In this week’s market update: Volatility returns to stock markets as stimulus battles with poor news-flow; and economies try to get back to work after a heavy economic hit in April.
The dangers of trying to time the market were illustrated by big swings in share prices this week as investors struggled to assess the competing influence of Fed action and worrying headlines.
Having regained much of the lost ground for markets since February, investors had a collective loss of nerve last week and into this as new data on both the health and economic fronts confirmed that we are far from out of the woods yet.
By Tuesday, however, the mood had changed completely as investors focused on the Federal Reserve’s clear intention to do what it needs to support market sentiment.
Shares in the US, which had regained the level at which they started the year, tumbled on Thursday last week following a cautious update from the Federal Reserve in which chairman Jay Powell gave an unvarnished assessment of the economic outlook.
Although the Fed remains supportive, the gloomy outlook was enough for investors to doubt whether the remarkable rally in shares over the past two months could be justified.
Shares on Wall Street fell nearly 6% before recovering somewhat on Friday. Despite that it was still the worst week for US shares since the worst days of the initial Covid crisis hit markets in February and early March.
Then after the weekend, markets were rattled again, this time by bad news on the medical front in both China and the US. After weeks of no new infections in the Chinese capital, a renewed spike in cases over the weekend came as a reminder that coronavirus is down but not out in the country where it started last year.
In the US, too, the easing of lockdown restrictions has led to an uptick in infections in Texas and Florida. Over the weekend there were 25,000 new cases. So far more than 2 million people have tested positive in the US and more than 100,000 deaths have been reported.
Markets fell sharply in Asia, particularly in export-dependent economies like South Korea, where the Kospi was 4.8% lower on Monday. Japan fell 2.5% and Hong Kong 2.2%. The sour mood spilled over into Europe and in early trading in the US.
Later in the day, however, investors warmed to the Federal Reserve’s plan to put together a portfolio of corporate bonds rather than simply to buy ETFs tracking a bond index. That should reduce borrowing costs for US businesses.
The S&P 500 ended 0.8% higher on Monday and that good news was seized on by investors in Asia on Tuesday. Trading in the South Korean market was suspended after the Kospi index rose 5%. Japanese shares were 3.4% higher and Australia rose 3.8%. Hong Kong was 3% better.
The volatility in markets has come after global shares had returned to within a few percentage points of their pre-crisis levels. In the US, the S&P 500 had regained its New Year level and was up year on year. The tech-heavy Nasdaq index was up more than 10% year to date.
That always looked a tad optimistic given the scale of the economic hit so the market was vulnerable to a correction at some point. That may well still come but the Fed’s intervention has bought some more time.
The damage to major economies is well illustrated by a 20% decline in UK GDP in April, following a 10% fall in March. This is a much bigger hit to activity than was suffered during the financial crisis, making this arguably the biggest economic shock to the British economy ever. Despite the government’s furlough scheme strains in the UK’s jobs market are starting to show up in the figures too. Hours worked and vacancies fell sharply in April.
Unsurprisingly, businesses are desperate to get back to work and non-essential retail got the green light to re-open from this week. The big question is how keen consumers will be to go out and spend in the new environment of social distancing, with all the queuing and risk that will entail.
Early indications are that shoppers are willing to give it a go after three months away from the High Street. There were big queues in some places. But only time will tell if shoppers’ patience will be tested by the new normal. Almost certainly the shift to online shopping will continue and the problems for the retail sector, which pre-dated Covid, will remain significant.
Although the UK remains behind the curve when it comes from the exit from lockdown, other regions are faced with a big economic squeeze too. Exports from the Eurozone fell by 30% in April while imports were around a quarter lower. Within the bloc, too, trade was down by nearly a third as borders were shut, factories closed, and consumers confined to their homes.
The cost of supporting economies through the slump has also been highlighted this week. Governments and central banks have swung into action with unprecedented levels of spending which have taken debts as a proportion of economic output to levels not seen since the massive spending demanded by the Second World War effort.
With economies moving into unchartered waters, there is great uncertainty about how or if debt will be repaid - where higher taxes might fall, whether spending will be cut, and what the impact on future growth levels might be.
The fear is that high debt levels restrain growth because borrowers and lenders tend to respond in different ways. Higher interest payments restrict the ability of borrowers to consume but lenders, who are by definition wealthier, tend to save the higher income they earn on the debts. This can lead to a cycle of rising debt, lower demand and falling growth.
Demographic factors can exacerbate this process leading to what has been called the Japanification of the global economy.
The markets have been in focus but politics is likely to become a bigger concern for investors as we head towards the second half of the year.
Here, Brexit came back onto the radar last week as the UK government confirmed that it will not be seeking an extension to the 11-month transition period that followed Britain officially leaving the EU at the end of January.
Negotiations stepped up a gear this week as Boris Johnson engaged via video conference with Ursula von der Leyen, the European Commission president. Failure to reach a deal this year will leave the UK and EU trading on World Trade Organisation terms, implying tariffs on goods for the first time in decades.
With talks stalling, the two sides have shifted attention to focus on four key areas of difference: fishing rights; the UK’s rejection of EU calls for a level regulatory playing field; security co-operation and a framework for governing the future partnership.
Meanwhile, in the US attention is increasingly focused on November’s Presidential election with opinion polls pointing to an uphill struggle for President Trump to remain in the White House after what is seen as a badly-handled crisis and an interruption to the economic good news story he was relying on for re-election.