Notes from the Trading Desk – Europe

The digest

Last week equities markets were positive as investors digested a glut of corporate earnings and await several central bank decisions later this week. US stocks outperformed, with earnings a key driver for stock performance throughout last week. It felt quieter in terms of macro news flow, with so much of Asia closed for Chinese New Year and with the Fed in its blackout period. On the week, the MSCI World Index was up 2.2%, the STOXX Europe 600 Index was up 0.7%, the S&P 500 Index was up 2.5% and the MSCI Asia Pacific Index was up 2.1%.¹

Central banks in focus

This week, investor focus is firmly on central bank meetings, with the Federal Reserve’s (Fed’s) policy meeting on Wednesday, and Bank of England (BoE) and European Central Bank (ECB) on Thursday. These meetings face greater scrutiny, given we have seen signs of inflation peaking in several regions, leading to hopes we may soon see a tilt from some central banks.

The Bank of Canada (BoC) met last week, ahead of the trio of aforementioned central bank meetings, and became the first G10 central bank to suggest it could slow down its hawkish trajectory. The BoC stated that “there is growing evidence that restrictive monetary policy is slowing activity, especially household spending….The governing council expects to hold the policy rate at its current level while it assesses the impact of the cumulative interest rate increases.”²

Fed: Market consensus is for a slowing in the pace of interest rate hikes, with a 25 basis point (bp) rate hike on Wednesday anticipated. This would take the Fed’s policy rate range to 4.5% – 4.75%. Numerous Fed speakers suggested this before the Fed entered its pre-meeting blackout period, so a different outcome would be a shock. If the rate hike is in line with expectations, the market will be focused on any change in language in the Fed’s official statement, or signals regarding the path of future rate hikes at the press conference with Fed Chair Jerome Powell.

The labour market will be crucial to the Fed’s thinking. US labour conditions remain extremely robust, and any significant weakening in the labour market would likely give the Fed pause in terms of its hawkish path. With that in mind, the release of the January US employment data on Friday will be an important data point to watch. This will be a key barometer for measuring how successful the Fed will be in steering inflation towards 2%, whilst avoiding a hard recession.

ECB: Consensus expectations are for a 50-bps rate hike, taking the ECB main refinancing rate to 3%. Several ECB members have queued up in the last two weeks to outline their hawkish stance. For example, ECB President Christine Lagarde said policymakers must not let up in their battle with inflation, even as the price appears to have peaked, telling a panel at Davos that “we have to stay that course of resilience we observed in 2022”.³ Recall, the ECB is seen by many to be “playing catch up” as it started to lift rates later than other central banks. The suggested guidance of two 50 bps hikes is largely in line with market pricing.

As we kick off trading this week, the market is digesting some mixed macro data from Europe. Hawks will focus on the higher Spanish Consumer Price Index (CPI) data, with consumer prices in the bloc’s fourth-largest economy rising by 5.8% year-on-year, slightly above December’s 5.5%. Core inflation (which excludes food and energy) also climbed to a new record high of 7.5% from 7.0% previously. On the flip side, German fourth-quarter gross domestic product (GDP) came in worse than expected, at -0.2%.

Thursday’s ECB meeting will also provide more information on the central bank’s quantitative tightening plans, due to start next month.

BoE: The market consensus is for a 50-bps rate hike, taking the policy rate to 4% (vs. 0.1% in 2021). However, some observers think the BoE will opt for a more dovish 25 bps hike. It feels as though the United Kingdom is in a more uncertain situation, with weak macro data and inflation appearing to have peaked but remaining high (CPI 10.5% at last reading). However, BoE Governor Andrew Bailey has stated that inflation is likely to “fall quite rapidly this year, probably starting in the late spring…”⁴ prompting some analysts to predict a milder 25-bp rate hike.

The market is actually now pricing in a rate cut by the end of 2023.

The week in review

Europe

Last week, the STOXX Europe 50 Index continued its best-ever yearly start, as cyclicals led the way once again. The STOXX Europe 600 Index closed last week up 0.7%. European stocks continued to follow their year-to-date pattern as cyclicals notably outperformed defensives. This rotation now eclipses the November 2020 market rotation that the COVID-19 vaccine breakthrough had triggered. Last year’s underperformers are up year-to-date. Earnings season was the clear focus for markets last week, with earnings reports very mixed so far.

After ending their long run of weekly outflows last week, Europe-focused equity funds saw another inflow this week, with flows of US$3.4 billion into the region.⁵

The year-to-date rotation is still clear when we look at sector performance. Tech stocks outperformed last week, with semiconductors rallying following a positive earnings update for STMicroelectronics, which showed there has been no slowdown in demand. Note, the US Nasdaq Index rose 4.7% last week, so US tech moves helped European stocks, too. Auto stocks were also strong after some positive earnings on Friday helped the auto parts makers. Diminishing odds on a European recession helped bank stocks. Meanwhile, defensives lagged, with utilities, health care and food and beverage stocks lower overall. In terms of other notable movers, European Luxury stocks have been outperformers  year-to-date, along with highly leveraged stocks.

Earnings reports are just getting started, but so far, we have witnessed upside surprises in three out of the four key metrics. Consumer discretionary and consumer staples have been the best-performing sectors and health care has been the worst-performing sector. We have a big week or earnings reports ahead, with 74 of the STOXXX Europe 600 stocks reporting either earnings or sales, so we expect a big week ahead of micro and macroeconomic catalysts.

Looking at macro data, Purchasing Managers Index (PMI) data was a key focus last week, with data from Europe and the United Kingdom diverging somewhat. The euro-area composite PMI jumped from 49.3 to a seven-month high of 50.2 in January. In contrast, the UK composite PMI came in at 47.8.

United States

US markets traded higher last week ahead of the upcoming central bank announcements. The S&P 500 Index closed above 4000, breaking quite firmly above its 200-day moving average, a key technical resistance point. Market bulls prevailed last week, with the main talking points revolving around disinflation momentum, a further slowdown in the pace of Fed tightening, soft-landing hopes, as well as easing cost and supply chain pressures. Cyclicals outperformed defensives last week.

Of note, Tesla shares jumped 33% last week, marking its best weekly performance since May 2013, after reporting better-than-expected fourth-quarter profits. Elsewhere, Microsoft recovered ground to finish the week up 3.3% after warning of a further slowdown in its cloud-computing business.

Bulls celebrated the market momentum at the start of the week. The CNN Fear and Greed Index moved further into Greed territory last week, whilst Bank of America’s Bull and Bear Indicator inched away again from Extreme Bearish territory. ⁶ However, other surveys show some investors remain cautious about committing new funds to stocks.

Corporate earnings picked up pace again last week, with a few notable reports. Roughly 38.6% of the S&P 500’s market cap has reported so far, with earnings beating estimates overall. Growth stocks are delivering stronger revenue and earnings-per-share growth versus value stocks. This week, 107 companies representing 30.5% of the S&P 500’s market cap will report results, including Apple, Alphabet, Amazon, ExxonMobil, Eli Lilly, Pfizer, Merck and Meta. February 2 is a significant day for US earnings reports, especially the tech sector, coming a day after the latest Fed announcement.

Recent US macroeconomic data appeared to show an improvement too. The core personal consumption expenditures (PCE) report fell to +4.4% vs. +4.7% in the previous report. The Composite PMI number came in ahead of estimates at 46.6. The University of Michigan Sentiment survey improved to 64.9, whilst inflation expectation continued to fall. Fourth-quarter US GDP was also better-than-expected, coming in at +2.9%. December durable goods also beat estimates, coming out at +5.6%. The Philadelphia Fed Index came in at -6.5, not as bad as feared. Finally, pending home sales logged month-on-month growth for the first time in seven months, coming out at +2.5%.

Asia

Last week was a stronger, albeit much quieter week in Asia as China was closed due to the Lunar New Year holiday. Hong Kong’s market reopened on Thursday and closed its shortened two-day week up 2.92%, and the Shanghai Composite reopened today up 1.3%.

Stats out of China were positive over the holiday, with more of the population returning to normal in the less restrictive environment.

In India, the Adani Group saga continues, with selling across the board in Adani companies after NY short-selling firm Hindenberg released a scathing research report. The Adani group has now lost about US$66 billion of its market value.

All eyes will be on the central banks in the United States and Europe this week to set the tone and direction of markets.

Hong Kong’s market rose amidst the shortened week on strong tourism and spending data. Auto stocks rallied on the back of TSLA’s strong earnings and good outlook for the electric vehicle sector. Chip names were weaker on Intel’s lower guidance. Finally, photovoltaic stocks were weaker on the news that China is considering an export ban to protect solar tech dominance.

China’s Ministry of Transport released some positive data regarding the holiday period, as many enjoyed a break free from COVID restrictions. All numbers in regards to travelling were up massively.

However, savings levels per household remain elevated, Chinese consumer spending is expected to remain restrained in the near term.

The Financial Times reported that shipping cancellations at China’s largest ports have increased amid weaker overseas demand.⁷ While cancellations during the Lunar New Year are normal, this year’s rate will likely be elevated as external demand wanes.

Japanese stocks were strong last week, with the Nikkei closing up 3.12%, as anticipation for positive earnings motivated investors.

Positive fourth-quarter 2022 macro data out of the United States helped sentiment too, raising hopes of a “softer landing”.

Tokyo January CPI came out stronger-than-expected at 4.3%, which puts further pressure on the government to tighten its loose monetary policy.

The Summary of Opinions at the BoJ’s recent Monetary Policy Meeting concluded that it is necessary for the bank to take some time to examine the effects that the modification of yield curve control (YCC), decided at its December meeting, has on market functioning. It stated that it is appropriate to continue with monetary easing at this point, although it is necessary to examine this at some point in the future and assess the balance between positive effects and side effects. These comments continue to fuel rumours of a policy pivot.

As a reminder, BoJ Governor Kuroda’s term of office finishes in April, which may represent an opportunity for PM Kishida to “reset the clock” by appointing a new governor that will ease off on the central bank’s dovish stance.

Looking at sector performance last week, steel stocks led the way higher, followed by machinery, banks and chemicals stocks. Shipping stocks dropped amidst overseas cooling.

The week ahead

As covered already, central banks will be front and centre with the Fed, ECB and BoE.  Before that, we have euro-area GDP figures, euro-area inflation and UK housing data. The week ends with the important US monthly jobs data. In Asia, the fourth-quarter earnings season will likely continue to be a key driver of markets in the coming week.

Monday 30 January    

• Spain: HICP Inflation
• Germany: GDP

Tuesday 31 January

• UK: Net Consumer Credit/Lending Sec. on Dwellings (Dec), Consumer Credit (Dec), Mortgage Approvals (Dec), Money Supply M4/ Ex IOFCs 3M Annualised (Dec)
• Spain: HICP Inflation
• Germany: 4Q GDP, HICP Inflation
• France: GDP, HICP Inflation
• Italy: GDP
• Euro area: GDP
• US: Employment Cost Index, FHFA House Price Index (Nov)
• China PMI data

Wednesday 1 February

• UK: Nationwide House Prices
• Euro area: CPI Inflation Estimate
• Italy: HICP Inflation
• US: MBA Mortgage Applications (Jan), Construction Spending (Dec), FOMC Rate Decision Lower Bound/Upper Bound (Feb), Interest on Reserve Balances Rate (Feb)

Thursday 2 February    

• US: Initial Jobless /Continuing Claims (Jan), Factory Orders Ex Trans (Dec), Durable Goods Orders/Ex Transportation (Dec), Cap Goods Orders Nondef Ex Air (Dec), Unit Labor Costs
• UK: Bank of England Bank Rate
• Euro Area: ECB Main Refinancing Rate/ Marginal Lending Facility/ Deposit Facility Rate
• Germany: Exports/Imports/Trade Balance

Friday 3 February

• France: Industrial Production, S&P Global France Services PMI.
• Ukraine and the EC hold a summit to discuss Kyiv’s integration in the bloc, with Ursula von der Leyen and Charles Michel expected to attend.
• US: Two-Month Payroll Net Revision (Jan), Change in Nonfarm/Private/Manufact. Payrolls (Jan), Unemployment Rate (Jan), Average Hourly Earnings/Weekly Hours All Employees (Jan), Labor Force Participation/Underemployment Rate (Jan)
• China Caixin PMI

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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. Source: Bank of Canada press release, 25 January 2023,

3. Source: Bloomberg, “ECB’s Lagarde says staying the course is her policy mantra.” 20 January 2023.

4. Source: ES Evening Standard, :Bank of England governor Andrew Bailey tips inflation to fall ‘quite rapidly’ in late spring.” 19 January 2023.

5. Source: BofA Global Investment Strategy, EPFR.

6. The Bank of America Bull & Bear Indicator is a measure of trader sentiment. CNN’s Fear & Greed Index tracks seven indicators of investor sentiment. Indices are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges.

7. Source: Financial Times. “Shipping hurt by weak demand for Chinese goods”, 24 January 2023.