In this week’s market update: Shares end a remarkable quarter in nervous fashion; while attention shifts as the second half gets under way to Brexit and the US election.
Few would have predicted at the start of the second quarter that US shares would have been around 40% higher at the end of the April to June period. Having lost a third of their value since the February peak, investors were shell-shocked by the speed and ferocity of the downturn. But, as ever, the time to buy was when it felt most difficult.
The scale and speed of the recovery has surprised almost everyone. It reflects the scale and speed of the policy response by both central banks and governments who have unleashed an unprecedented set of stimulus measures. The mismatch the rally has created between the level of the market and the mixed headlines, however, has started to unnerve investors. June has been a much more volatile and cautious month than the previous two, although it looks like ending the month on a positive note as Asia this morning picked up from Wall Street’s bullish tone on Monday.
A big question mark hangs over the extent to which investors might take advantage of the rise in prices to rebalance their portfolios at the end of the quarter this week. Balanced portfolios, holding both shares and bonds, benefited from this process at the beginning of April when funds were underweight equities and needed to buy to reset their portfolios. The opposite process threatens a sell-off as we move from June into July.
The incentive to hold onto equity positions is much reduced now, with valuations back to pre-pandemic levels in many cases. It is becoming harder to justify today’s prices as an apparent resurgence of infections in countries that had looked to have defeated the virus, and continued growth in cases in places like the US which are still in the thick of it, confirm that we are far from out of the woods yet.
This week there is a broad spread of data due to be announced so we should have a better sense at the end of the week whether prices are likely to correct. China, which was first in and first out of the crisis, has both manufacturing and services purchasing managers’ index data this week. Despite a flare up in infections in Beijing, the country, and indeed the whole region, is getting back to normal.
The manufacturing PMI emerged a fraction higher at just above the 50 level which traditionally separates expansion from contraction in the economy. For Services, later in the week, a modestly less positive reading of 54 is forecast.
Elsewhere in the region, industrial production figures this week in both South Korea and Japan showed sharp falls in May. Japanese unemployment hit a three year high of 2.9%.
While Hong Kong is not exactly back where it was, by contrast, many workers have returned to their offices and factories are humming again. The real question is not around the ability of supply to be restored but of demand around the world picking up sufficiently to justify the higher levels of activity. As ever, it is a stock picker’s market with some unexpected surprises for investors - luxury goods, for example, are selling well as limited opportunities for travel within the region have left more disposable income available for buying cars, jewellery and the like.
There’s a related story here in Europe, where the inability to go out and spend in pubs, restaurants or to travel abroad has seen those who have kept their jobs with excess savings at the end of the month. Deposits in the UK increased by £25bn in May after smaller but still strong increases in March and April. The average in the six months to February was just £5bn.
That augurs well for a summer pick up in consumption once pubs and restaurants open up from this weekend even if there is a longer-term question market over consumers willingness to spend after the initial relief splurge is over.
In particular, the ending of government support for furloughed workers between August and October is expected to see a significant rise in unemployment, perhaps back to levels not seen since the 1980s recession.
Evidence emerged this week that even before lockdown, activity in the UK economy was slowing quickly as worries about coronavirus changed behaviours. GDP in the first quarter fell by 2.2% in the three months to March, the worst drop in that period since 1979 although a fraction of the 20% predicted fall in activity in April for which the Office for National Statistics has already issued an estimate.
The long-term challenges facing the UK economy provide the backdrop to Prime Minister Boris Johnson’s expected promise this week to build the economy back to strength in a conscious, if exaggerated, echo of the Depression era New Deal in the US. And it is not just here that governments are preparing to spend heavily to support the economy. The US has pencilled in a massive fiscal stimulus, while France is preparing to continuing supporting workers long into the future.
The need for ongoing support in the UK is accentuated by what will be a key focus in the second half of 2020 - renewed Brexit negotiations. These kicked off again this week with a call from Brussels for Britain to come clean about its intentions regarding the regulatory playing field in a post-Brexit world. In focus is Britain’s insistence that it will not comply with Europe-wide directives on state aid have rankled with the UK’s EU partners.
In the US, attention is also shifting as June turns into July to the upcoming Presidential election in November. Over there, the pandemic and consequent economic slump has turned expectations on their head. Having been cruising towards re-election on the back of a strong economy and stock market, Donald Trump is now looking defeat in the face as his key support among older, white voters starts to fade away in the wake of his perceived poor showing in managing the pandemic response.
The weaker prospects for the President were confirmed at a recent rally in Tulsa, Oklahoma where far fewer than forecast numbers of supporters showed up to back Mr Trump.
This week’s economic highlight in the US will be the non-farm payroll report on Thursday, a day earlier than usual thanks to the Independence Day holiday on Friday. Last month the employment data were massively better than expected as 2.5m new jobs emerged versus expectations of a 7.5m reduction. That big swing reflects the flexibility of the US jobs market where it is easy to fire people and to re-employ them when things pick up.
Also in focus this week will be the minutes of the latest Federal Reserve meeting. These should add some colour to comments from chairman Jay Powell earlier in the month when he struck a notably dovish tone. Describing a bleak outlook for the US economy, he took rate hikes off the table and promised more support if needed.
Attention will shine on any comments about so-called yield curve control. That’s where the central bank seeks to limit any rise in bond yields by committing to buy whatever bonds it needs to in order to limit the income yield on its debts and so to manage the cost of borrowing for companies.
Back in Europe, the engine room of the region’s economy Germany will be in focus as employment and retail sales data are due to be announced. As in the UK, Germany’s jobs market has been protected by a furlough scheme which has been paying the wages of around 10m workers. The extent to which this support is removed over the summer will be a key determinant of what happens to consumer spending in the country.
Hopes of a rebound have seen European shares rise strongly with the Dax 30 in Germany up around 40% from its March low point. Sentiment was, however, dented in the past week or so by the failure - the first ever - of a Dax constituent as the payment processor Wirecard collapsed amid allegations of a widespread fraud at the company. Wirecard’s chief executive was arrested on charges of false accounting and market manipulation and the search is on for €1.9bn that has gone missing from the company’s accounts.
The scandal is a huge embarrassment both for Wirecard’s auditors EY and for regulators in Frankfurt who appear to have been asleep at the wheel.