for stocks. But financial commentators we follow have spun a lot of gloom about the strong dollar in recent months, and we think its easing should help quiet what has been another source of sour sentiment.
In our view, the dollar’s rise this year is more a symptom of global stocks’ woes than anything causal. Whilst global stocks haven’t breached -20% this year when measured in GBP, they have done so in the US dollar, making this year’s downturn a bear market from many investors’ vantage point.[vi] Typically, a bear market is a prolonged downturn of -20% or worse with a fundamental cause. In analysing market history, we have found it is normal for the dollar to strengthen during global bear markets as part of the general flight to quality mentality that can be abundant during market downturns. In our view, the dollar has also benefitted from the US Federal Reserve’s fast rate hikes and the rise in long-term US Treasury yields, as we find money tends to flow to the highest-yielding asset (all else equal).[vii] So to us, the dollar’s movement this year is nothing extraordinary, with the record high it notched in the process mostly trivia, in our view.[viii]
However, commentators we follow didn’t portray it this way. Whenever the dollar swings hard in either direction, we see many commentators argue it is a huge influence over the global economy and corporate earnings—usually a negative one. In the US, we see the weak dollar spur chatter about America’s trade deficit and rising import prices, alongside warnings that import-heavy US businesses will be unable to shoulder rising costs. Outside the US, we see commentators portray the weak dollar as a negative for exporters in the UK, Europe and Asia. On the other hand, a strong dollar usually prompts warnings that weak currencies in the UK, Europe and Asia will wreak economic havoc, as commentators have argued throughout this year. When the pound sank below $1.10 this year, hitting its lowest point since the mid-1980s, many commentators we follow warned it would spell disaster for the UK’s economy.[ix] Meanwhile, in America, many commentators we follow warn the strong dollar will make US businesses’ overseas revenues decline (since sales in foreign currencies will convert to fewer US dollars, requiring businesses to either take a hit on currency conversion or raise prices and withstand the blow of lower sales volumes).[x] We have heard this claim ad nauseam in the US since the summer. US-orientated S&P 500 earnings might have continued growing, but commentators we follow warned the pain was coming as companies exhausted ways to delay it.[xi]
Heavy industry is only a small slice of America’s economy and isn’t very representative, in our view.[i] But we think it is still worth a check-in, particularly when commentators we follow seem very dour about economic prospects in the world’s largest economy. Lately, we find many analysts disregard signs of improvement or interpret them negatively in a phenomenon we call the pessimism of disbelief. We have seen this attitude extend to manufacturing, but a review of recent data from the US reveals that, despite some mixed figures, factories there overall are contributing to growth.
Let us start with the most timely figures, the Institute for Supply Management’s (ISM) and S&P Global’s November US manufacturing purchasing managers’ indexes (PMIs). PMIs are business surveys that aim to tally the percentage of companies reporting higher activity in a given month. Both outlets’ US manufacturing PMIs fell below 50—indicating more respondents reported contraction than growth—with new orders (which we think are forward-looking because today’s orders are generally tomorrow’s production) also sinking.[ii] Is that a harbinger of worse to come? Perhaps, but we don’t think it is assured. Because PMIs measure only growth’s breadth, not its magnitude, ISM manufacturing’s dip to 49.0 from October’s 50.2 and S&P Global’s to 47.7 from 50.4 don’t necessarily mean falling output.[iii] If the majority of manufacturing firms surveyed see contraction, but the minority’s actual output is larger, growth could still occur overall—we will have to wait and see. Regardless, we caution against drawing big conclusions from any one data point, for good or ill.
Meanwhile, America’s regional PMIs, which represent a broad swath of US Federal Reserve branch districts, were mixed in November.[iv] (Note: Regional PMIs’ dividing line between contraction and expansion is zero.)
Last Friday, Germany released its revised estimate of Q3 gross domestic product (GDP, a government-produced measure of economic output), and its 0.4% q/q growth was better than the initial estimate announced in late October—which also beat expectations.[i] Whilst backward-looking Q3 growth doesn’t mean Germany will sidestep recession (a broad, economy-wide decline in activity), our review of recent economic indicators suggests reality has been faring better than most anticipated in financial publications we monitor. This type of positive surprise often underlies a stock market recovery, based on our research.
Germany’s initial GDP estimate doesn’t share industry or other component specifics beyond statisticians’ general commentary about what drove growth, but the revised estimate includes more details. As national statistics agency Destatis hinted at earlier, household spending was a key contributor, rising 1.0% q/q.[ii] The agency noted sharp price increases didn’t dissuade consumers from spending in Q3—especially on travel, with nearly all of the country’s COVID restrictions removed.[iii] Though gross fixed capital formation (a measure of investment that includes businesses and government entities) fell -1.4% q/q in construction, investment in machinery and equipment was up 2.7%.[iv] Trade was resilient, too, with exports (2.0%) and imports (2.4%) both up on a quarterly basis—a sign of solid external and domestic demand, in our view.[v] Considering these data are all adjusted for inflation (rising prices across the broad economy), activity appears to have held up despite high prices, in our view. On a sector basis, manufacturing output increased, as did most services industries.[vi] German Q3 GDP also climbed above its pre-pandemic level for the first time, which we think is a fun, if arbitrary, milestone.[vii]
In our view, the data are notable considering we have seen many economists argue Germany is on the precipice of a recession, if not already in one, primarily tied to the ongoing economic ripples from Russia’s invasion of Ukraine. Moscow responded to Western sanctions by throttling natural gas flows to Europe, hurting Germany in particular. Not only was Russia Germany’s top supplier pre-invasion, but the country depends on natural gas for energy and feedstock to power its large chemicals industry.[viii]
Last Friday, Germany released its revised estimate of Q3 gross domestic product (GDP, a government-produced measure of economic output), and its 0.4% q/q growth was better than the initial estimate announced in late October—which also beat expectations.[i] Whilst backward-looking Q3 growth doesn’t mean Germany will sidestep recession (a broad, economy-wide decline in activity), our review of recent economic indicators suggests reality has been faring better than most anticipated in financial publications we monitor. This type of positive surprise often underlies a stock market recovery, based on our research.
Germany’s initial GDP estimate doesn’t share industry or other component specifics beyond statisticians’ general commentary about what drove growth, but the revised estimate includes more details. As national statistics agency Destatis hinted at earlier, household spending was a key contributor, rising 1.0% q/q.[ii] The agency noted sharp price increases didn’t dissuade consumers from spending in Q3—especially on travel, with nearly all of the country’s COVID restrictions removed.[iii] Though gross fixed capital formation (a measure of investment that includes businesses and government entities) fell -1.4% q/q in construction, investment in machinery and equipment was up 2.7%.[iv] Trade was resilient, too, with exports (2.0%) and imports (2.4%) both up on a quarterly basis—a sign of solid external and domestic demand, in our view.[v] Considering these data are all adjusted for inflation (rising prices across the broad economy), activity appears to have held up despite high prices, in our view. On a sector basis, manufacturing output increased, as did most services industries.[vi] German Q3 GDP also climbed above its pre-pandemic level for the first time, which we think is a fun, if arbitrary, milestone.[vii]
In our view, the data are notable considering we have seen many economists argue Germany is on the precipice of a recession, if not already in one, primarily tied to the ongoing economic ripples from Russia’s invasion of Ukraine. Moscow responded to Western sanctions by throttling natural gas flows to Europe, hurting Germany in particular. Not only was Russia Germany’s top supplier pre-invasion, but the country depends on natural gas for energy and feedstock to power its large chemicals industry.[viii]
Investing in financial markets involves the risk of loss and there is no guarantee that all or any capital invested will be repaid. Past performance neither guarantees nor reliably indicates future performance. The value of investments and the income from them will fluctuate with world financial markets and international currency exchange rates.
This article reflects the opinions, viewpoints and commentary of Fisher Investments MarketMinder editorial staff, which is subject to change at any time without notice. Market Information is provided for illustrative and informational purposes only. Nothing in this article constitutes investment advice or any recommendation to buy or sell any particular security or that a particular transaction or investment strategy is suitable for any specific person.
Fisher Investments Europe Limited, trading as Fisher Investments UK, is authorised and regulated by the UK Financial Conduct Authority (FCA Number 191609) and is registered in England (Company Number 3850593). Fisher Investments Europe Limited has its registered office at: Level 18, One Canada Square, Canary Wharf, London, E14 5AX, United Kingdom. Investment management services are provided by Fisher Investments UK’s parent company, Fisher Asset Management, LLC, trading as Fisher Investments, which is established in the US and regulated by the US Securities and Exchange Commission.
If you have a £250,000 portfolio, download "The Definitive Guide to Retirement Income" as the first of our ongoing insights.
