Tom Elliott’s fortnightly look at global financial markets

  • Recent stock market falls are from cyclical and/or all-time market highs, with light summer trading exaggerating sell-offs
  • All eyes are on this week’s Jackson Hole meeting of central bankers: will the Fed tighten monetary policy through tapering its asset purchase program?
  • Global GDP growth estimates are being downgraded, as the recent U.S and Chinese economic data disappoints
  • The U.S dollar is benefiting from speculation of Fed tapering and the currencies ‘safe haven’ status
  • The Bank of England is on hold until the autumn

Market sentiment: Uncertainty crept back in last week, with the FTSE All-World index down nearly 2% last week. However, this is after a recent all-time high for the index and brings the index back to levels seen in late July. Reassuringly, the risk of inflation and higher bond yields appears much lower than it did only a few months ago. This goes a long way to explain the rally in Treasuries and other core government bonds since March, but also the resilience of ‘long duration’ tech stocks that are particularly sensitive to inflation and higher borrowing costs. Indeed, the share prices of Apple, Facebook and Alphabet (ie, Google) are all near recent all-time highs.

Investors in multi-asset portfolios appear likely to continue to benefit from the diversification of risk that comes from investing in bonds, equities and other asset classes. Particularly if economic growth can be sustained in the U.S and elsewhere, without an embedded inflation problem emerging.

Why the market uncertainty? The almost perfect alignment of stock market-positive themes, that have contributed to strong returns so far this year, is now looking a little less convincing. The most significant worry is that the Fed begins to taper its $120bn a month asset purchase scheme, just as U.S and global economic growth prospects are downgraded in part because of the lingering effect of Covid-19. In recent weeks U.S consumer confidence, and July retail sales, both came in below expectations. Meanwhile, New Zealand and Australia are introducing fresh lockdown measures. Commodity prices (and commodity-dependent stocks and currencies) have borne the brunt of the recent sell-off.

All eyes are on this week’s Jackson Hole meeting of central bankers, where Fed chair Jay Powell is expected to clarify Fed policy.

There is also concern over China-related stocks, as Beijing continues to exert control over Chinese tech companies, and the pace of economic growth slows. Chinese retail sales in July fell for the seventh consecutive month. Furthermore, investors are aware that the period of peak corporate earnings recovery may be over in much of the western world.

However, we should bear in mind that stock and credit markets are often skittish in the northern hemisphere’s summer holiday period. Low trading volumes exaggerate the impact of what trading does take place, while new funds coming into institutional investors (such as pension contributions and insurance premiums) may be parked in cash until September when investment decision making returns to normal. And, as mentioned above, we should remember that many stock markets are coming off recent cyclical, or all-time, highs.

Currencies. The U.S dollar is at an eleven-month high on a trade-weighted basis, as hints of Fed tapering push the greenback higher. In contrast, the euro’s weakness in recent months reflects the ECB’s continued commitment to loose monetary policy. Commodity-dependent currencies, such as the Canadian, Australian and New Zealand dollars, appear vulnerable to downgrades of global GDP growth estimates. But those currencies with relatively little commodity exposure, and with ‘safe haven’ status, such as the Swiss franc and the yen, appear well placed in the current environment.

Sterling. The August meeting of the monetary policy committee of the Bank of England appeared to deliver a more hawkish stance, in response to evidence of a strong economic recovery so far this year. But this should not be overstated, the statement was hardly a rallying cry for tighter monetary policy (eg, the entirely reasonable and obvious statement that: ‘Some modest tightening of monetary policy is likely to be necessary over the next two years). And who can blame it for couching its language? By October we will have a better picture of how the U.K economy has adjusted to the ending of Covid-19 support measures, such as the furlough scheme, and the stamp duty relief on property purchase. Until then, we can expect any moves in sterling to be more a function of overseas central banks’ policy, than that of the Bank of England.

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