Beyond Bulls & Bears


Notes from the Trading Desk – Europe

Franklin Templeton’s Notes from the Trading Desk offers a weekly overview of what our professional traders and analysts are watching in the markets. The European desk is manned by eight professionals based in Edinburgh, Scotland, with an average of 15 years of experience whose job it is to monitor the markets around the world. Their views are theirs alone and are not intended to be construed as investment advice.

The Digest

Global equities were back near record highs last week despite a series of headwinds. The MSCI World Index closed the week up 1.3%, and regionally, the S&P 500 Index closed the week up 1.6%, the STOXX Europe 600 Index was up 0.5% and the MSCI Asia Pacific Index closed up 0.9%.1 Tapering fears, concerns of peak growth, supply chain issues and Chinese property developer Evergrande’s potential default have been key market themes of late and they show little signs of abating. The focus shifted somewhat to the latest round of corporate earnings, which have been supportive overall so far.

Meanwhile, the CNN Fear and Greed Index is now firmly in “Greed” territory, moving from the “Extreme Fear” indicator just one month ago.2

Central Bank Focus

Global equities have been very resilient in the face of some fundamental challenges relating to tapering fears, concerns of peak growth, and supply chain issues, Chinese interventionism and significant energy price rises have all contributed to the recent nervousness. When sentiment began to wobble in September, hedge funds loaded up on shorts, hoping for a downside correction. When this failed to materialize, they realized they needed to chase momentum once again. As we’ve noted over a number of months, the “TINA” (There Is No Alternative) theme persists in equity markets.

The focus as we progress through earnings season is around supply chains and inflation. A number of companies have already noted they have been able to pass cost increases onto customers, so where does that dynamic break down? European Central Bank (ECB) President Christine Lagarde continues to advise that inflation pressures are “largely transitory”, which is becoming increasingly less convincing. And recently, US Federal Reserve (Fed) officials have made a move away from using the word “transitory”.

Commentary from central bankers last week was notably hawkish, with Fed Chair Jerome Powell commenting Friday that he didn’t know how long it would take for inflation to abate, as supply chain bottlenecks remain persistent. He added that those bottlenecks, as well as energy price increases, had created an inflation framework that the Fed’s “patient” approach was not designed for and that the Fed was prepared to “use our tools to preserve price stability”.3 We also saw US rate volatility spike 14.9% last week, the highest level since February. The market now expects an 18 basis points (bps)4 hike by June next year.

Last weekend, Bank of England (BoE) Governor Andrew Bailey said that the UK central bank would “have to act” to deal with rising energy costs in Britain, which threaten a surge in consumer prices. UK money markets began to price in a hike before the end of the year. Markets began to price a 21 bps interest hike in November, which represented the first 15 bps hike, plus the possibility of a surprise hike of either 25 bps or 40 bps. Economists are split on whether it will ultimately be wage growth or inflation expectations which are the key driver behind any decision. We also cannot forget the impact Brexit is having on labour shortages, trade disruptions and goods checks and the resultant effect this has on particular data points which may impact monetary policy decisions.

On Thursday this week, we have the ECB meeting and interest rate decision. The market now prices in a 40 bps hike by the end of 2023. We have heard comments from committee members lately which suggest a slight shift in mindset around whether inflationary pressures are becoming less transitory. Thursday’s meeting will likely see the ECB set the foundations for the important decisions at the December meeting on asset purchases. We can expect Christine Lagarde to reassert her view that high inflation readings are likely to be temporary, but with inflation expectations now at 2% that view is becoming more difficult to maintain.

Given the evolving market conditions, we have seen a number of investment banks update their strategy notes on European equities over the last few weeks—with caution setting in amid corporate earnings season and stagflation a noted concern.

Week in Review


The focus shifted last week in European equity markets towards the latest round of corporate earnings, but the same underlying themes persist. For the STOXX Europe 600 Index, 16% of companies reported earnings last week, and so far, earnings have surprised to the upside. Of those that have reported, 68% have beaten earnings-per-share (EPS) estimates, and revenue growth has also been better than anticipated.

This week, 35% of European companies are scheduled to report. So far, corporate earnings have painted a rosier picture for European equities at a time when a number of macro themes are keeping investor sentiment in check. Thus, there are many questions over what is next for European equities as markets continue to show resilience despite a series of headwinds. The defensive-led rally fuelled the STOXX Europe 600 Index to close the week up 0.5%.

Value stocks sold off last week as investors shifted into momentum. The European Value index closed the week down 3.0%, with momentum stocks up 0.4%. Another key theme was around the reopening trade with “going out” stocks down 4.3%, and “stay at home” stocks up 2% in Europe. As COVID-19 cases spike again in the United Kingdom, fears around a new variant of the virus has raised concerns around international travel over winter. Despite that, COVID-19-related newsflow continues to be encouraging overall.

There was a defensive skew to sector performance last week; defensives closed the week up 1.6% overall. Utilities, health care and personal and household goods were higher, whilst basic resources struggled; volatility continues in that space with China announcing intervention in the coal markets. Travel and leisure stocks also struggled on renewed COVID-19 fears.

Eurozone and UK Purchasing Managers’ Index (PMI) reports came in on last Friday. For the eurozone, services came in slightly behind expectations at 54.7, down from 56.2 previously. Manufacturing PMIs were better than expected at 58.4. UK PMIs came in better than expected, with the manufacturing PMI at 57.7 and services PMI at 58. October PMI data highlighted a robust increase in UK private sector business activity, with growth the strongest for three months.

United States

US equity markets showed resilience last week and pushed onto fresh all-time highs, with the S&P 500 Index up1.6%. Last week, focus was on commentary from the Fed, together with corporate earnings. Weekly fund flow data saw US equities’ largest inflow in five weeks and US markets had seven consecutive days of gains until a small pullback on Friday. With the move higher last week, the S&P 500 Index is comfortably above its 50-day moving average, a technical support level it had fallen through recently.

Sector performance was a mixed bag, with health care and financials the best performers, while communication services and consumer staples were the worst. Growth outperformed value (despite the strength in the financials) as some of the technology heavyweights outperformed—the FANG+ Index5 was up 3% on the week.

It seems equity investors are happy to look past recent concerns over inflationary pressures and focus on factors such as lingering central bank liquidity tailwinds, elevated profit margins, buybacks and strong corporate and consumer balance sheets. Earnings reports have been reassuring. With some 25.5% of the S&P 500 Index’s market capitalisation (cap) reporting, overall, earnings are beating estimates by 13.7%, with 83% of companies topping projections.

Looking to Washington DC, it appears that President Joe Biden’s administration is closer to a deal on a social spending package worth US$2 trillion. House leader Nancy Pelosi confirms that the Democrats are “pretty much there now” in terms of agreement on a social spending package.

On the inflation front, over the weekend, Treasury Secretary Janet Yellen said she expects price increases to remain high through the first half of 2022 and the current situation reflects “temporary” pain. In addition, she said: “I don’t think we’re about to lose control of inflation”.

Looking ahead, this week will see a glut of US earnings, with results from 156 companies representing over 43% of the S&P 500 Index’s market cap, including the largest five stocks (AAPL, MSFT, AMZN, GOOGL and FB).

Asia and Pacific

Asian equities were mixed overall last week, but the MSCI Asia Pacific Index still managed to close the week up 0.9%. Focal points included Chinese macroeconomic reports, Evergrande’s coupon payment and a surge in inflation in New Zealand to a 10-year high.

Chinese third quarter (Q3) gross domestic product (GDP) grew 4.9% year-on-year, missing expectations and lower than growth of 7.9% the previous quarter. Activity data was mostly softer than expected, with September industrial production coming in at 3.1% growth year-on-year, vs. 5.3% in August. Several categories are now in decline in China. Steel products, cement, autos and mobile communication devices were all lower.

Bloomberg reported economists have downgraded their forecasts for China’s economic growth for this year after a weak Q3, and there are signs a further slowdown could be ahead in the coming months. The biggest revisions are coming from those previously projecting 2021 growth in the upper 8% to low 9% range.

Evergrande avoided a technical default last week, as it repaid a missed interest payment on a dollar bond just days before a deadline that would have forced a formal default. Chinese state media reported on Friday that the real estate group had transferred a US$83.5 million interest payment to Citibank, the trustee, on Thursday, and that the funds would be paid to investors before the grace period expired at the weekend. Evergrande has four more payments due on dollar notes this year, while known proposals for major divestments to raise cash have so far fallen through. The company later said it had made no significant progress on asset sales.

In another sign that inflationary pressures persist, New Zealand’s Q3 Consumer Price Index (CPI) came in at a 10-year high of 4.9% year-on-year, up from 3.3% in the second quarter (Q2) and well above consensus expectations. Data has reinforced expectations of further Reserve Bank of New Zealand (RBNZ) tightening, likely coming next month. Housing-related costs were the biggest inflationary drivers there. Businesses continue to face elevated cost pressures amid economy-wide capacity constraints.

Week Ahead

Macro highlights

Monday 25 October            

  • Germany IFO Survey
  • Bank of England’s Silvana Tenreyro is due to speak on supply chains at an event hosted by CEPR and the central bank.
  • US Dallas Fed manufacturing survey

Tuesday 26 October         

  • Spain Producer Price Index (PPI)
  • Japan PPI
  • ECB’s Francois Villeroy de Galhau speaks at a sustainable finance event in Paris.

Wednesday 27 October   

  • UK Budget
  • France PPI
  • France total jobseekers
  • US Durable goods
  • Chinese industrial profits
  • Australia CPI

Thursday 28 October   

  • ECB policy meeting
  • Bank of Japan policy balance rate
  • Spain CPI & unemployment rate
  • Eurozone consumer confidence
  • Italy PPI
  • Germany CPI
  • US GDP and jobless claims
  • Japan retail sales

Friday 29 October    

  • France GDP and consumer spending and CPI
  • Spain GDP and retail sales
  • Germany GDP
  • Italy GDP
  • Eurozone GDP

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1. Indices are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.

2. CNN’s Fear & Greed Index tracks seven indicators of investor sentiment. Data as of 20 September 2021. Indices are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.

3. Source: Reuters, “Time for Fed to taper bond purchases but not to raise rates, Powell says”, 22 October 2021.

4. One basis point is equal to 0.01%.

5. The NYSE FANG+ tracks the performance of 10 highly liquid stocks that represent the top innovators across today’s tech and internet/media companies. Indexes are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.

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