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A lack of conviction

Major equity indices recovered from some of the slippage in August: the MSCI AC World index gained 1.9% and the MSCI Emerging 1.7% (in US dollars). Once again, it was the chronology of comments, tweets and statements on US and Chinese trade policy that best explains the day-to-day moves.

  • The lull in the trade war allowed major indices to rally in the first half of the month after initial hesitation
  • Hopes of supportive decisions by the main central banks also a driver
  • Moves by the ECB (a cut in the deposit rate, resumption of asset purchases, and additional measures) and the US Federal Reserve (a cut in key rates) put the brakes on equities' gains, followed by a stagnation.

Have central banks lost their mojo?

The market reactions can be interpreted as scepticism about the effectiveness of these accommodative monetary policies at a time when interest rates are already low.

Exhibit 1: Long-term bond yields rose modestly in September  (10-year government bonds)

Exhibit 1: Long-term yields rose modestly in September, 10-year yields

Comments in Washington on relations with China have become more volatile, with the Trump administration and the president himself blowing hot and cold. Geopolitical and political factors have occasionally disrupted financial markets without changing the game. The start of the impeachment inquiry into president Trump weighed on equities, but only temporarily, given the cumbersome nature of the process and its low chances of success in view of the balance of political forces in Congress.

The attacks on Saudi oil infrastructure in mid-September sharply boosted oil prices. West Texas Intermediate rose to close to USD 63 a barrel from USD 55/bbl at the end of August. WTI fell back when it became apparent that the interruption to production was going to be limited. Oil ended September at USD 54.10/bbl, down 1.9% for the month.

Trade risks and growth

From an economic point of view, the cautious scenario of less dynamic global growth, exposed to more risks from trade disputes, remains valid. The US economy appears capable of withstanding the slowdown in the manufacturing sector, while the eurozone could experience difficulties in the wake of the weakness in the German economy.

It should be noted, however, that domestic demand remains solid for the eurozone as a whole and that ECB President Mario Draghi has underlined ‘the ongoing resilience of the economy.’ As activity slowed, the Chinese authorities announced monetary support measures that are far from exhausting their capacity to manoeuvre.

Japanese equities boosted by a weaker yen

Among the major developed markets, and looking at the performance in local currencies, Tokyo saw the biggest rise (5.1% for the Nikkei 225). Japanese equities benefited from the fall in the yen and the signature of the ‘first stage’ of a new trade agreement on agriculture and digital technology with the US. These factors supported the most export-oriented sectors.

European equities made solid progress (4.2% for the EuroSTOXX 50) despite lingering concerns about the economic outlook. Moreover, the more cyclical sectors underperformed slightly. Financials (banks and insurance companies) posted the biggest rises despite some disappointment over the ECB's decisions, with the rise in long-term rates supporting the sector.

In the US, the S&P 500 rose by 1.7%. The biggest gains were in financials, utilities and energy.

Exhibit 2: Market trends in September 2019 - total returns in % (local currency)

Exhibit 2: Market trends in September 2019, total returns in % (local currency)

Looking (desperately) for an explanation 

All things considered, it is just as difficult to explain why equity markets in September regained some of the ground lost as it is to justify the decline in August.

It appears these developments were largely driven by comments about China's trade negotiations with the US, but so far no agreement has been reached. This conflict, which is starting to weigh on global activity, raises the risks to growth and fuels market concerns.

Political factors, which ranged from the attack on Saudi oil facilities to the launch of the impeachment procedure, are also a cause for concern, even though they have yet to have a lasting impact on the financial markets.

in terms of the economic outlook, there is no consensus: some observers point to bad news and a slowdown in the manufacturing sector, while others point to the resilience of domestic demand and services activity.

From a political point of view, visibility has deteriorated in recent weeks without any increase in actual risks.

For financial markets, this context, which does not appear to have fundamentally deteriorated, but is not becoming better either, raises several questions. Will investors have the patience to wait for an improvement? Will they, on the contrary, convince themselves that the cycle has turned when the indicators do not send more encouraging signals?

Recent monetary policy announcements have not been entirely reassuring, and scepticism is beginning to take hold. Fiscal policies might be needed to support activity, but the implementation of such policies is likely to take a while.

In this complex environment, volatility in risky assets is likely to replicate the pattern of recent months: heightened nervousness and erratic reactions to the flow of economic and political news.

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Any views expressed here are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may hold different views and may take different investment decisions for different clients.

The value of investments and the income they generate may go down as well as up and it is possible that investors will not recover their initial outlay.

Investing in emerging markets, or specialised or restricted sectors is likely to be subject to a higher-than-average volatility due to a high degree of concentration, greater uncertainty because less information is available, there is less liquidity or due to greater sensitivity to changes in market conditions (social, political and economic conditions).

Some emerging markets offer less security than the majority of international developed markets. For this reason, services for portfolio transactions, liquidation and conservation on behalf of funds invested in emerging markets may carry greater risk.

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