Market Overview|Quilter Cheviot

Fed remarks reassure investors

Market Overview | Quilter Cheviot

By Alan McIntosh, Chief Investment Strategist

The surest sign yet that the Federal Reserve (Fed) are set to imminently slow the pace of their interest rate increases was cheered by investors last week, with the MSCI All Country World Index rising 1.4% on the week and closing out November with a 7.8% gain.

Comments from Fed chair Jerome Powell at the Brookings Institution, Washington DC, had an immediate impact on markets with not only equities rallying but bond yields falling lower. Derivatives markets swiftly priced-in a 50 basis points increase at the Fed’s December meeting, after the last three policy decisions have all seen 75 basis point rate increases. Overall, it was not a strong dovish communication from Powell, but rather the absence of any clear hawkish hints which caused the positive market reaction.

US large cap indices rose around 1.2% on the week, with tech benchmarks outperforming and adding 2.1%. The moves were threatened by Friday’s strong US jobs number, after which the market unwound a fair chunk of the post-Powell move, but the retracement proved relatively short lived as stocks recovered into the weekend to end pretty much flat for Friday.

Nonfarm payrolls data showed 263k jobs added to the US economy in November, significantly above the 200k consensus forecast, while the unemployment rate remained at 3.7%. Seasonality played a role with a good chunk of the new roles in the hospitality sector. There was also an upward revision of 23k to the previous month’s payrolls data, leaving it at 284k jobs added for October.

Stronger than expected wage growth was arguably the bigger concern for investors after average hourly earnings rose by 0.6%, month-on-month, the fastest monthly pace of increase since the February release. The year-on-year figure was 5.1%. The strong wage growth was particularly concentrated in transport, which is seen as good news as it is reflective of the vagaries of one area, rather than being widespread across the board.

The US 10-year Treasury yield ended Friday at 3.49%, down by 19 basis points on the week and 44 basis points lower for November. European government bond yields have also been moving lower, benefitting from euro area inflation slowing more than expected in November as well as Jerome Powell’s remarks. The euro area consumer price index showed a 10.0% rise year-on-year, less than the 10.4% consensus forecast and also down on the previous month’s figure, which now stands at 10.6% following a 10 basis points downward revision. Encouragingly, inflation decelerated in 14 of the 19 eurozone member states.

The German 10-year bund yield ended the week at 1.85%, decreasing by 12 basis points. UK government bond yields ended little changed on the week, with the 10-year gilt yield finishing Friday at 3.15% after posting a 35 basis points decline in November. European equities gained last week, although they lagged global peers a little. Euro area benchmarks ended the week around 0.5% higher, up 9.7% for November while UK equivalents advanced 1.0% on the week, closing out November with a 7.1% gain and moving them back into positive territory on the year.

US dollar softens

Some of the underperformance of European equities last week can be explained by headwinds from currency movements as sterling and the euro hit five-month highs against the US dollar. In November, growing expectations of a slow down in Fed interest rate increases caused the US dollar to experience its largest monthly decline since 2010, with the Japanese yen the G7 currency appreciating the most against the greenback.

The yen fell to a 32-year low against the US dollar in October but has since appreciated more than 10%. Unlike other major central banks, the Bank of Japan (BoJ) have remained steadfast in their commitment to strongly expansionary monetary policies as the country has largely avoided the high inflation seen in many of its peers. Japanese stock benchmarks declined last week by around 1.8% and ended November up by 1.4% as exporters were adversely impacted by yen strength. The yield on the Japanese 10-year government bond moved little last week, broadly unchanged near the implicit BoJ policy cap at 0.25%.

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