Market Insights – 26th november 2018

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

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The European Commission once again rejected Italy’s draft budget and began formal proceedings against the country because of its excessive deficit. The financial markets reacted quite well to this measure, which was interpreted as the first step in the negotiating process between the two sides.

The pound perked up at the end of the week, when the EU approved the Brexit deal. The deal now has to get through the UK parliament, which is likely to reject it in its current form. But Westminster will probably give the green light if some amendments are made.

Emerging markets outperformed for the second week in a row thanks mainly to the recent decline in oil prices, given that most emerging markets are oil importers. This is a positive trend despite the uncertainties weighing on these markets in the run-up to the G20 summit this coming weekend.

Has the ECB missed the boat?

Oil prices fell further last week. Since early October, Brent crude oil has dropped 32% on the London exchange, while West Texas Intermediate has declined 35% in New York. It’s hard to explain this price slump. Maybe investors are worried that demand could soften if the world’s two largest oil-consuming economies – the USA and China – lose steam. There has also been mention of excess supply, with the relentless rise of non-conventional oil, such as shale gas, in the US. Opec’s influence is waning, and the US has once again overtaken Saudi Arabia as the world’s number one oil producer.

But some of the decline on this extremely speculative and volatile market is still ir-
rational and excessive. This downtrend is sparking concerns about the short-term health of the global economy, but it could end up having a positive impact on oil-importing countries, i.e. most developed countries. Energy costs will be lower, as will the impact on trade deficits. Declining oil prices should also boost consumers’ purchasing power.

These developments are likely to extend the global macro cycle, which is well into its mature phase. The sharp drop in energy prices will soon affect inflation. Oil prices are now lower than they were a year ago after long pushing up inflation worldwide . It is estimated, for instance, that energy prices account for half of the 2.2% annual inflation rate recorded in the eurozone in October. In the coming months, total inflation is likely to con-
verge with the rate of core inflation, which excludes energy and food prices and has struggled to rise above 1% for almost five years.

Given these conditions – and the fact that the European economy has lost steam in 2018 – it’s difficult to imagine that the European Central Bank will be able to justify any further monetary policy tightening. While the asset purchase programme looks set to end, the rate hike expected in the second half of 2019 could well be put off. There are even very real doubts about whether the ECB will be able to raise rates at all during this economic cycle. The future decisions of most other European central banks – including the SNB – will depend on whether the ECB makes a move or not.

US equities: sales season has begun!

After last week’s sell-off, once again led by tech stocks, the US market seems about to test new, lower critical support levels. The S&P 500 is not far from its October lows, while the Nasdaq is nearing the year-to-date low reached in February. This renewed volatility is a sign of investors’ extreme pessimism, but it
nevertheless seems excessive given recent macro indicators, which show that the domestic economy is holding up well. In particular, SMEs and consumers remain confident. And consumers were able to show their enthusiasm on Black Friday, when the year-end shopping season began. Friday’s online sales were up 24% on last year, a sign that the economic climate remains favourable to consumer spending – the main driver of US economic growth.
Economic activity and employment data for November will be released next week. We expect them to confirm that economic growth rates are normalising after a period of being artificially boosted by factors such as the fiscal stimuli. If the slowdown is not too abrupt, investors should regain confidence and the approaching support levels should hold strong.


To go deeper


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