Can Investors Look Beyond Trade Concerns and Global Political Jitters?
Stocks in the Eurozone were not as resilient. The EuroStoxx 50 index fell 1.8 percent in euro terms for the week, led by a 2.0 percent decline in Spain, whose Prime Minister was ousted on a vote of no-confidence, although stocks there rallied sharply on Friday. But Germany, France and Italy all suffered losses in excess of 1 percent for the week as trade tensions with the U.S. escalated.
Despite the rebound in Italian equities later in the week, it is premature to suggest that the uncertainty attendant to the new ruling coalition and its policies has abated. Three weeks ago, before anxiety over the proposed new government began to intensify, the yield on the Italian ten-year note was 1.86 percent, with a spread over the benchmark German bund of 131 basis points. By last Tuesday, the Italian ten-year yield had skyrocketed to 3.13 percent, widening the spread versus the German ten-year to 288 basis points, as flight-to safety buying drove the latter down to a yield of just 0.25 percent. However, even as market jitters had ostensibly receded by week’s end, Italian yields remained elevated, ending the week at 2.64 percent, having retraced just 49 basis points of the initial 127-point rise. And the spread versus the German ten-year remained at an elevated 226 basis points. Another measure of market concern was evidenced in the price of credit default swaps on Italian sovereign debt. Priced at 98 basis points three weeks ago, the cost surged to 276 on Tuesday, before ending the week at 226, well above where it began (according to the Bloomberg Sovereign CDS Monitor).
The turmoil in Europe sent the U.S. ten-year note on a roller coaster ride of its own. After closing the prior week at a yield of 2.93 percent, it plunged to 2.78 percent on Tuesday, before recovering to close at 2.90 percent.
U.S. Economic Fundamentals Remain Strong
While all this was happening, the economic data in the U.S. last week could hardly have been more favorable. The May jobs report showed the creation of 223,000 new non-farm jobs, well ahead of the 190,000 Bloomberg consensus. The prior two months total was also revised somewhat higher. The unemployment rate fell to 3.8 percent, the lowest rate since 2000. And the twelve-month pace of average hourly earnings rose to an encouraging, but not concerning, pace of 2.7 percent. Earlier in the week, consumer spending in April rose by a strong 0.6 percent, marking the second straight month of solid growth following a weak start to the year. In addition, the Fed’s preferred inflation gauge, the Personal Consumption Expenditure (PCE) deflator, showed year-over-year inflation rising at just 2.0 at the headline level and just 1.8 percent at the core. And the ISM report on manufacturing in May showed surprising strength, especially in the new orders component.
Taken together, these reports give the Fed room to continue to raise interest rates without particular urgency, although expectations regarding the Fed reflected the same political jitters last week that afflicted capital markets. At the end of the prior week, the Bloomberg World Interest Rate Probability function ascribed a 33 percent probability of a fourth rate hike this year by December. On Tuesday of last week, that probability had plunged to just 15 percent on the news from Italy, before ending the week at 34 percent as those concerns had ebbed. The Fed meets next on June 12-13, and there is currently an 84 percent probability of a rate hike then.
Trade Tensions Still a Concern for Investors
Trade tensions remain in the headlines this week. G-7 finance ministers meeting in Canada this past weekend, ahead of the full G-7 summit this week, decried the U.S. trade tactics, and Commerce Secretary Ross returned home from China having made apparently little progress on trade negotiations.
Last week, on Tuesday, president Trump announced that he would go ahead with $50 billion of tariffs on Chinese goods and place limits on Chinese investments in U.S. high tech industries, with the details to be made known by June 15. On Thursday, the president announced tariffs on steel and aluminum imports from the European Union, Canada and Mexico effective on Friday. The promise of retaliatory measures threatens to keep the fear of an escalating trade war an ongoing concern for investors.
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Past performance is not a guarantee of future results.
The S&P 500 is an index containing the stocks of 500 large-cap corporations, most of which are American. The index is the most notable of the many indices owned and maintained by Standard & Poor's, a division of McGraw-Hill.
The EURO STOXX 50 is a market capitalization-weighted stock index of 50 large, blue-chip European companies operating within eurozone nations. The universe for selection is found within the 18 Dow Jones EURO STOXX Supersector indexes, from which members are ranked by size and placed on a selection list.
The personal consumption expenditure (PCE) measure is the component statistic for consumption in gross domestic product (GDP) collected by the United States Bureau of Economic Analysis (BEA).
The ISM manufacturing index is a national manufacturing index based on a survey of purchasing executives at roughly 300 industrial companies.
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