Well the bad news is that summer is nearly over. the good news is that summer is nearly over.
Markets have had a turbulent week over fears that trade wars aren’t being resolved, Brexit isn’t being sorted and bond yields are falling. All of this was happening before the summer holidays too, it’s just those that are left at our desks have less to distract us and are therefore more inclined to over think things! Luckily, as we’ve gone through the Asian session this morning, we’ve seen stock markets stabilise and no great swings in the bond markets – which hopefully bodes well for Europe and US to close out the week without more losses (famous last words?)
The negative yield story was pretty much all that was on the financial TV screens yesterday, as bond yields continue to push lower and there’s now more than $16trillion worth of debt in Europe that carries a negative coupon (costs you to lend your money). That is a huge number and is likely to get larger as interest rate cuts look likely to be a foregone conclusion pretty much everywhere, whether they are warranted or not.
Mohamed El Erian made the point earlier in the week that rates in the US don’t need to be cut as the economy is doing well and the talk of a recession this year is completely overblown. The US is creating jobs, wages are growing ahead of inflation and the savings rate is good (albeit disproportionately skewed to higher earners) and the real risk to the consumer is the self-fulfilling prophecy that they read the headlines, get nervous and stop spending which would be a huge and unnecessary blow.
Another point he made is that the US economy is actually pretty well insulated from the outside world, but the market isn’t. It’s this lack of distinction that he thinks is the reason the ‘inverted yield curve’ might not be so accurate in predicting a recession this time round.
The US market is being subjected to huge outside influences – such as negative yields in Europe – and as such the pricing in the US bond market is being imported which makes it artificially lower than it needs to be. The problem is that policy makers are reacting to this and adapting to suit the market and not the economy, which he argues will lead to far greater issues further down the line. What needs to be done (and has needed to be done globally since the beginning of the decade) is fiscal reform whilst money is cheap and place the emphasis on governments and not central banks to stabilise the global economy – he suggest with an infrastructure project, which the US sorely needs!
Now, about those outside influences… The ECB is set to launch a “substantial and sufficient” programme at its September meeting – which means bringing back QE and cutting rates. This package is designed to exceed market expectations according to Olli Rehn (though surely if you tell them what they’re getting, the expectation then goes up?). who says that “when you’re working with financial markets, it’s often better to overshoot than undershoot”.
This may be what’s going to happen, but what needs to happen is Germany need to get spending! Germany has plenty of external pressures that are out of its control, argue the Economist, such as China’s demand for its products and Trump threatening tariffs on its cars, but what it can do is open the cheque book domestically for infrastructure, tax cuts on low paid workers, get local governments out of debt and gear up for future changes (like climate change). Germany is the biggest trade partner for pretty much everyone in Europe and seeing them taking big steps would probably give a feel good factor to a lot of others, which might be as significant as cutting an already low interest rate – and them spending an extra €100bn against bankable infrastructure projects is probably a safer bet than dabbling further with negative rates across the entire bloc!
Over to the UK, where we seem to be getting closer to a trade deal with the US (that’s according to the Donald at his political rally in New Hampshire yesterday. No surprises, the deal is going to be “fantastic” and it’s going to be “big” (no word on “beautiful” as yet, but let’s assume that too). The downside is that we are going to have to accept US food standards, or lack thereof. The BBC has a piece on what’s being said by John Bolton, who thinks to speed things up it should be negotiated on a sector by sector basis.
Other than that there’s been no real political progress in Brexit, other than more disagreement on how to stop Boris from getting us out sans deal. The Pound actually made a bit of a recovery yesterday, but that’s a very relative term and probably only did so because the market is so short Sterling overall that any one buyer is likely to move things considerably.
As we said, Asia recovered a bit overnight and Europe is looking pretty flat on the open, so maybe a quiet end to a volatile week – we live in hope.
Have a great weekend