A bright ending to the summer in equity markets
In September, global equity markets notched up their eleventh consecutive month of positive performance.
The MSCI AC World (in USD terms) gained 1.8%, bringing its year-to-date performance to 15.4%.
Although the returns of emerging market equities stalled in September (the MSCI Emerging index slipped by 0.6% in dollar terms), they are still up by 25.5% year-to-date.
We see several factors contributing to the changes in equity prices during September.
First of all, investors were reassured by the UN Security Council’s management of the North Korean crisis following North Korea's most recent provocations (nuclear tests and the firing of ballistic missiles over Japan) and the US response (bombers flying over the North Korean coast). This pushed geopolitical risk to the back-burner, at least for financial markets.
Exhibit 1: Global equity markets notched up their 11th consecutive month of gainsSource: Bloomberg, BNP Paribas Asset Management, as of 29/09/2017
Equity markets: politics and economics support sentiment
President Trump and Congressional Democrats managed to make headway on several fronts, including raising the debt ceiling until December and releasing emergency assistance for Hurricane Harvey victims. This gave investors more confidence in the proposed business and individual tax cuts, which the US administration has described as very ambitious.
Trends apparent in the wake of President Trump’s election last November – an equity rally, particularly in US small caps, and higher bond yields in anticipation of stronger growth and an acceleration in inflation – appear to be back.
Economic indicators are still solid, particularly in the eurozone. Oil prices moved back up (+9.3% by WTI to USD 51.60/bbl.), more than making up the ground they lost in August.
Strong outperformance of eurozone equity markets
On top of solid economic data and indications of further accommodative monetary policy from the European Central Bank (ECB), European equities got a boost when the euro stopped strengthening versus the US dollar (weakening by 0.5% on the month). Eurozone equities outperformed the other major stock markets, with the EURO STOXX 50 up by 5.1% over the month. Cyclical stocks did particularly well, while those sectors exposed to interest rates (telecommunications, real estate and utilities) underperformed.
Bank stocks got a boost from rising bond yields and a re-steepening of the yield curve. The DAX gained more than 6% despite a disappointing showing in legislative elections by Angela Merkel's centre-right CDU/CSU alliance, which will now have to seek new coalition partners.
Exhibit 2: A strong rebound for stocks in the second half of SeptemberSource: Bloomberg, BNP Paribas Asset Management, as of 29/09/2017
In the US, the S&P 500 gained 1.9% and ended September at an all-time high, above 2 500 points. The energy sector outperformed by far, tracking the oil price rally. Financial stocks got a big boost from the slight re-steepening of the yield curve, while prices of utilities fell in response to the prospect of higher interest rates. Cyclicals, including consumer and IT stocks, stalled. Small caps outperformed, with the Russell 2000 up by 6.1%.
In Tokyo, after a tentative start to the month due to the situation in North Korea, the Nikkei 225 gained 3.6% from end-August, driven by the depreciation in the Japanese yen (down by 2.2% versus the US dollar). Cyclical and export-driven sectors outperformed.
The US dollar strengthened over the month
The rally in the EUR/USD since late April, which had already shown signs of running out of steam in August, corrected in September. The exchange rate at first hovered, directionless, at around 1.20, even making a brief foray above this level in the wake of the ECB governing council meeting of 7 September despite the accommodating tone of Mario Draghi's comments. The ECB president suggested that the recent volatility in exchange rates was considered a “source of uncertainty”, which is putting it mildly.
Speculative positions overweighting the euro declined, but remained consequential, suggesting to us that investors are waiting. Subsequently, investors seem to have been convinced by statements from the Federal Reserve to the effect that it intends to continue raising its key rates, at least at its next policy meeting in December. This shift in expectations led to a strengthening of the US dollar against the euro (+0.5%) and the Japanese yen (+2.2%).
Exhibit 3: The US dollar rallied in SeptemberSource: Bloomberg, BNP Paribas Asset Management, as of 29/09/2017
Is 'Trumpflation' back? Maybe but there is something more
The performance of various asset classes in September illustrates the return of the 'Trumpflation' theme, i.e., the hope – rekindled by President Trump’s comments – of significant tax cuts, which should support equities, while dragging down bonds. In September the Trumpflation revival met an economic environment supportive for equities, particularly in the eurozone. Another potential positive sign is that oil prices rose despite nothing new coming out of the Vienna meeting between OPEC and its partners.
Investors are now less concerned about the geopolitical context as it appears to have been brought under some degree of control by international institutions. In the US, some headway has been made in Congress, and the Republican Party may come around to approving fiscal measures, whereas votes have thus far been disappointed by the lack of reforms.
For the moment, investors do not seem overly concerned about the outcome of the German elections. This could change if negotiations on forming a new coalition get bogged down, particularly as investors are starting to look more closely at polls in the run-up to Italian legislative elections, which are expected to take place in the spring of 2018.
Central banks are engaged in a tricky manoeuvre of keeping all the wheels on the wagon while moving ahead with the normalisation of their monetary policy. 'Weaning' the markets off liquidity, even if it is done gradually, could be a tough task at a time when equities look overvalued, especially in the US, but the economic environment is definitely supportive of equities.
Exhibit 4: S&P 500 – sector performance (monthly performance for September 2017, %)Source: Reuters Datastream, BNP Paribas Asset Management, as of 29/09/2017
Exhibit 5: MSCI EMU – sector performance (monthly performance for September 2017, %)Source: Reuters Datastream, BNP Paribas Asset Management, as of 29/09/2017
Written on 29/09/2017