Market Bulletin - A yen for growth
As US indicators and Fed comments raised expectations of a rate rise, Japan posted strong economic growth for the first quarter.
The architect of the Bank of Japan building in Tokyo, completed in 1896, spent 14 months travelling around the West before finalising his design for a neo-Baroque landmark in Tokyo. Last week, scrutiny turned in the opposite direction.
Japan reported that its economy had grown at 1.7% in the first quarter year-on-year – far above expectations. Some had feared a second consecutive quarter of negative growth, which would have placed the country technically in recession. While investment dipped – partly on a strong yen – consumption rose significantly, which will gratify both the government and the Bank of Japan (BoJ). Last week the Nikkei 225 rose 2%, leading the way on global markets.
Had the data been bad, the government of Shinzo Abe was expected to introduce a major fiscal stimulus to boost growth. Yet despite the encouragements, the Bank of Japan remained poised to act. A currency official said last week that yen intervention remained on the table – the chair of the BoJ made a similar statement on Thursday.
Such comments are stoking resentment in the US, where Washington fears the potential for a global currency devaluation war, should Japan force down the yen too far – on Friday, a US Treasury official said that there would be no scenario that would justify an artificial weakening of the yen. Late last week finance ministers of the G7 countries had already gathered at Ise-Shima, southwest of Tokyo, for their annual gathering, with their leaders due to follow. Currencies are on the agenda.
Given pressure on manufacturing jobs in the US, exchange rates are a deeply political issue. Barack Obama is still relying on Congress to expedite the Trans-Pacific partnership, a landmark trade deal signed by 12 countries (including Japan) that together account for 40% of world GDP. Last week the president spoke out against the protectionist rhetoric employed by Donald Trump – the US election throws up another potential threat to global trade, and so to the corporate outlook.
The S&P 500 rose just 0.39% last week, although it might have fallen had news not emerged that Warren Buffett recently invested $1 billion in Apple, despite disappointing recent results – a surge of fresh money flowed into Apple following the news. US indicators flashed largely positive last week. Industrial output recovered and inflation rose at its fastest pace in three years in April. The good news, however, raises the likelihood of an imminent interest rate rise. The expectation was heightened because minutes of the April meeting of the Fed (published last week) showed the committee to be feeling more hawkish than generally assumed.
"Most participants judged that if incoming data were consistent with economic growth picking up...then it likely would be appropriate for the committee to increase the target range for the federal funds rate in June," the minutes recorded. The chairs of the reserve banks of New York and Atlanta both made comments that added to expectations that the world’s dominant central bank is likely to raise rates in the summer. Market pricing of the probability of a summer rate hike quickly rose from 4% to 30%.
Black and gold
One of the major factors affecting the US and global outlook in recent weeks has been the oil price. The upward trajectory of the price of crude was an important factor in the rise in US inflation. Figures published last week show that US demand for ‘black gold’ is soaring – consumption reached its highest weekly total since 2007. Inevitably, some of the demand surge has come from increased employment, but demand is also growing in India, China and Russia, according to the US’s Energy Information Administration.
Other commodities fared less well. Last week the price of copper fell to its lowest level since February; it has fallen more than 7% in May. The new head of Antofagasta, the large Chilean miner listed in London, last week predicted two years of low prices for the metal. Indeed, demand for commodities and manufactured materials is suffering more broadly, despite falling freight rates. Global shipping is currently suffering the worst downturn in its 60-year history, largely due to overcapacity.
Gold, on the other hand, remains expensive as investors continue to seek safety. Last week London, capital of the global bullion trade, received a shot in the arm when China’s largest state-owned bank bought a gold vault in the city. But gold tends to buck the trend in metals, and when it dropped later in the week, the commodities-sensitive FTSE 100 crept in the other direction, aided by some good figures for industrial orders. The index ended the week up 0.29%.
Nevertheless, the more significant movements of the week came in sterling and gilts and were driven by polling numbers. Results from a Comres poll published last week showed the Remain camp significantly ahead – 52% to Vote Leave’s 41%. Sterling immediately rallied more than 1% against the dollar while demand for gilts fell rapidly, as markets expect the Bank of England to keep interest rates lower for longer in the event of a British vote to leave the EU.
Mark Carney, governor of the Bank of England, is in Japan for the G7, but before leaving he told press that he had “absolutely not” overstepped his remit when he warned that a British exit could lead to a recession. Publication of the Fed minutes last week showed that the US central bank had identified a British exit from the EU as a short-term risk factor. A Treasury report last week warned that Britain faced a risk of recession in the event of an exit from the EU, and George Osborne said that house prices would fall by 18%.
The rate of inflation dipped slightly last month, but there were encouragements in retail too, as Mothercare declared its first profits in five years and Vodafone saw its first full year of growth in service revenues and core earnings since 2008. Taylor Wimpey, one of the UK’s biggest housebuilders, announced that it will increase its dividend. Housebuilders continue to prosper despite the threat of a British exit, but the real estate sector is lagging, especially at the high end.
The travel sector’s struggles were thrown into sharper relief last week when an Egypt Air flight from Paris to Cairo downed in the Mediterranean Sea. In the same week, shares in Thomas Cook fell nearly 20% to a three-year low after it warned that full-year earnings for 2015 would be at the bottom end of expectations, in great part due to fewer bookings for Turkish holidays. Meanwhile, the chief executive of Eurostar said that train bookings from London to Paris and Brussels had dipped due to recent terrorist attacks – although largely due to slack demand from non-Europeans.
“The three big risks at the start of the year were terrorism hitting travel and leisure, Brexit and the outlook for capital-intensive companies like miners,” said Chris Reid of Majedie Asset Management.
European companies continued to raise funds on bond markets last week, after the recent ECB promise to buy corporate bonds in the summer lowered yields. After suffering early in the week, partly on concerns about US rates, the FTSEurofirst 300 received a commodities boost on Friday and ended the week up 0.8%. Yet uncertainty remains over how quickly the IMF and EU can come to a deal over Greek debt. There will much to talk about in Ise-Shima this week.
Majedie Asset Management is a fund manager for St. James’s Place.
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