Equity markets around the world experienced a strong start to 2018 as better-than-expected macro data set a positive tone, albeit in quieter trading conditions.
Better Macro Data Sets Positive Tone at the Start of 2018
Volumes and news flow were light in a holiday-shortened week, but a number of encouraging macro data points from across the globe helped set a positive tone for equity markets in the first week of 2018.
In Europe, better-than-expected December manufacturing and services data contrasted with subdued eurozone inflation figures. Preliminary consumer price index (CPI) data for December was in line with consensus at 1.4%, its lowest level in eight months.
In the United States, data was mixed but it wasn’t enough to suggest that the US Federal Reserve (Fed) would change the current trajectory of monetary policy.
Minutes from the December meeting of the Federal Open Market Committee (FOMC), published last week, suggest the Fed remains on track for three interest rate rises this year. Most committee members reiterated support for a gradual tightening cycle.
US manufacturing data were better than expected, while December nonfarm payroll data missed monthly estimates at 148,000 jobs added, against expectations of 190,000.
In Asia, Japanese manufacturing and services data were also strong, coming in at near four-year highs. Chinese data also came in stronger than expected.
In this context of a healthy economic outlook, we expect central bank monetary policy to be a key driver for market performance. Interestingly, a recent industry-wide survey of global fund managers found that the biggest tail risk for markets is a monetary policy mistake by the Fed or the European Central Bank (ECB).
There’s likely to be a lot of attention on ECB monetary policy in 2018 amid some speculation that the central bank could begin winding down its quantitative easing (QE) programme in September. Last week, ECB members Benoit Coeure, Yves Mersch and Ewald Nowotny spoke about the potential for QE to end in September. How the ECB manages this process will be key for market sentiment in 2018.
European Politics in Focus
As we run into 2018 it is worth noting a number of situations in European politics that have the potential to impact sentiment towards European equities early in the year. German coalition talks, Italian elections, the second round of Brexit talks and the Catalonian independence stand-off all have the potential to set the tone for Europe.
In Germany, talks began last week between Angela Merkel’s Christian Democrats (CDU) and the Social Democrats (SPD), with Merkel making positive remarks around the prospect of a renewed coalition. Failure of these talks and the prospect of fresh elections could create fresh uncertainty.
The Italian elections are set to take place on March 4. The ruling, centre-left, Democratic Party (PD) is trailing the populist Five-Star movement in some general polls. While former Italian Prime Minister Matteo Renzi will be looking for potential coalition partners, there is certainly the potential for an overhang on investor sentiment around this vote. Italian financial stocks may be a good barometer for sentiment around the elections.
In addition, the second stage of Brexit talks loom ahead in 2018, which will no doubt bring a glut of headlines as the United Kingdom negotiates the terms of its divorce from the European Union (EU). For UK equities in particular, there has been an overhang on sentiment in recent times, so we feel this process will be crucial.
European equities surged in the first trading week of 2018, fuelled by ongoing improvements in eurozone macroeconomic fundamentals, which helped cyclical stocks and weighed upon defensive-type equities. Automobile stocks were the clear outperformers, driven by a number of upgrades. Stocks in oil and gas names were also strong, boosted by the rally in crude oil, while technology stocks continued to gain, having been the best-performing sector for Europe in 2017.
As we might expect, there were a number of Brexit-related headlines, as UK Prime Minister Theresa May said she believed the EU’s top negotiator Michel Barnier was faking his hard-line stance on the financial services sector.
Meanwhile, French President Emmanuel Macron urged fellow European leaders to maintain their unified stance in negotiations, warning of the dangers of pursuing their own interests.
US equities made fresh highs as global macro data continued to impress and US dollar weakness continued, alongside strength in the euro. Sector moves mostly mirrored those in Europe.
Nonfarm payrolls did disappoint slightly on Friday, but the miss wasn’t significant enough to impact markets. Crude oil also had a strong start to the year after US stockpiles had the biggest decline since the summer driving season. Civil unrest in Iran also supported the move as it heightened speculation around potential supply disruptions.
In keeping with the global theme, equities in the Asia-Pacific region started the year on a positive note too, with both equity markets in Japan and China making impressive gains in the holiday-shortened week. In China, foreign exchange reserves rose to the highest level in more than a year in December as tight regulations and a stronger Chinese yuan continued to discourage capital outflows.
In Japan, much of the focus fell on Bank of Japan Governor Haruhiko Kuroda’s speech, which highlighted the need to continue the QE programme and highlighted the steady growth of the economy.
Over the weekend, Japanese Prime Minister Shinzo Abe called on Kuroda to keep up efforts to reflate the economy, but also said that he was undecided on whether to reappoint Kuroda for another five-year term.
Australian equities were also better despite mixed macro data, with support coming from stocks in energy and materials on the back of the strength in underlying commodities.
- A heavy lineup of Fed speakers this week should shed some light ahead of the first Fed meeting of the year, including Minneapolis’ Neel Kashkari and Chicago’s Charles Evans—both of whom dissented against a rate rise in December.
- In Europe, we will see the following macro data points released: German factory orders on Monday; German industrial production on Tuesday; UK and French industrial production on Wednesday.
- In the United States: producer price index on Thursday, consumer price index and retail sales on Friday.
- In Asia: Japan labour cash earning on Tuesday; Chinese inflation on Wednesday; Japan current account
- German Chancellor Angela Merkel and SPD leader Martin Schulz continue to hold discussions over a potential parliamentary coalition.
- The week ahead will likely follow the aftermath of UK Prime Minister Theresa May’s cabinet reshuffle.
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