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Market Insights – November 22, 2021

Each week, our Investment team shares its market views with you.

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Essentials

There was no shortage of good news in the USA last week. Economic indicators came in much better than forecast. Retail sales, in particular, rose sharply in October, while industrial output and the real estate market were also robust. The stage is set for the year-end rally to continue on the US stock markets. 

The economic news coming out of the UK has been surprisingly good. Retail sales rebounded by 0.8% month on month in October, and consumer confidence rose unexpectedly. The pound reacted well to these figures, no doubt because investors are now anticipating a rate hike. 

Few investors had expected there to be more lockdowns in Europe in response to the surge in infections as winter approaches. Stocks tied to the economic reopening are now struggling, as the return to normal has again been pushed off for a few months.   

The Delta variant is undermining the euro

Mainland Europe has once again become the epicentre of the COVID-19 pandemic. With temperatures dropping and lives almost back to normal, the virus seems to be spreading more quickly. While Eastern Europe has been hit the hardest, the entire continent is, to varying degrees, dealing with yet another wave of infections.

Vaccination campaigns clearly haven’t managed to stem the spread of the very contagious Delta variant, although they have so far prevented another rise in the number of deaths. Like during previous waves, hospitalisation rates will be key to determining whether further restrictions are needed. In response to one of the biggest surges in infections, Austria has already announced another nationwide lockdown. This had an immediate knock-on effect on the financial markets – investors hadn’t expected further lockdowns now that a number of vaccines and treatments are available.

Although there was some profit-taking last week, most European stock markets are still near their recent highs. And the slight drop in bond yields is a long way from indicating a flight to quality. Outside Europe, the public health situation is much less concerning. So far, there has been no similar surge in infections in North America and Asia, and things have calmed down in the southern hemisphere after several difficult months.

We don’t think that the worsening situation in Europe will derail the global economy, which was close to overheating not too long ago. The main victim of the recent flare-up in cases has been the euro, which has again lost ground against most major currencies. 

It dropped more than 2% against the dollar in November and is down close to -8% since the start of the year. For Switzerland, a decline in our main trading partner’s currency is a cause for concern. But as monetary policies are poised to return to normal around the world and central banks gradually begin the tapering process, the Swiss National Bank seems to have accepted that the euro will weaken.

The single currency broke through the key technical support level of CHF 1.05, sparking fears that its downward trend may not be over yet. As a reminder, we sharply reduced our explosure to the euro in Swiss-franc portfolios in early November.

Energy prices – political pressure ver-sus fundamentals

Oil prices have risen steadily since the start of the year, pushing inflation to a record high recently. That is a worrying trend, and politicians are getting edgy. They have been putting pressure on Opec to increase its output and, more recently, there have been persistent rumours about strategic reserve sales in the USA and China. It’s not surprising that governments have taken action – rising fuel prices can significantly reduce their chances of getting reelected. 

Following these interventions, volatility has increased and oil prices have dropped by around 10%. However, we think that this trend will be short-lived and that there is limited downside risk. That’s because oil’s fundamentals remain strong despite these headwinds. Firstly, we’re at a good point in the macro cycle, with growth expected to pick up further in Q4. Secondly, inventories are at their lowest in more than five years and will continue to decline. 

On top of that, supply is not strong enough to balance out the market: Opec has raised its production quotas, but several countries have struggled to keep up, with only half of the latest quota hike actually delivered. Lastly, major oil companies are now more focused on developing renewable energies or increasing their dividends than on investing in oil production.

In view of these factors, output should continue to decline. The main risk is still that there will be a sharp rise in infections worldwide and strict, widespread lockdowns, although we think this scenario is unlikely.

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