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Market Insights – September 20, 2021

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

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Essentials

On Monday, the number of stocks included in the DAX, Germany’s main index, rose from 30 to 40. With the addition of companies such as Zalando, Porsche and Puma, the index will be increasingly representative of growth stocks, which could attract more attention from foreign investors.

The risks surrounding Chinese property developer Evergrande have rattled the markets. But the authorities are unlikely to let a potentially messy default turn into a crisis. That said, the government will have to clearly communicate its intention to step in and prevent the disruption from affecting the rest of the property sector, the financial sector and investor confidence.

The leading US index, the S&P 500, remained under pressure last week. By the end of Friday, it had broken through a major support level that it had tested repeatedly in recent months. This breach could lead to a deeper consolidation among the region’s stock markets and spark a short-term rise in volatility.

US Fed: it’s time to put words into action

Just under a month ago, at his closing speech at the gathering of central bankers in Jackson Hole, Wyoming, Fed chair Jerome Powell let it be known that it was time to begin normalising monetary policies. Mr Powell’s announcement was widely expected, but the how and when were left up in the air. The Fed’s meeting this week will surely focus on those points. We expect it to begin tapering its asset purchases soon, most likely before the end of the year. But there is no way of knowing just how abruptly the Fed will stop injecting liquidity into the financial system. There are also fears that the Fed will want to quickly move on to interest rate hikes. At this point, the first increase is not expected before 2023. But could the Fed move more quickly? This prospect has caused some jitters among investors and triggered an upswing in market volatility. At the same time, recent developments in the public health crisis and their impact on economic growth call for careful decision-making. There may have been a drop in COVID-19 cases in recent days, but the scope of the current surge in the US has caught many off guard. This is a clear indication that, unless more people get vaccinated, the public health situation in the world’s largest economy could deteriorate once again as we head towards winter. Numerous economic indicators in the US have in fact weakened, confirming that the current wave of infections is weighing on the recovery. We are still concerned that inflation could end up being more persistent than the large majority of economists had expected. But the latest price figures – which showed inflation slowing in August – must have been a relief for Fed officials. Core inflation (which excludes highly volatile energy and food prices) in particular declined to +4% year on year from +4.3% in July. This lends weight to the belief, promoted for many months by the Fed, that the current spike in inflation might be transitory. It also suggests that the Fed and most other central banks in industrialised countries should embark cautiously on the inevitable path of monetary tightening.

German elections: how much will really change?

It is the end of an era in Germany: Angela Merkel is exiting the political scene after 16 years in power. Merkel’s down-to-earth personality made her extremely popular, even after her major failure in mismanaging the migrant crisis in 2015. Who her eventual successor will be is anyone’s guess. The SPD has made major gains during the current election campaign, thanks to Olaf Scholz, raising the prospect of a left-leaning government. With the elections just a week away, the outcome is far from certain, not least owing to the margin of error in the polls and the potential for a last-minute surprise. It’s also worth noting that Scholz’s personality, more than his party’s platform, has stood out during this campaign. If the left should win, the country’s political fragmentation will make it hard for it to form a coalition. In our core scenario, Germany will not veer from its recent policies, for two reasons. First, the various parties’ political programmes are not that distinct. Second, the debt brake enshrined in the German constitution is a major obstacle to any major change in direction. For the stock market, the international exposure of Germany’s DAX should prevent it from being overly affected by the election outcome. France’s 2022 presidential election is likely to pose much more of a challenge for European markets.

 

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