Market Bulletin (15/06/2015)
Financial markets continued their seesaw last week as the US economy showed further signs of strength and the Greek debt drama inched closer to its ending – quite possibly a bad one. While Chinese stocks hit a seven-year high, concerns mounted over emerging market growth.
The latest US retail sales figures showed Americans once again reaching for their wallets. They spent 1.2% more in the shops in May compared with April, and 2.7% more than in May last year. That was as expected. But sales figures for March and April were revised upwards at the same time. These revisions were extremely important, according to Paul Ashworth, chief US economist for Capital Economics, because they change the whole story about the US consumer. “These data confirm unequivocally that the earlier weakness in spending was a temporary, weather-related blip,” he said. “The Fed will probably wait until September to begin raising interest rates, but the odds of a July hike just went up.”
The Federal Reserve holds its next policy meeting on 16–17 June so, in theory, rates could rise as early as this week. That sobering thought, coupled with rising fears of a Greek default, erased most of the stock market’s earlier gains, and the S&P 500 index closed a mere 0.15% up on the week.
On the edge
Greece moved one step closer to the precipice. The week before, the country’s creditors had thought they were on the verge of a deal to trade austerity and reforms for €7.2 billion in bailout money. Prime Minister Alexis Tsipras still objected to certain demands but had agreed to return with a counterproposal. As soon as he got home, however, his colleagues denounced the plan and he subsequently issued a strident rejection.
When Tsipras eventually delivered his counterproposal, the European Commission and the International Monetary Fund (IMF) were enraged to discover he wanted to renegotiate the budget surpluses he had previously agreed to. The IMF announced it was pulling out of the talks, and European Union leaders said that the time for compromise was over. Greek negotiators presented a new compromise at an ‘eleventh hour’ meeting on Sunday evening; then walked out after it was deemed inadequate. The 18 June meeting of eurozone finance ministers, the Eurogroup, will have to consider what comes next.
Some investors have become convinced that, under its current leadership, Greece will definitely default – either now, because an agreement with creditors can’t be reached, or later because they have squandered yet another bailout package. One curious domestic side effect of the crisis has been a spike in Greek motor sales, as people withdraw their cash from vulnerable Greek banks and put it into ‘safer’ assets. New car registrations rose 47% in March and another 28% in April. As negotiations unravelled, Greek stocks fell by almost 6% and yields on 10-year Greek government bonds rose to nearly 12%. The FTSEurofirst 300 Index, which had been having a good run, lost most of its gains and ended the week virtually unchanged.
Chinese shares kept climbing, in what many see as a bubble waiting to burst. They have been on the up for some time, responding to looser credit conditions and a mutual market access programme allowing Hong Kong investors to buy more shares on mainland Chinese stock markets. The latest stimulus came from hopes that the MSCI global indices would finally decide to include Chinese A-shares. That would force anyone who invests in the index to buy them, thereby pushing up prices; so Chinese investors were merely getting in early. A-shares are denominated in renminbi and foreign investors are limited in their ability to buy them. It was partly for that reason that MSCI, later in the week, said it would defer inclusion until China addressed market access, tax and capital control issues. The Shanghai Stock Exchange Composite Index appeared not to notice and ended the week on a seven-year high. It has risen by an extraordinary 152% in the past year.
According to UBS, the combined wealth created this year alone on the Shanghai and Shenzhen stock markets could buy out all the property in London – not once, but twice. But Chinese immensity also has its dark side. As growth slows, China’s excess steel capacity equals more than the entire steel industries of the US and Europe.
China’s shadow may grow larger for now, but emerging markets generally are losing their lustre. Even before the financial crisis, and particularly after it, they were seen as the growth engines of the future. Low interest rates and high commodity prices helped. But the era of low interest rates is coming to an end, and slowing Chinese growth coupled with more supply have forced down the prices of many commodities.
Emerging markets are facing a “structural slowdown”, according to the World Bank, which said they were ceding their role as global growth engines to the developed world. It lowered its forecast for world growth in 2015 from 3% to 2.8%, predicting sharp contractions in Brazil and Russia, as well as weaker growth in Turkey, Indonesia and many other developing nations.
“Given these uncertainties, investors would do well to go back to basics,” says Hugh Young, head of Asia Pacific equities at Aberdeen Asset Management. “We embrace businesses that are easy to understand, look for companies with broad regional exposure, established franchises and solid finances, and seek out firms that respect minority shareholders. Then, when all the boxes are ticked, we do not overpay.”
Back in the UK, there was more good news on the trade and production front. The trade deficit narrowed to £1.2 billion in April, down from £3.1 billion in March. Industrial production for the same month rose at an annualised rate of 4.8%. Capital Economics reckons that if industrial production only holds steady in May and June, it will be the best quarterly performance for four and a half years. Second-quarter GDP growth “could rebound strongly” as a result. But losses for energy stocks such as Royal Dutch Shell and BP, as crude oil prices fell, dragged the FTSE 100 Index down, leaving it 0.29% lower on the week.
A black-tied chancellor George Osborne delivered the annual Mansion House speech, at what is formally known as the Lord Mayor’s Banquet for Bankers and Merchants of the City of London. As expected, he announced that the state would begin selling its £32 billion stake in Royal Bank of Scotland, saying any further delay would be bad for the economy, the taxpayer and the bank. This will be Britain’s biggest privatisation even though, at current prices, the sale would incur a loss of more than £7 billion.
Osborne said he had been advised by Mark Carney, governor of the Bank of England, that such a sale would be in the public interest. He claimed that, notwithstanding any RBS losses, the taxpayer would make an overall profit of £14 billion on the multiple bank rescues of 2008, which also involved Lloyds Banking Group, Bradford & Bingley and Northern Rock. Starting to sell RBS shares would increase their free float and help to push up the price, he argued.
After markets closed on Friday, Standard & Poor’s, the only agency that still rates UK government bonds as AAA, cut its outlook on the rating from “stable” to “negative”. It said the reason was the government’s decision to hold a referendum on European Union membership.
Aberdeen Asset Management is a fund manager for St. James’s Place.
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