A strong start to 2018 – weekly update 8 January

Global PMIs remain strong

Global PMI (Purchasing Managers Index) data remained strong in December, highlighting the continuing positive economic backdrop. The aggregated JPMorgan Global Composite PMI reading rose from 54.1 to 54.4 in December, driven in particular by further strength in manufacturing PMIs (see chart below), which tend to be a better indicator of overall economic health than Services PMIs. Any reading above 50 indicates expansion, putting these figures comfortably on the growth side and improving.

There were some differences at the regional level, though, with Eurozone Manufacturing powering ahead, from 60.1 to 60.6 (German Manufacturing was especially potent at 63.3), whilst the UK continued to disappoint, as Manufacturing PMI fell more than expected from 58.2 to 56.3 (57.9 was expected).

US Manufacturing PMI has remained fairly robust, and China has stabilised above 50 with 51.6 on the official Manufacturing PMI measure, and 51.5 on the private measure. Services data have been more varied – UK Services PMI rose from 52.4 to 53.7, but the latest data from the US showed an unexpected fall in the ISM Non-Manufacturing Composite PMI from 57.4 to 55.9 (57.6 was expected). Overall, though, the signals are clearly indicating a positive business backdrop.

JPMorgan Global PMI

Slight disappointment in US employment numbers

There was slight disappointment in the latest US employment data release. The headline Non-Farm Payrolls fell short of expectations, coming in at 148,000 jobs added for December (a reading of 190,000 was expected), dragged lower by weakness in the beleaguered retail sector.

As we’ve highlighted previously, the focus now is much less on the headline numbers and more on wage growth, as markets look for evidence that wages will start impacting inflation. And here there were no surprises, with 2.5% year on year (yoy) growth, in line with expectations and unchanged from the month before. Unemployment also held steady at 4.1% as expected, though underemployment ticked up 0.1% to 8.1%. Taken together, the release is something of a non-event, and is unlikely to deter the Federal Reserve (Fed) from its gradual rate hiking path, but neither does it add any hawkish pressure.

Last week’s other events

• UK headline CPI inflation rose to 3.1% yoy in December from 3.0% (no change was expected) though core inflation was unchanged at 2.7%. Average weekly earnings rose from 2.2% to 2.5% yoy as expected (for the three months to end of October, compared to the same period in the previous year), and Retail Sales rose 1.1% yoy (from -0.3%, 0.3% expected).
• The Fed increased interest rates by 0.25% to the range of 1.25-1.50%, as widely anticipated. CPI inflation rose to 2.2% yoy as expected, from 2.0%. Core CPI fell from 1.8% to 1.7% yoy. November Retail Sales surprised on the upside, increasing 0.8% month on month (mom) from 0.2% (0.3% was expected). Industrial Production slowed from 0.9% to 0.2% mom (0.3% expected), whilst November’s Durable Goods Orders rose from -0.8% to 1.3% mom, though this was below expectations for 2.0%.
• Eurozone Industrial Production for October grew at 3.7% yoy (from 3.3%, a slowdown to 3.2% was forecast). The estimate for CPI inflation in December slipped from 1.5% to 1.4% yoy as expected, and core was also unchanged at 0.9% (1.0% was expected). The Consumer Confidence measure increased from 0.1 to 0.5 (0.2 was expected).
• Japanese CPI inflation rose to 0.6% yoy (from 0.2%, 0.5% expected) with core inflation rising to 0.3% (as expected, from 0.2%). Retail sales rebounded from -0.2% to 2.2% yoy (1.0% expected), and Industrial Production cooled from 5.9% to a still-impressive 3.7% yoy (3.6% forecast).

The markets

Looking back over 2017, it was another year of strong returns across most asset classes for sterling investors, with surprisingly little volatility, though commodities continued to be a disappointment.

Full-year 2017 performance of major asset classes

Equities

Global equities in aggregate rose 20.3% in local currency terms (according to MSCI AC World). Regionally, Emerging Markets had a very strong period, rising 31.1% through the year. Japanese equities returned 22.2% (measured by the TOPIX index), with the S&P 500 in the US returning 21.8%, though sterling investors had the adverse currency moves to contend with. Conversely, European equities were more lacklustre, as the MSCI Europe ex-UK index rose 13.7%, but sterling investors benefited from euro strengthening during the course of the year. Overall, it was the UK equity market that lagged with a total return of 13.2%. Most equity markets also made a strong start to 2018, with Japanese equities (the TOPIX index) up 3.5%, MSCI Europe (ex-UK) up 2.7%, the S&P 500 up 2.6% and MSCI Emerging Markets up 3.0%. Against this, the UK disappointed, with a meagre 0.5% return on the week.

Bonds

Core bond markets had a lacklustre year, with UK gilt yields barely changed by the end of 2017, for a total return of 1.9%. Global corporate and high-yield bonds achieved high single-digit returns in their local currencies, but with most of the market in the US, this translated to a roughly flat return for unhedged sterling investors. Core sovereign bonds started the year on a weaker footing, with 10-year UK gilt yields rising 5 basis points (bps) to 1.24% and 10-year US Treasury yields increasing by 7 bps to 2.48%. German Bunds were much less moved, however – up just 1 bp to 0.44% on the 10-year.

Commodities

After weakness in the first half of the year, oil staged a rally in the second half with Brent Crude oil rallying from a low of US$44.82 per barrel in June to end the year at US$66.87 per barrel. Copper followed a similar path, rallying from a low of US$2.49 per lb to US $3.30 per lb, whilst gold rose from US $1,158 per ounce at the start of the year to US$1,302.80 per ounce by year-end. This second half rally was enough to make a positive US dollar return for the aggregate commodity index (Bloomberg Commodity index), but US dollar weakness meant the index was down -7.1% for sterling investors. For the first week of the year, gold continued to find strength, rising to US$1,319.59 per ounce by the end of the week, with oil also strengthening, as Brent Crude rose to US$67.62 per barrel. Copper weakened to US$3.23 per lb.

Currencies

Sterling and euro both strengthened through the year versus a weaker US dollar and Japanese yen, though euro strength trumped that of sterling (i.e. sterling was relatively weak against the euro). Sterling ended the year at US$1.35 (10.1% sterling appreciation), €1.13 (-4.1%) and ¥152 (5.5%). Sterling had a relatively strong start to 2018 relative to other major currencies, especially the Japanese yen, to finish the week at US$1.36, €1.13 and ¥153.

The week ahead

There’s more economic data out this week to provide insight into the state of the global economy, starting on Monday with Eurozone Retail Sales for November (2.4% yoy from 0.4% expected) together with the latest Business Confidence survey results. Closer to home, on Wednesday the UK will report Industrial Production for November, where a slowdown from 3.6% to 1.8% yoy is expected, and this is followed by the Eurozone equivalent on Thursday (3.0% industrial production growth from 3.7% is expected). Friday is the turn of the US, which will report CPI (2.1% from 2.2% yoy expected, with Core CPI inflation unchanged at 1.7%) and Retail Sales for December (0.4% month on month from 0.8% is expected). The daily breakdown is as followings:

Monday: UK House Prices data from Halifax are released in the morning, followed by Eurozone Retails Sales as well as Business Confidence measures (covered above).

Tuesday: The British Retail Consortium releases like-for-like sales data just after midnight, and Japan updates on Consumer Confidence early in the morning, UK time. German Industrial Production and the Eurozone Unemployment Rate (a 0.1% fall to 8.7% is expected) are also out in the morning. From the US, we have the NFIB Small Business Optimism reading and JOLTS Job Openings to look forward to.

Wednesday: Overnight, China reports inflation numbers for December (CPI is expected to have risen 0.2% to 1.9% yoy, and PPI (Producer Price Index) is expected down -1.0% to 4.8%). UK Industrial Production data are out later in the morning (covered above) and then the afternoon has US trade prices data and wholesale inventories.

Thursday: The morning gives us Eurozone Industrial Production, as well as the latest Credit Conditions Survey from the Bank of England. In the afternoon, the main points of interest will be US PPI data and Initial Jobless Claims, whilst Japanese Bank Lending data are released late in the evening.

Friday: The only scheduled releases of note are out of the US, with inflation and retail sales figures due out, as covered above.