Weekly View – Christmas in January
The CIO office’s view of the week ahead.
US equities recorded their best January performance in over three decades, with the S&P 500 up close to 8%. The market has been helped by the decision by Fed chairman Jerome Powell to step back from ‘quantitative tightening’, putting rate hikes on hold and contemplating an early end to balance sheet reduction. A number of factors explain this new dovishness: fears about global growth, the absence of inflation pressure and evidence that financial conditions remain tight.
The ‘Powell put’ (together with indications that the market was oversold) compensated for a fourth-quarter earnings season that was the worst in several years for S&P 500 companies. The result of the Fed’s new-found dovishness has also been a faltering dollar, which has helped emerging markets (EM) and justified our turn towards EM bonds and currencies. Further progress in risk assets may depend on a bottoming of the slide in earnings expectations and more fundamental factors, such as economic data. However, the Fed (and market participants) will face a dilemma if Friday’s upbeat nonfarm payroll and manufacturing figures set a trend. Continued strong data would again strengthen the case for rate hikes, in spite of Powell’s argument that the Fed fund’s rate is close to neutral. The worry now for markets is that Powell might be forced to turn back toward policy ‘normalisation’. And yet the Fed’s concerns about global growth are not about to be put to bed: there is still a gap between strong US manufacturing data and weaker manufacturing data elsewhere.
With downside risks to our 1.4% GDP growth forecast for the euro area, we are also looking at the worrisome drop in economic momentum in some countries, most notably Italy and Germany. The European economy could stabilise in the months ahead (helped by fiscal stimulus, especially in Germany), but Europe faces many risks ahead, not least from Brexit and renewed political instability in Italy. There is also a fear that trade peace with China will allow Trump turn his attention to European car tariffs—especially as EU countries attempt to manoeuvre around Iranian oil sanctions.
César Pérez Ruiz, Head of Investments & CIO