After falling in both February and March, the MSCI AC World index gained 0.6% in April, but that was not enough to claw back its year-to-date losses (-0.7%).
Emerging market assets underperform in April
Emerging markets underperformed, due to declines in Russian shares and the drop in the rouble triggered by the new US sanctions. The MSCI Emerging Markets index thus lost 0.6% in dollar terms.
Equities rally in developed markets
In local currency terms, the major markets generated the following gains: 0.3% for the S&P 500, 4.7% for the Nikkei 225, and 5.2% for the EuroStoxx 50.
A US dollar in April
A stronger US dollar (+1.9% on the month versus a basket of currencies) constrained gains in US equities, which were also negatively impacted by renewed underperformance in tech stocks.
A weaker euro/yen give a lift to equity markets in Europe and Japan
European and Japanese markets on the other hand were given a lift by the depreciation of their respective currencies and some catching up after their greater declines during the first quarter.
Oil prices on the rise
The energy sector got a boost worldwide from higher oil prices, driven by reduced US inventories and reports suggesting an extension of the OPEC+ oil production-cut agreement.
Global equity markets in April: a rocky climb back up
Exhibit 1: Equity indices in US dollar terms
Source: Bloomberg, BNP Paribas Asset Management, as of 02/05/2018
Trade tensions and the spectre of protectionism roil markets
April began with a war of words between the United States and China, which raised fears of an escalation in trade tensions, following announcements of sanctions on Chinese products, talk of reprisals by Beijing and mention of a ‘trade war’ by the US Treasury Secretary.
Subsequently trade tensions subsided slightly
The Chinese president then appeared to make some goodwill gestures, hinting that customs tariffs could be reduced on vehicles and other imports and raising the issue of intellectual property. President Trump welcomed these statements. So a lull emerged little by little on the trade front.
Geopolitical environment also improved towards the end of April
Something similar occurred on the geopolitical front. At the start of the the US, UK and France launched strikes against military sites in Syria. The month ended with a historic handshake between the leaders of North and South Korea and the prospect of a meeting between Donald Trump and Kim Jong Un.
It is too early to say how trade negotiations and diplomatic rapprochements will play out, but this distinct improvement in the international environment allowed investors to focus more on macroeconomic and microeconomic fundamentals, which they deemed favourable.
Economic growth remains healthy and inflationary pressures contained
Although the take-off phase in the global economy is past us, growth remained solid and synchronised, and inflation accelerated only slightly. Obviously, as economic indicators are released, doubts could emerge about the longevity of this ‘Goldilocks’ scenario (strong growth and moderate inflation) and cause some nervousness.
A strong earnings season so far
On the microeconomic front, the earnings season still looks rather encouraging. While almost two-thirds of S&P 500 companies had released their results as of the end of April, the rate of positive surprises, on both earnings and revenues, was far higher than their historical averages.
US monetary policy appears to be on a different path….
Lastly, investors continue to keep a close eye on the words and deeds of central banks. They appear to be convinced by the forward guidance of the Fed, which intends to keep raising its key rates while giving itself time to assess the impact of its monetary policy, and they were reassured by ECB and BoJ comments on the pace of the coming normalisation. All this meant equity markets were resilient to upward pressures on long-term bond yields.
The reporting season has surprised on the upside
Exhibit 2: S&P earnings surprises for second quarter earnings 2018
Source: Bloomberg, BNP Paribas Asset Management, as of 30/04/2018
Rebound in the US dollar in April
The EUR/USD pair at first traded without direction before turning downward during the second half of April and ending the month at 1.2075, down by 2% versus end-March and near the 1.20 level that prevailed early in the year.
In our view the US dollar rally is due mainly to the differential in monetary policy and growth on either side of the Atlantic – while Mario Draghi mentioned during the 26 April ECB press conference that economic activity had dipped and inflation was still low, the Fed reiterated its policy of gradual increases in key rates and US inflation turned upward.
With no fundamental change in central bank forward guidance, the accumulation of solid US economic data and disappointing business surveys in the eurozone highlighted the growth gap and led investors to readjust their positions, which until then had been significantly short the US dollar. Purely on a carry basis, the rise in US yields along the yield curve means holding short dollar positions is more costly.
Exhibit 3: US dollar rebound in April
Source: Bloomberg, BNP Paribas Asset Management, as of 30/04/2018
Pressures on US bond yields
The 10-year T-note yield, which stood at 2.74% in late March, rose above 3% in April, hitting 3.03% on 25 April, its highest level since late 2013. This followed after seven consecutive sessions of rises in the T-notes’s yield. It ended the month at 2.95%, up by 21bp on the month and by 54bp in the year to date.
This rise in yields reflects the accumulation of solid economic data, the acceleration, albeit still moderate, of inflation and expectations of higher key rates. Higher oil prices (+5.6% in April to USD 68.5/bbl. for WTI) contributed to an increase in inflation break-even rates. US hourly wages rose by 2.7% in March, accelerating slightly relative to data in February.
According to the quarterly labour cost index, wage hikes in the private sector came to 2.9% in the first quarter, a high since summer 2008. Several FOMC members stressed that the outlook for fiscal deficits are likely to lead to upward pressures on the long end of the US yield curve.
Exhibit 4: Changes in US 10 and 2-year T-note yields in %
Source: Bloomberg, BNP Paribas Asset Manegement, as of 30/04/2018
The environment should remain favourable for equity markets
April 2018 will likely be seen as a transition month during which international equity markets were driven by disruptive news on the US’s trade policy and the reactions of its partners.
Investors were relieved when the rise tensions appeared to abate following, for example, Xi Jinping’s promise at the Boao Forum for Asia of a new opening in the Chinese economy. An apparent easing of tensions between North and South Korea also contributed to better sentiment.
Not all issues have been resolved, particularly on the trade front, but this calmer international environment gave investors an opportunity to focus once again on fundamentals.
Beyond the recurring questions on how long this expansion can last (given that in July it will enter its 10th year in the US), the scenario of robust growth and moderate inflation looks safe. Moreover, central banks still look like they want to let the cycle play out, rather than blowing the whistle on it. Here again, doubts could emerge, particularly if inflation shows greater signs of accelerating, but pre-emptive monetary policies now appear to be a thing of the past, at least as long as observed inflation remains below target. In other words, normalisation is not the same thing as tightening or even putting an end to accommodative monetary policies.
Meanwhile, as seen in corporate results, the economic climate remains solid, something that should continue to be beneficial for equity markets.
Nonetheless, markets remain vulnerable to any renewal in trade tensions or rising inflation in the coming months.