A tipping point as monetary policy shifts
Central banks on both sides of the Atlantic appear to be becoming more hawkish
In recent weeks, policymakers at each of the US Federal Reserve, Bank of England and ECB have become notably more hawkish. This is a new development as throughout the period 2010-2017 central bank balance sheets have been steadily expanding as the quantitative easing (QE) baton was passed around the globe. With asset prices rising strongly over this period many commentators have been quick to infer that the end of QE signals market trouble ahead. While certainly a headwind, we believe investors should not rush to judgement. There remain many acts to play out in this story before it is finished.
Read more...Equity risks are rising: economic surprises turning lower
Economic surprise turns lower and positive earnings momentum easing in Europe
We are viewing with increasing concern the building evidence of disinflation in industrial commodity and energy markets. Economic surprise indices have turned sharply lower on a global basis, a move which cannot be fully explained by seasonal factors. In this context we were surprised by the relatively hawkish recent policy statements by the US Federal Reserve and Bank of England. For the US Fed, it was very much a case of one and not done at the recent FOMC meeting, where US rates were increased again. For now, earnings growth forecasts near 10% for each of the US, UK and continental Europe remain intact but we also detect ebbing momentum in this data compared to 6m ago.
Read more...Fed rate decision: One and done - or not done?
One and not done would spook markets in our view
On Wednesday 14 June, we believe the US Fed is highly likely to raise the target range for the federal funds rate by a further 0.25%. We believe the opportunity the move policy rates further away from the zero “lower bound” will not easily be passed-up as US unemployment figures improve and as importantly without spooking markets, which have priced this move in. However, a signal of “one and done” for 2017 – or at least “one and wait and see” will be critical to keep markets buoyant. In addition, investors will be watching for benign comments in respect of any adjustments to the Fed’s balance sheet policy.
Read more...UK election: Another step-up in political risk
A tactical blunder does not mean the end of Brexit or the Conservative administration
UK PM Theresa May’s strategy of consolidating power when the Labour opposition was seemingly in disarray and the Conservative poll lead unassailable has seriously backfired. The likelihood now is that the UK will be governed by a minority Conservative administration with support from the Democratic Unionist Party (DUP). May’s future as leader of the Conservative party remains in serious doubt following a number of campaign mistakes, not least the failure to recognise importance of appeasing the older voter. Much now remains open for debate over the next few weeks.
Read more...Volatility: Low, but downside protection in demand
We struggle to understand why market volatility has fallen so far in 2017
One of the notable aspects of equity market performance during 2017 has been the rapid fall in market volatility. Trailing 90-day realised volatility for the S&P 500 has reached 7% in recent weeks. Over the last 20 years, these are levels are matched only during a brief period over 2005-2006. We do not see an especially strong parallel with 2005 as at that point US equities were still moderately valued and the US economy was expanding after a mild recession. We believe investors are once again becoming complacent; but also note the skew towards higher priced put options suggesting within the options market at least that downside protection is at a premium.
Read more...Earnings forecasts: a short-term support for markets
Rising estimates notable in continental Europe
While economic surprise indices may now be rolling over, US earnings forecasts for 2017 are effectively unchanged since January. In the UK and continental Europe forecasts have risen relatively sharply since the start of the year, reflecting in the UK a continued tailwind from sterling weakness and in continental Europe the long-awaited improvement in economic activity.
Read more...