Market Insights – February 11th 2019

Each week, a team of experts shares its market views with you.

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Essentials

The slowdown in inflation caused by the slump in oil prices prompted the Reserve Bank of India to cut interest rates by 25 basis points, to 6.25%. This is the first time it has reduced rates since August 2017 – it raised rates twice in 2018 as a result of high oil prices and the strength of the US dollar.

Buoyed by the broad rebound in risk assets, alternative fund indexes gained close to 2% in January, their best monthly performance since May 2009.

The recent economic slowdown in the eurozone has hit the manufacturing sector particularly hard, which explains why industrial output and new orders are so low in Germany. Over the coming months, lower oil prices and more expansionary fiscal policies should provide a renewed boost to growth

Unusual events on the forex market

With the exception of some short-term forex traders and investors, not many people noticed the yen’s surge on 3 January. In the space of just a few minutes, and at a time of low liquidity given the holiday season in Japan, it shot up against most currencies. It jumped 7% against the Australian dollar and then lost all of those gains in the ensuing hours and days. On 11 February, the forex market experienced another – albeit smaller – jolt. This time it was the Swiss franc that took centre stage. With Japan enjoying another public holiday, the franc suddenly lost close to 1% at 11pm on Sunday before rallying in the following 30 minutes. Perhaps speculators were taking advantage of the very narrow markets to make quick profits.

Although the Swiss National Bank (SNB) is hoping that the franc will depreciate over the long term, it cannot be happy about this short-term volatility. The franc is still one of the SNB’s main monetary policy tools, as are its yield spreads with other currencies. The work of Switzerland’s central bankers has recently become more complicated on that front as well. As inflationary fears fade around the world and major central banks are in a holding pattern, government bond yields have fallen in most developed countries.

Swiss sovereigns are now not as unappealing as they were before. This is particularly true relative to Japan and Germany, where rates are negative along most of the yield curve, except at the long end. Luckily for the SNB, confidence has returned after the year-end panic on the financial markets, and this has reduced demand for safe-haven currencies like the Swiss franc. The SNB will be hoping that this respite lasts for a few months longer, even if a short-lived consolidation can’t be ruled out given that stock markets have rallied considerably since the start of the year.

Does Europe have the most unpopular stock markets?

After a very difficult end to 2018, even European stock markets have rallied this year. This is not because of the economic news coming out of the eurozone, which has been disappointing, but rather because of the brighter outlook surrounding the trade talks between the USA and China and the Fed’s more accommodative stance. But even if optimism towards European equities has bounced back in the short term, the underlying sentiment is still bearish, as evidenced by the record outflows of funds from the region’s stock markets and the very low weighting of European equities in portfolios. Fears concerning the trade war, Brexit and the rise in populism in Italy and France have overshadowed fundamentals, which are still relatively buoyant despite the recent slowdown. Setting aside the possibility of a recession, stocks remain attractively priced, especially compared with bonds. Given the ongoing political uncertainty, we still recommend diversifying across sectors and regions. We will maintain a core of high-yielding stocks from companies delivering moderate growth, and combine this with satellite investments in value and cyclical stocks that have dropped sharply. But given the question mark hanging over the European Central Bank’s interest-rate normalisation, we are not overweight on banks even though they are trading at record lows.

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