Market Commentary – 21st June 2017
The Queen’s Speech and Brexit…
It has been a busy morning today as the Queen prepared to deliver the governments proposed legislation and policies for the next two years. The Queen has set out the government’s legislative programme. It includes:
The “Great Repeal Bill” to overhaul existing EU legislation and separate bills on customs, trade, immigration, fisheries and agriculture;
- The government said it wants a “deep and special relationship” with its allies and new trading relationships;
- A new modern industrial strategy to attract investment in infrastructure and new industries – including electric cars & new satellites;
- A new High-Speed rail bill is to be introduced for its next stage;
- The Living Wage will be increased;
- The government is to bring forward measures to tackle “unfair practices” in the energy market, and;
- The Queen said there will be a law to help reduce motor insurance premiums.
Also in other Brexit news, the government started our Brexit negotiations to leave the European Union on Monday. It was said that Brexit negotiations were not about “punishment” or “revenge”, but the talks between Chief European Union (EU) negotiator Michael Barnier and the UK’s Brexit Negotiator David Davis did look a lot like kicking a man while he is down. Barnier took advantage of Davis’ weaker position, and seven hours of negotiations lead to the UK backing down on all fronts. This is just further evidence to show how complex the negotiations will be.
Global Economic News
In the UK, the Mansion House event held early this week (rearranged from last Thursday following the Grenfell Tower fire tragedy) saw speeches by the Governor of the Bank of England, Mark Carney, and Chancellor of the Exchequer, Philip Hammond. The broad message was that the stances of monetary and fiscal policy are unlikely to see any significant shift for the foreseeable future. The bulk of Governor Carney’s speech was devoted to global economic matters, particularly the question of global economic imbalances and how to resolve them. His discussion of the UK presented the Governor as being firmly among the MPC’s dovish majority, and offered some counter to the policy-tightening shift seen in this month’s meeting, when three members voted for a rate hike. Notably, Mr Carney referred to “anaemic” wage growth, somewhat stronger terminology than the “subdued” used in the minutes of the meeting. He also showed much less confidence than the hawkish minority on the MPC, that other components of demand would be sufficient to offset the ongoing slowdown in consumer spending, conveying a clear sense that any move to raise the Bank Rate should wait. Meanwhile, Chancellor Philip Hammond’s speech offered little indication that fiscal policy will take over some of the heavy lifting from the Bank in supporting demand in the economy. True, Mr Hammond acknowledged that “Britain is weary after seven years of hard slog”. But he stuck to the familiar line that borrowing more to finance current spending would impose an unfair burden on future generations. In Mr Hammond’s view, the only long-term solution to extra funding for public services was stronger growth.
Away from Brexit, this morning the Office of National Statistics (ONS) reported that the UK’s budget deficit narrowed in May to £6.7bn, down 5% compared to the same month last year. This was boosted by the biggest intake of Value Added Tax (VAT) receipts. These receipts rose by 4.3% to £11.2bn. This new data on public sector finances brings some good news for Philip Hammond.
In Europe, President Emmanuel Macron now rules the French political system. In Sunday’s second round of parliamentary elections, La République En Marche (REM), the party he only founded a year ago, secured 350 out of 577 seats in the parliament, giving him the mandate to reform France’s sclerotic economic system. It is highly likely that the election outcome remains positive for the French economy. Macron now has a strong mandate to swiftly implement his pro-business reform programme. He has also pledged to use announcements to bypass lengthy negotiations in parliament. Highlighting his determination to overhaul France’s economy, the government has already started negotiating the labour market reform with social partners shortly after the presidential elections. The aim is to vote on a first draft by September. Fiscal policies will be discussed alongside the budget in the Autumn. Cuts to corporate tax rates – from 33% to 25%, a public investment programme of €50bn and reforms to the general taxation system are likely to then be gradually put in place from 2018 over the five-year term. Away from France and more generally, the risk of the European Central Bank (ECB) opting for a more gradual unwinding of Quantitative Easing (QE) has grown in response to the ongoing weakness of underlying inflation and recent slowdown in wage growth. Inflation and wage developments over the summer will be the key factors in determining the ECB’s next steps. But for now, it is viewed that QE is to be tapered by €10bn a month from January 2018. ECB’s QE programme in 2018 is by no means set in stone, but on balance, it is still expected the ECB will announce in the autumn a €10bn monthly reduction in asset purchases from January. If core inflation fails to pick-up over the summer and the recent drop in wage growth is not reversed, then the ECB could certainly opt for a more gradual unwinding of QE.
In the US, at the end of the Federal Open Market Committee (FOMC) June meeting last week, Chair Yellen delivered three major monetary policy decisions that were much anticipated: raising the target range for the federal funds rate by 25bp to between 1% and 1.25%; confirming an intent to raise the federal funds’ rate a total of three times in both 2017 and 2018; and providing details about its balance sheet normalization process. But what was perhaps more important than the Fed’s policy decisions was its evident desire to convince markets that it remains in “normalization mode” despite recent soft data readings, weaker inflation and growing doubts about the Trump administration’s ability to deliver a substantial fiscal boost to the economy. Indeed, the Fed does not want to fall back into the 2015-2016 trap of regularly struggling to convince markets of its tightening intentions.
The Barometers below look at some of the data we review on a day by day basis and by having these detailed, it gives you some insight into what is happening.
US Earnings are important because if the US starts to slow down, then so does the rest of the world.
As of today (with 2 companies in the S&P 500 reporting actual results for Q2 2017), 1 S&P 500 company has beat the mean EPS estimate and 1 S&P 500 company has beaten the mean sales estimate. For Q2 2017, the estimated earnings growth rate for the S&P 500 is 6.5%. Nine sectors are expected to report earnings growth for the quarter, led by the Energy sector.
UK & Non-UK Gilt Yields;
UK and Non-UK Government Debt are a good measure, as they indicate whether we expect the economy to improve or worsen, with rising yields reflecting positive environment and reflecting positive interest rate movements as we look out. The opposite is with lowering yields as the expectation is worsening economic conditions.
It’s been a mixed market for gilts over the past week. In the US, we have seen bond yields decrease with corresponding valuations increasing, bond yields increasing in the UK with corresponding valuations decreasing and bond yields remaining relatively flat in Europe. Volatility remains high in these assets which should not be functioning like this. This is a further example of why we are still not directionally investing into these assets.
GBP to USD/Euro/JPY;
We monitor the GBP rate to see how much of the returns are coming from underlying equity valuation increases and movements in the currency, to see if we should be locking in the gains and hedging the risks. We have changed our 12-month expected range for sterling across the US Dollar, Euro and Japanese Yen. This is to reflect a stronger pound, following Brexit, and less negative risk due to the UK economic data stabilising, and therefore uncertainty risk is dropping off. As Brexit matures, we expect Sterling to weaken over the coming months as negotiations set off and both sides prevaricate, then reappreciate towards year end to roughly where we are now or slightly higher.
It has been an interesting week for sterling against the US Dollar, as it dropped from 1.27 to 1.26 whilst Mark Carney delivered his Mansion House speech. During this speech, he made it very clear that ‘now is not yet the time’ for a hike in interest rates, which expresses his level of uncertainty. Early this morning, Sterling dropped to 1.25, but is now back up to 1.26 and may close at 1.27 intraday. The drop this morning was following Theresa May’s struggle to find a deal with the DUP ahead of the Queen’s speech, in which she delivered the government’s proposed legislation and policies for the next two years. Sterling is clearly under pressure following macro uncertainty, and will continue to remain undervalued until some positive data is fed into the markets.
GBP / USD – Range 1.32 – 1.20 – Today at 1.26
GBP / EUR – Range 1.22 – 1.12 – Today at 1.13
GBP / JPY – Range 150 – 130 – Today at 141
We monitor the oil price as it is a strong indicator of global consumption when balancing the output and storage data. Strong supply and usage denotes a strong global economy. The opposite reflects underlying weaknesses.
The price of oil over the past week has only taken another negative turn and plunging to its lowest level in seven months, falling into what’s commonly known as a ‘bear market’ as it continues to drop. WTI Crude is currently trading at $43.67 and $46.12 for Brent, down approx. 6% for WTI and approx. 5% for Brent. It is estimated that oil will continue to drop down to potentially $40 a barrel. The story is not much changed from late last week, when prices dropped sharply because traders are responding to news of rising output from key producers and signs of global oil reserves continuing to grow. Early this week came the news that production will be up more than 110,000 barrels per day by August in Nigeria and Libya, both of which are exempt from OPEC supply cuts. Exports from Iraq are also said to be increasing, while shipments in general across OPEC are thought to have fallen only marginally, despite the 1.8 million barrels per day of cuts that will continue until next March.
Gold is a safe haven asset and a spike in price can be an indicator of increasing underlying economic concerns and as always, the opposite.
Over the past week, we have seen the price of gold decrease approx. $25 an ounce to $1,243 a troy ounce. The fall was set in motion at the end of last week in the wake of the Federal Reserve raising interest rates for the second time this year. There is speculation in the markets of a possible third rise in the coming months, which in turn is affecting trading and investor confidence. Even though the Fed’s move was expected, it’s evident that they are being hawkish on rates, and higher rates hurt non-yielding assets like gold relative to income bearing alternatives. Alongside the rates focus, which also has the effect of boosting the US Dollar against which gold has been negatively correlated, the convergence of geopolitical issues that was driving trader uncertainty appears to have dissipated. Issues that were a source of concern include the increasingly aggressive rhetoric between Donald Trump and North Korea, and the James Comey scandal that was seen as having the potential to bring down Trump’s administration. These issues have not gone away completely. In addition, uncertainty in Europe remains high after the UK election result.
Model Portfolios & Indices
Most of the indices that we track have gained lower ground than they did last week. One of the main contributing factors is oil prices falling to seven month lows. In the UK, the FTSE 100 has been largely hit by the oil prices, and comments from Standard & Poor (which stated that they could potentially downgrade the UK again) and Carney’s Brexit Gloom all contribute to the lacklustre performance. The French CAC was up following President Emmanuel Macron’s success in securing his position in ruling the French political system. As oil prices continue to struggle, we can see the indices struggle to gain some ground.
Our model portfolios continue to perform well. As we continue to progress through this period of uncertainty, we will maintain our defensive positions and remain cautious, as we have locked in our profits from the market rally and will re-join once data becomes strong again.
This Day in History
On this day in 1893, the original Ferris Wheel, sometimes also referred to as the Chicago Wheel, was the first Ferris wheel to be invented. It was the centrepiece of the 1893 World’s Columbian Exposition in Chicago, Illinois. Intended as an attraction in the same manner as the 1889 Paris Exposition’s 324-metre Eiffel Tower, the Ferris Wheel was the Columbian Exposition’s tallest attraction, with a height of 80.4 meters.
As always have a wonderful week and stay safe.
Jason Stather-Lodge CFP, MCSI, APFS
CEO & Founder
Chartered & Certified Financial Planner
Chartered Wealth Manager