Financial markets on both sides of the Atlantic ended May hovering at peaks and highs. The looming question for markets in early June is what will be the European Central Bank’s (ECB) next move, at its meeting this Thursday, to shore up the region’s flagging recovery. ECB president Mario Draghi last week gave further hints on how he intends to tackle the threat of deflation, suggesting that a negative interest rate could be accompanied by an attempt to kick-start southern Europe’s businesses through long-term funding to banks for loans to small companies. As the central bankers in Frankfurt reassess monetary policy, the ECB’s asset quality review is also poised later this year to report on the health of the Eurozone’s banks. Financial markets are buoyant and the developed economies are in various degrees of recovery, but there is uncertainty among global policymakers over where a world flush with easy money is heading in the wake of the financial crisis. International Monetary Fund (IMF) head Christine Lagarde last week, at a conference on inclusive capitalism, accused banks of being too slow to reform after the financial crisis. And Mark Carney, governor of the Bank of England, on the same stage raised concerns that growing wealth inequality could undermine trust in capitalism.
Amid these broader concerns about the shape and health of the world economic order in the wake of the financial crisis, one of the surprise developments for investors in 2014 has been the recovery of US government bonds. Shunned in the second half of 2013 as the US Federal Reserve signalled it would start to taper its bond-buying programme, the sell-off in US government bonds was expected to continue in 2014. Weaker-than-expected US growth, pension fund demand and a decrease in bond issues as America’s budget deficit improves have underpinned the bond market recovery. Citigroup identifies this combination as a “classic bear squeeze”, and Bank of America Merrill Lynch says the factors reflect growing scepticism over longer-term growth. However, an acceleration of US growth in the second-half of the year could start to push the benchmark ten-year Treasury bonds beyond the 3% mark, adds Citigroup. The ten-year Treasury yield hit 2.40% last Thursday, which was its lowest since June 2013.
Since government bond yields have sunk this year as prices have risen, stocks with higher dividend yields and some emerging market equities – which were hit hard by the rise in Treasury yields last year – have fared better. In 2013, markets responded to the early signs of a global recovery and a tightening of central bank policy with a spectacular equity rally and hefty bond sell-off. But this year bonds and equities have both rallied, and US economic data – including last week’s disappointing data on consumer spending in spring following the harsh winter – continues to unsettle investors eager to believe the recovery will gather pace. “If bond investors really are pricing in lower future growth prospects, they don’t seem to have told their equity counterparts,” Citigroup observes.
The upbeat sentiment on Wall Street, however, remained undeterred last week despite Commerce Department data that showed the US economy contracted in the first quarter. Investors share the view of Janet Yellen, the chairwoman of the US Federal Reserve, that the overall poor first-quarter performance was a result of unusually bad weather and that the second quarter should offer a strong rebound and growth. The bullish mood helped the S&P 500 crash through another record high on Friday to 1,924 points, ending the trading session a point lower at 1,923 points. The US equity index was up 1% last week and 2% over the month, and has gained 16% over the last year. The highs are ahead of US employment data this week, as well as the ECB’s anticipated further easing of monetary policy.
In Tokyo, the Nikkei 225 Stock Average closed down slightly by 0.3% at 14,632 points, but was up 1.2% over the week and 2.3% in May, which was its first monthly gain this year. The Bank of Japan last week revealed that the country’s core consumer prices rose 3.2% from a year earlier although, with the April consumption tax influence stripped out, the real level was 1.5%. Markets took the figures as an indication that Japan’s aggressive monetary policy is working. However, the IMF last week raised doubt over whether Japan will achieve its goal of 2% inflation by next year and does not expect an end to two decades of deflation until 2017.
Expectations of central bankers’ policy dominated European markets last week. The FTSEurofirst 300 index touched a 52-week high of 1,381 points on Friday, before it closed at 1,377 points. The pan-European index was at a six-year high – up 1% last week, 1.9% over May, and 13% over the last year – amid the growing optimism around the anticipated direction of ECB policy. However, a 2.5% slump for BNP Paribas shares on Friday held back the rally, after it emerged that the US Department of Justice was seeking more than $10 billion from the French bank to settle allegations over violations of US sanctions against Iran.
Meanwhile, figures for the first-quarter earnings season indicate that more than three-quarters of S&P 500-listed companies have met or topped profit expectations for the quarter. The index’s earnings, weighted by each company’s market capitalisation, rose 3.4% from a year earlier, compared to forecasts in April for a rise of 0.4%. The underlying growth for corporate America looks steady. This is reflected in a more settled stateside initial public offering (IPO) market after the technology-driven frenzy at the start of the year. BlackRock’s chief investment strategist Russ Koesterich expects the IPO market will have a “decent second half of the year”, with US listings so far totalling $27 billion.
On the other side of the Atlantic, boardroom confidence has underpinned a steady stream of IPOs, with more than 40 new issues on the London market, that have raised around £6.9 billion, with more to come. The London IPO queue was joined last week by retailer B&M, with an expected valuation of up to £2.9 billion, and banking group Lloyds’ planned stock market floatation of 25% of its TSB brand. Lloyds is looking to sell the TSB shares before the summer holiday period and by the end of June, which is a watershed in the annual calendar for IPOs. The listing will be open to institutional investors and intermediaries for their retail clients.
The only way is up?
In London, stocks and shares also enjoyed the upward trajectory seen across the other leading financial markets, with the FTSE 100 index ending the week only just off its 14-year high achieved earlier in May. The FTSE 100 closed the week at 6,845 points, only 10 points shy of the high it achieved a fortnight earlier. The highly-international index gained 0.4% over the week and 1% over the month, and is up 1.4% since the start of the year. Meanwhile, London’s array of global mining stocks were in decline on Friday as iron ore prices slumped to 18-month lows amid renewed concerns over the slowing of Chinese growth.
Uncertainty may surround the world’s second-largest economy, but the UK recovery continues to look buoyant (with a bizarre £10 billion-a-year lift to GDP last week from new counting methods that include prostitution and the illegal drugs trade). The Bank’s Monetary Policy Committee is set to keep the base rate at 0.5% this week, but speculation is growing over how long it will hold amid the housing boom. Fund manager PIMCO’s Mike Amey expects the Bank at its June Financial Policy Committee (FPC) meeting to introduce measures, which could include affordability tests, to cool the housing market. The prevalent view remains that, with low inflation and the FPC reining in the housing market, the Bank could hold the base rate well into next year.
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