Weekly update 29 October

A look back over macroeconomic and market events for the week ending 26 October 2018. It was another risk-off week as markets began to fret about the longer-term outlook. There was divergence in the data as US numbers raised concerns of potential overheating, while Europe appeared to be at risk of stalling. There is a lot of activity this week, with the US Non-Farm Payrolls report on Friday the highlight, while the UK Budget and Bank of England meeting could also be of interest.

US third-quarter GDP beat expectations

The US third-quarter GDP beat expectations, growing at 3.5% annualised – ahead of the 3.3% forecast, though slightly slower than the exceptional 4.2% recorded in the second quarter (which was boosted by exporters rushing to get orders away before the imposition of tariffs). The breakdown gave some pause for thought though, as much of the upside surprise came from personal consumption, while business investment growth dipped marginally. This has given rise to concerns that the tax boost from the end of last year has simply caused a brief surge in consumption, but isn’t driving the kind of business capital expenditure that would be needed to sustain higher growth.

US PMI numbers continued to be robust

US PMI numbers continued to be robust with the readings from Markit beating expectations. Manufacturing PMI rose from 55.6 to 55.9 (a fall to 55.3 was expected), while the Services PMI rose from 53.5 to 54.7 (54.0 was forecast). In the details, there were some reports that service sector employment was being made harder by the tight labour market, while there was clear evidence of inflation pressures building – average prices charged are increasing at the fastest rate since the composite measure began nine years ago. Reports suggest that rising borrowing costs and input costs were having an impact, as well as tariffs.

September Durable Goods orders also rose 0.8% month on month (mom), a cool-down from the upwardly revised 4.6% in August but ahead of the -1.5% contraction markets had expected. Taken with the GDP report above, while the signals are that short-term economic strength remains, there appears to be growing upside risk to the inflation outlook (though US two-year breakeven inflation expectations have actually dipped from 1.82% to 1.57% over the last three weeks).

Eurozone PMIs gave further cause for concern

Conversely, Eurozone PMIs gave further cause for concern of a stalling economy, with the Composite reading falling much more than expected from 54.1 to 52.7 (compared to the 53.9 forecast) with both components disappointing. Manufacturing PMI fell from 53.2 to 52.1 (53.4 was expected) while Services PMI fell from 54.7 to 53.3 (54.5 was expected).

Germany, Europe’s powerhouse, saw a particularly significant slowdown (German Composite PMI fell from 55.0 to 52.7), with factory orders contracting for the first time in four years as concerns over protectionism and market volatility sapped confidence. This is further evidence of the slowing momentum in Europe, and it is an open question as to whether the region can reaccelerate amidst the growing global challenges. However the European Central Bank (ECB) seems relatively unperturbed with no indication that it is reconsidering ending quantitative easing at the end of the year, though ECB President Mario Draghi has effectively deferred making the final decision until the final meeting of the year in December.

Last week’s other events

• Japanese Manufacturing PMI rose from 52.5 to 53.1, while the All Industrial Activity Index rose from a downwardly revised -0.2% to 0.5% mom (0.4% was forecast)
• The UK’s CBI reported Business Optimism slumping from -3 to -16 (-4 was expected)
• Eurozone Consumer Confidence improved from -2.9 to -2.7 (a fall to -3.2 was forecast)

The markets

It was another risk-off week, with all assets largely behaving as expected: equities and sterling sold off while bonds, gold, the US dollar and Japanese yen all rallied.

One-month performance of major asset classes in sterling terms

Equities

Equities took another leg down last week. The Japanese TOPIX, as usual the most volatile main index we cover here, was the worst performer, falling -5.7% on the week. In the US, the S&P 500 fell -3.9%, with Continental Europe down -2.6% while the UK was relatively resilient, down ‘just’ -1.8% (both as measured by MSCI, Europe ex-UK and United Kingdom indices respectively). The MSCI Emerging Markets index was down -2.9%.

Bonds

Sovereign bonds rallied into the equity rout. 10-year gilt yields fell significantly, down 19 basis points (bps) to 1.38%, while 10-year US Treasury yields fell 12 bps to 3.08%. The equivalent German bund yields were down 11 bps to 0.35% while 10-year Japanese Government Bond yields fell 4 bps to 0.11%.

Commodities

Oil prices continued to soften, with Brent Crude slipping to US$77.62 per barrel, and copper down to US$2.74 per lb. Gold continued to rally, rising to US$1,234 per ounce.

Currencies

Sterling weakened again last week, falling -1.9% against the US dollar and -2.4% against a strengthening Japanese yen. Sterling closed on Friday at US$1.28, €1.13 and ¥144.

The week ahead

It’s a busy week ahead. In the UK, the latest government Budget is published on Monday afternoon, and then the Bank of England Monetary Policy Committee (MPC) meeting concludes on Thursday – no change to policy is expected, but the quarterly inflation report will be of interest. Also on Central banks, the Bank of Japan meeting concludes on Wednesday, and markets will be looking for any potential changes to the purchase programmes, with possible tweaks anticipated. There’s plenty from the US as well, with PCE inflation on Monday along with Personal Income and Spending data released (details below). The main event will be the Non-Farm Payrolls report on Friday – markets are expecting 193,000 (from 134,000 last month) and Average Hourly Earnings growth of 3.2% yoy (from 2.8%). The daily breakdown is as follows:

Monday: Ahead of the Budget, in the morning the UK reports on changes to Net Consumer Credit and money supply growth. In the afternoon, markets expect US PCE inflation (the Federal Reserve’s preferred measure) to cool from 2.2% to 2.0% yoy, while both Personal Income and Spending are forecast to pick up from 0.3% to 0.4% mom. Late in the evening UK time, Japan reports the jobless rate and job-to-applicant ratio.

Tuesday: The Eurozone Economic Confidence survey results are released in the morning, while the only releases of note in the afternoon are the US Consumer Confidence readings from the Conference Board. Just before midnight, Japan reports industrial production (-2.1% yoy from 0.2% forecast).

Wednesday: A minute after midnight the UK reports the GfK Consumer Confidence measure, Lloyds Business Barometer and BRC Shop Price Index, then a little later China reports official Composite PMI readings. Later in the morning, Japan reports Consumer Confidence and Construction Orders before the Eurozone updates CPI inflation (an increase from 2.1% to 2.2% yoy is expected). In the afternoon, the US ADP Employment Change reading will help set the scene ahead of Friday’s US labour market report.

Thursday: The China Caixin Manufacturing PMI report is released early in the morning UK time. This is followed by a run of UK data, including the Nationwide House Price index and Manufacturing PMI before the Bank of England reports output from the latest MPC meeting and releases the quarterly inflation report. In the afternoon, the US updates Manufacturing PMI readings from the Institute for Supply Management.

Friday: The only point of note in the morning is the UK Construction PMI report. The main scheduled event of the week will be the US labour report published in the afternoon. The headline forecasts are covered above, but there will also be interest in any changes to the Unemployment Rate (no change at 3.7% forecast), Labor Force Participation Rate (no change at 62.7% expected) and Average Weekly Hours (no change at 34.5 expected) readings.