Last week the gloomy mood on the international stock markets deepened and there was even an air of panic about the price movements on Wednesday and Thursday. In line with classic risk-aversion conditions, bond rates fell in the traditional safe havens and rose in Southern Europe.
The real shock came early this week with the publication of lacklustre retail data in the US.
Ben Steinebach Head of Investment Strategy
The unrest was sparked by fears of the global economy sliding back into recession. As described last week, this danger mainly concerns Europe where, according to the IMF, the risk of a renewed recession is 30% to 40%. This estimate already spooked the financial markets, but the real shock came early this week with the publication of lacklustre retail data in the US. For many this carried an ominous whiff of global recession, but we consider such a scenario unlikely. Recessions can generally be traced to clear causes in terms of policy (monetary and budgetary), asset bubbles or large debts and external shocks. We see no evidence of such factors in the current landscape and the low level of oil prices, interest rates and the euro should, in our view, actually put some wind in the sails of the European economy. Later in the week, incidentally, the United States published data that painted a more upbeat picture of the US economy. These included the sharp fall in unemployment benefits (to the lowest level in 14 years) and a larger-than-expected increase in the industrial production data, which lifted the capacity utilisation rate from 78.7% to 79.3%. Admittedly, the Philadelphia Fed Index, a measure of the current economic conditions in the region around Philadelphia, retreated in October, but the decline was much smaller than expected, which points to some improvement. In times of panic it is always hard to tell when calm will return, but these signals are encouraging and the US indexes already staged a recovery of sorts on Thursday. On Friday morning this also fed through to the European markets, which started to move upwards again from their previous lows.
Results broadly in line with expectations
The third-quarter earnings season really got into its stride last week. The majority of the reporting entities, incidentally, were US companies, who traditionally take the lead. The first Dutch company to present its results was ASML. The negative mood and the falling prices on the international stock markets are entirely due to macroeconomic fears. They can certainly not be attributed to the published corporate earnings. These did not all exceed the forecasts, but were satisfactory on the whole and deviations from the forecasts were usually easy to explain. Of the large US banks, Citigroup beat expectations. So did Goldman Sachs, but its strong performance was due to lower bonuses rather than improved operational activities. Wells Fargo presented results that were more in line with expectations. Pharmaceuticals giant Johnson&Johnson posted revenues above expectations and the same applied – albeit to a lesser extent – to Intel, which is continuing to benefit from the buoyant conditions in the PC market. Google, by contrast, disappointed, mainly because of lagging advertising revenue due to stiff competition on tablets and smartphones.
In the Netherlands, ASML slightly undershot the forecasts, but this was chiefly because of orders being shifted to the fourth quarter, which will presumably have a positive impact on the result in that quarter. Slightly disappointing was the fact that the company made no major statements about the progress made on the new EUV technology, a further step in the miniaturisation of new chips. Food distributor Sligro, by contrast, published extremely disappointing results, though this too is not really surprising given the weak market conditions. The AEX shed almost 5% against last Friday, ending the week at 376.27. This made it one of the biggest losers in the international field, though it should be noted that in the previous weeks the index had lost slightly less ground than many other European indices.
Risky bond segments shunned once more
Bond rates fell further in the traditional safe havens, but rose in the segments that are perceived as riskier, i.e. South European sovereign bonds and High Yield. This interest rate divergence was naturally related to the classic risk-aversion pattern. On Wednesday the United States witnessed a so-called 'Flash Crash' in the sovereign bond market, with US 10-year rates plummeting from 2.25% to 1.86%, only to rebound shortly afterwards to 2.1% and to 2.15% on Thursday. Presumably this was due to intensive activity on the part of several large parties. Nevertheless, this flight to safe havens resulted in US interest rates, as well as German and Dutch interest rates, decreasing compared to Friday last week to respectively 0.78% (from 0.85%) and 0.99% (from 1.05%). Further to the south, the decline in interest rates was halted. This was already noticeable in France, where interest rates stabilised at 1.25%, but in the South European countries bond prices actually fell and interest rates started to climb. The sharpest jump was in Greece (from 6.6% to 7.1%), reflecting the country’s failure to implement sufficient reforms in order to exit the aid programme and regain access to capital market funding. Spain and Italy were confronted with interest rate increases of, respectively, 15 basis points (to 2.2%) and 25 basis points (to 2.6%). Interest rates also rose in High Yield markets and the differential with sovereign loans widened by about 150 basis points. We, incidentally, do not think that the fundamental outlook for these bonds has changed and see the rate increases mainly in the light of the flight to safe havens and the desire to reduce risk exposure. Moreover, the bankruptcy risks for companies that issue this type of debt have actually receded somewhat in the past period.
Lots of data, both macroeconomic and corporate
The earnings season is set to continue unabated in the coming week and a spate of interesting macroeconomic data is also due to be released. Let’s hope these will all point in a more positive direction than in the past week. In the coming week we will see a number of Dutch heavyweights in the limelight, including Philips, AKZO-Nobel and Aalberts. The results of many major corporations around the world are also on the schedule, including IBM, SAP, Coca Cola, McDonalds, Caterpillar and BASF. Regarding the macroeconomic data, most attention will focus on the analysis of the government debt in many European countries. In addition, consumer confidence data in Germany, Netherlands and Belgium and inflation data in the US and Germany are due to be published. The presentation on Thursday of the provisional estimates for the purchasing manager indexes for October in many countries will cast some initial light on the latest state of the global economy.