Markets & Economy

Global Markets Weekly Update

June 15, 2018

Review the performance of global stock and bond markets over the past week, along with relevant insights from T. Rowe Price economists and investment professionals.

U.S.

Indexes end mixed

The major indexes ended mixed. A drop on Friday erased gains for the Dow Jones Industrial Average and the S&P MidCap 400 Index, while the technology-heavy Nasdaq Composite and small-cap Russell 2000 indexes were able to remain in positive territory. The S&P 500 Index was virtually unchanged. The Nasdaq, S&P MidCap 400, and Russell 2000 all managed to set new record highs during the week before falling back Friday. Within the S&P 500 Index, consumer discretionary and utilities stocks performed best, while energy, financials, materials, and industrials shares recorded steep losses.

Investors appear unmoved by geopolitics

Stock prices fluctuated within a small band for most of the week—a notable contrast to the volatility of recent months—as investors seemed largely unmoved by a series of important macroeconomic events and data. In particular, the summit between North Korea and the U.S. on Monday seemed to have little impact on markets, perhaps because details of North Korea’s promised denuclearization remained to be finalized.

Stocks had a larger reaction to the Federal Reserve’s policy meeting on Wednesday. Officials decided to raise the federal funds rate by another quarter point, as expected, but stocks fell after policymakers offered a slightly more hawkish outlook for coming hikes. According to the Fed’s “dot-plot” survey of individual policymaker’s rate expectations, one more official now expects a total of four rate hikes in 2018, rather than three. Disquiet over the prospect of a faster pace of rate hikes in the U.S. may have been offset by a somewhat more dovish tone from the European Central Bank (ECB) during the week. The Fed’s change in tone had more of an impact on emerging markets (see below).

Retail sales are strong, but consumers are turning to credit

The week's economic data was generally positive, which may have assuaged rate concerns. On Tuesday, the Labor Department reported that headline inflation in May had reached 2.8% on a year-over-year basis, its highest level since 2011. The rise in oil prices deserved much of the blame, however, and core (less food and energy costs) remained roughly in line with the Fed’s target of 2%. Retail sales data delivered more of an upside surprise. Core retail sales (excluding sales at automotive dealers, building materials stores, and gas stations) rose 0.6% in May, while previous months were revised higher. T. Rowe Price Chief U.S. Economist Alan Levenson observes that spending increases have been running ahead of income gains in recent months, causing a pickup in the use of credit and a decline in the savings rate.

Investors had a bigger reaction to trade news on Friday. The Trump administration announced that it was following through with an earlier threat to impose tariffs on imports of $50 billion worth of goods from China, which came on the top of earlier announced steel and aluminum tariffs. China quickly promised to respond with its own tariffs on a similar scale, which seemed to take a large toll on materials and industrials shares. Notably, the producer price index rose 0.5% in May as large jumps in prices for steel and aluminum impacted the reading.

Bonds: Muni demand strong overall, but investors shy away from long-term issues

The yield on the benchmark 10-year Treasury note briefly broke through the 3% threshold following the Fed meeting but ended slightly lower for the week. (Bond prices and yields move in opposite directions.) New issuance was limited again in the municipal market, prompting investors to search the secondary market in their hunt for yield and resulting in aggressive bidding for higher-yielding deals. Longer-term issues came under pressure early in the week, however, as demand was light even with dealer concessions.

The investment-grade corporate bond market was largely focused on central bank policy. Investor sentiment was mostly constructive in response to the differing messages from ECB (dovish) and Fed (hawkish) policymakers. The market also eagerly awaited news of the AT&T/Time Warner merger because of its implications for the technology/media and telecommunications (TMT) space and future issuance. Despite the headline-grabbing ruling approving the merger, spreads—or the additional yield offered over Treasuries with similar maturities—across the TMT sector did not shift dramatically.

The high yield market traded with a constructive tone for the most part. Technical conditions continue to be strong due to a lack of new issuance and positive flows to the asset class. Market participants were mostly on the sidelines ahead of the Fed’s decision, but the market subsequently traded slightly lower due to the spike in Treasury yields.

U.S. Stocks

 

Index

Friday’s Close

Week’s Change

% Change YTD

DJIA

25,090.48

-226.05

1.50%

S&P 500

2,779.42

0.39

3.96%

Nasdaq Composite

7,746.38

100.87

12.21%

S&P MidCap 400

1,992.11

-8.94

4.82%

Russell 2000

1,683.88

11.22

9.66%

This chart is for illustrative purposes only and does not represent the performance of any specific security. Past performance cannot guarantee future results.

Source of data: Reuters, obtained through Yahoo! Finance and Bloomberg. Closing data as of 4 p.m. ET. The Dow Jones Industrial Average, the Standard & Poor’s 500 Stock Index of blue chip stocks, the Standard & Poor’s MidCap 400 Index, and the Russell 2000 Index are unmanaged indexes representing various segments of the U.S. equity markets by market capitalization. The Nasdaq Composite is an unmanaged index representing the companies traded on the Nasdaq stock exchange and the National Market System. Russell Investment Group is the source and owner of the trademarks, service marks, and copyrights related to the Russell indexes. Russell® is a trademark of Russell Investment Group.

Europe

Most European equities ended higher, boosted earlier in the week by bank, mining, and energy shares. But T. Rowe Price traders noted that trading volumes were muted as investors apparently awaited news from the planned ECB meeting. The pan-European STOXX 600 Index finished nearly 2% higher, logging its biggest daily gain since last April, according to FactSet data, aided in part by a tumbling euro. By the end of the week, most key indexes lost ground as investors’ concern about an escalating trade dispute between the U.S. and China intensified. The UK blue chip FTSE index ended the week flat.

European Central Bank reduces asset purchases

Unperturbed by the recent softness in some economic data, the ECB sent an unexpectedly clear message: The bank intends to reduce asset purchases from €30 billion to €15 billion at the end of September and stop them by the end of December. Conversely, the ECB also vowed to wait until at least the middle of 2019 to begin hiking interest rates. Core eurozone government bond yields fell on the announcement. The German 10-year yield dropped around 10 basis points by the end of the week to around 0.40%. Bank shares sank and the euro fell against the dollar on the ECB’s announcements.

T. Rowe Price’s Chief International Economist Nikolaj Schmidt notes that the ECB moves were dovish relative to the market’s more hawkish expectations, which had been building following earlier comments by ECB Chief Economist Peter Praet that the ECB was getting ready to taper. Schmidt believes that the important points are the conditions attached to the taper as well as the fact that rates will stay steady through the summer.

Mixed economic data in the UK

UK gilt yields moved lower over the week as law makers voted on amendments to current Brexit legislation. Elsewhere, inflation in May came in at 2.4%, which was in line with the April level but shy of the 2.6% forecast. T. Rowe Price traders noted that the inflation numbers, which have fallen from their peak, lessened chances for an interest rate hike by the Bank of England in August. Retail sales were stronger than expected, with the May reading coming it at 1.3%.

Japan

Large-cap Japanese stocks posted gains, but small-caps edged lower. The Nikkei 225 Stock Average advanced 0.7% for the week and closed at 22,851.25 on Friday. The broader TOPIX Index also gained, but the TOPIX Small Index (stocks listed on the First Section of the Tokyo Stock Exchange, excluding the 500 largest-capitalization issues) declined slightly. The yen weakened, closing trading on Friday at ¥110.6 per U.S. dollar, which is about 2.0% stronger than the ¥112.7 level at the end of 2017.

Immigration policy shift equals more foreign workers in Japan

Bosses are feeling the labor shortage in Japan, which is prompting the government to create new five-year work permit categories for foreigners, according to Rueters. The revised rules would allow up to 500,000 “guest workers” into Japan to ease the workforce shortage. Typically, guest workers come to Japan on visas as students and trainees. A new “designated skills” residency category is expected to be approved later this year. It is focused on workers in shortage areas, including agriculture, construction, hotels, shipbuilding, and social care. Prime Minister Shinzo Abe said that the new policy is not a change to immigration policy, although he acknowledges that worker shortages are becoming serious for small and mid-size companies. Non-Japanese workers totaled 1.3 million in October, up 18% from a year earlier. The unemployment rate in Japan declined to 2.5% recently.

No shift in BoJ monetary policy

The Bank of Japan’s (BoJ) monetary policy committee decided in an 8-1 vote to leave its easy-money policies at current levels. The central bank will continue buying Japanese government bonds at a rate of ¥80 trillion per year, maintain its goal of keeping the 10-year bond yield at about zero, and keep short-term interest rates at -0.1% for some current account deposits at the central bank. After the meeting, BoJ Governor Haruhiko Kuroda reiterated his statement that it was too early to discuss policy normalization and methodology as the 2% inflation target remained out of reach. He added that the BoJ is aware and mindful of the risks of maintaining ultralow domestic interest rates for a prolonged period.

China

Shanghai stocks touch 20-month low as U.S. trade tensions escalate

China’s benchmark stock index ended at a its lowest level since September 2016 on Friday as investors fretted that a widening trade rift with the U.S. would weigh on the country’s growth. For the week, the benchmark Shanghai Composite Index shed 1.5%, its fourth weekly decline, while the large-cap CSI300 Index declined 0.7%. Friday’s decline brought the Shanghai benchmark gauge near the psychologically key 3,000 mark, a level it hasn’t dropped below since 2016. The declines in China came hours before the Trump administration announced that it approved tariffs on Chinese goods worth about $50 billion. Additionally, the U.S. has nearly completed a second list of tariffs on $100 billion in Chinese goods, Reuters reported on Friday.

Friday’s announcement that the U.S. would move ahead with imposing tariffs comes after the White House said last month that it would release a list of Chinese imports it had targeted for tariffs on June 15. Despite the acrimonious headlines, T. Rowe Price analysts note that U.S. and Chinese officials continue to negotiate in the background and will likely reach an agreement on trade. Most of the Chinese goods targeted for tariffs by the U.S. appear to have been selected for the sake of negotiation rather than implementation, believes Katie Deal, a Washington policy analyst at T. Rowe Price. Finally, China’s industrial policy favoring home-grown, high-tech industries under the country’s “Made in China 2025” program will likely prove to be a more contentious issue with the U.S. longer term, according to T. Rowe Price Sovereign Analyst Chris Kushlis.

Other Key Markets

EM currencies sell off after hawkish Fed statement

Many emerging markets currencies sold off against the U.S. dollar after the Fed statement that signaled two more rate increases this year. The Argentine peso led the decline with an 8% drop on the week against the U.S. dollar. The Turkish lira fell 6%; the South African rand lost 3%, and the Brazilian real gave up 1%. A resurgent dollar, rising global interest rates, and falling investor risk tolerance have been driving the sell-off, which has most dramatically affected the currencies of countries with large current-account deficits and high rates of inflation. In response, several emerging markets’ central banks have been intervening in local currency markets and raising rates. Thus far in June, central banks in India, Turkey, Bahrain, the United Arab Emirates, and Hong Kong have raised rates.

Argentina’s peso decline prompts resignation of central bank president

Argentina’s central bank struggled to put a floor under the peso’s slide during the week, spending $794 million over two days, despite agreeing to let the peso float freely as a condition of its $50 billion rescue deal with the International Monetary Fund. The peso has fallen 47% this year as investors test the will of the central bank, which has come under fire for prematurely lowering interest rates. Central bank President Federico Sturzenegger took the blame this week for compromising the bank’s credibility and resigned. He was behind the decision earlier in the year to cut rates and change the central bank’s inflation target, which set in motion the market’s crisis of confidence in the bank and the peso’s slide. Finance Minister Luis Caputo will take over the post. The change will be a modest positive, according to T. Rowe Price Sovereign Analyst Richard Hall. Caputo will likely boost the bank’s credibility with local investors and be more cognizant of how markets operate. However, Hall believes the bank missed an opportunity to reinforce its image of independence with its appointment of Caputo, who has political ties to the Macri administration.

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