Economy | Emerging PMIs give reason for hope
The improvement in manufacturing activity reported across much of the major emerging economies last week suggests the global economic recovery is continuing. Barring India, many large emerging nations reported purchasing managers’ indexes (PMIs) that showed either an increase in production and orders or an improved outlook. From Russia to South Africa and east to Indonesia, PMIs showed improvement in both domestic and foreign demand. Even Turkey, which experienced heavy selling in the August market rout, reported a much-improved outlook.
From an investment perspective, this makes us more optimistic about the outlook for the global economy as a whole, since the emerging world is inextricably linked to developed markets through trade.
Equities | Eurozone shares to benefit as ECB loosens
The latest eurozone inflation (0.7%) and unemployment (12.2%) figures stressed that more easing is needed from the European Central Bank (ECB). We think the ECB will eventually deliver, which should be supportive of our positive view on European equities.
The ECB’s long-term refinancing operations (LTROs), introduced at the height of the region’s debt crisis, are now being repaid and excess liquidity is being withdrawn, which is resulting in tighter lending conditions. One consequence of this is that the euro has appreciated significantly against the dollar (see currency comment opposite). This makes eurozone exports less competitive and reduces inflation.
Another factor that’s likely to keep inflation very low is the large amount of slack built up in the eurozone economy, which is evident in the record 12.2% unemployment rate. We expect a new LTRO programme in the first quarter of 2014 and think the ECB will stand ready to deploy further measures if the recovery falters. Inflation staying below target for an extended period will help the ECB to stay accommodative.
Bonds | ECB hints at rate cut as inflation falls
It was a week that reshaped expectations. Very weak eurozone inflation was followed by an ECB official strongly hinting at an interest-rate cut at the bank’s next meeting on Thursday. This helped 10-year European bonds rally across the board, pushing yields in Italy, Spain and France nearly a tenth of a percentage lower. At 1.7%, German 10-year bunds are pushing towards the middle of the range (1.25-2%) we have predicted since March, so we would continue to hold this debt, and that of Ireland, Italy and Spain. The move also relieves some of the pressure building from uncertainty over the outcome of the banking Asset Quality Review.
The US Federal Reserve’s statement following its meeting this past week reopened the conversation on scaling back stimulus, denting long-dated government bonds. But we don’t yet read too much into the comments as we suspect future data might be more mixed.
Currency | Euro and dollar trading places
The euro reached close to a two-year high against the dollar, with investor optimism having traded places from the US to the eurozone. We noted in a blog last week that it may be time to buy dollars again if sentiment toward the US and its economy recovers, as we expect.
The dollar did indeed make a comeback later in the week on the combination of very strong Chicago PMI and dovish ECB talk. Further gains may be limited into the New Year, as worries about the debt ceiling will again rear their head, and give our view that any Fed tightening is still months away. But we see the tide turning in the dollar’s favour.
Key data and events this week
|Wednesday||Bank of Japan policy meeting minutes|
|Thursday||Bank of England & ECB rate decisions
US gross domestic product
|Friday||US non-farm employment change
US Personal Consumption Expenditures inflation
Univ of Michigan consumer sentiment
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