QUO VADIS?
The main equity indices gained ground last week, with cyclicals outperforming. Oil prices similarly rose sharply as the supply glut no longer appears as high as expected. The steady upswing in share prices, beginning in late March, can be partly explained by the slowing rate of new Covid-19 infections in developed countries, the hopes pinned on a vaccine and the upturn in economic indicators. But the main reason has been the abundant liquidity provided by central banks.
Trade and political tensions have returned to the fore amid renewed protectionist bluster – between the US and China and between the UK and the EU. This has sent the yuan to its lowest level since 2008, trading at 7.14 against the USD, and dragged down GBP on the foreign exchange market. The proposed Hong Kong Security Bill, announced last Thursday by China, aims purportedly at strengthening enforcement mechanisms for protecting national security. This news has hit equity markets by raising concerns about Hong Kong’s status as a global financial centre. Washington has promised to respond sternly by imposing sanctions on any entity seeking to restrict Hong Kong’s autonomy. The US Senate has also passed legislation banning the listing of Chinese companies on the US stock exchange if they have not abided by US auditing and accounting rules for three consecutive years beforehand.
Purchasing managers indices remained sharply in the red but recovered to a greater degree than expected in May – to 30.5 for the Eurozone (vs. 13.6 in April) and to 36.4 in the US. Weekly jobless claims in the US amounted to 2.44 million, resulting in a seasonally adjusted insured unemployment rate of 17.2%. Part of the Federal Reserve’s remit is supporting employment; and while it cannot intervene directly, it acts through financial markets by pushing down interest rates and buying up securities. In the space of 12 weeks, the Fed’s balance sheet has expanded at practically the same rate as between 2008 and 2012. These drastic monetary measures are artificially inflating capital and encouraging borrowing. Investment-grade bond issuance since March has almost doubled to more than USD 1 trillion compared with the same period in 2019. The question is whether the market recovery is sustainable ahead of a possible ‘second wave’ of the pandemic and considering the more cautious spending trends
among consumers.
China dropped its GDP growth target for 2020 because of the uncertain outlook on the Covid-19 pandemic and world trade. As the country seeks to stimulate the economy, the budget deficit as a percentage of GDP is set to increase to 3.6% this year from 2.8% in 2019. It also reiterated a commitment to follow through with phase 1 of the trade agreement signed with the US.
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