Investor sentiment was soon dampened in September by concerns about higher inflation and China. Japanese equities were a positive outlier. The dollar continued its positive trend.
Our expert, Johan Gallopyn, analyses the market trends for September 2021.
Equity market trends: concerns about inflation and China
Stock exchanges moved lower in September after seven consecutive months of rising prices. Gains in the first two months of the last third quarter were largely erased in September. Investors were slightly alarmed by signs that higher inflation might prove more persistent than previously expected. Higher energy prices and upwards price pressure due to ongoing supply issues could prolong the ‘temporary’ nature of the higher inflation. The concern is the potential impact on the currently extremely accommodative monetary policy stance of the central banks. The markets were also put under some pressure by the complications of Chinese property developer Evergrande. The deeply indebted company is in danger of collapsing, which poses the risk of contagion to other real estate companies and the financial sector. Japanese equities were a positive outlier after severely underperforming since the beginning of the year. Unpopular Prime Minister Suga dropped out of the November parliamentary elections. The markets reacted positively to the prospects that the LDP might be able to retain its majority and that its successors would favor accelerated structural reforms and/or fiscal stimulus measures.
In both Europe and the US, value stocks outperformed growth stocks in September, but only partially offset the underperformance since the beginning of the summer. The relative performance of value stocks thus again coincides with the rising trend of bond yields.
Bond market trends: inflation expectations push bond yields higher
After growth concerns forced yields lower in recent months, inflation fears dominated in September. US 10-year yields moved up more than 20 basis points to above 1.5% in September. German yields followed the trend, rising above -0.2%, a level it had not reached since the end of June. Recent inflation numbers have risen due to baseline effects, as compared to the very low numbers during the coronavirus crisis a year ago. However, as these effects fade, inflation is likely to remain somewhat higher than previously expected due to price pressures from supply constraints and rising commodity and energy prices. The rise in German nominal interest rates was mainly due to the rise in the break-even rate (reflecting inflation expectations), while in the US the increase was primarily driven by the rise in the real interest rate (reflecting monetary policy expectations). Bond purchases by central banks will be scaled back in the coming months, both in the United States and in Europe.
Corporate bond spreads narrowed significantly for both Investment Grade and High Yield issuers, returning to almost their lowest levels of the year (in May). Corporate bond prices were supported by the publication of strong second-quarter corporate results. The balance sheets of European companies are indeed healthy.
Central banks: Norwegian central bank raises interest rates
Federal Reserve Chairman Powell signaled that the bank could start tapering its bond purchase program (currently amounting to USD 120 billion a month) in November. The program would then be completely wound up in the middle of next year. A debt ceiling crisis in late October could potentially delay the Fed’s tapering plans. The new median dot-plot forecast showed that policy rates could rise sooner than expected. The expectations of the FOMC members were evenly divided on whether or not there would be an initial interest rate increase as early as 2022.
The European Central Bank announced it would be reducing the accelerated bond purchases that had been in place since March. Purchases within the PEPP program (initiated as a result of the pandemic) are expected to fall to EUR 70 billion per month from EUR 80 billion. A decision is expected to be taken in December at the end of the PEPP program.
As expected, the Norwegian central bank raised its policy rate (by 0.25%). This makes it the first Western economy to raise interest rates since the beginning of the pandemic.
Several countries in the emerging markets also saw interest rates being raised. In Latin America (Brazil, Paraguay), this was due to rising inflation.
Currencies: dollar stronger, emerging markets currencies weaker
The dollar strengthened further in September, rising past 1.16 against the euro, a level not seen for more than a year. Due to the somewhat stricter-than-expected stance of the US Federal Reserve (in respect of the dot plots) and the uncertainty surrounding the Chinese property sector, the US currency was able to gain further ground.
The Norwegian krone, boosted by higher oil prices and the central bank’s interest rate hike, appreciated against the euro.
The rise of the dollar came at the expense of emerging market currencies. The Brazilian real also faced a downturn despite the interest rate hike, in a context where inflation reached almost 10% in August. However, the Turkish lira was the worst performer (down more than 4% against the euro). The central bank unexpectedly lowered interest rates, but inflation still climbed to almost 20%.
Commodities: energy prices sharply up
Energy prices were higher in the past month. Brent oil prices rose to 80 dollars per barrel for the first time in almost three years. To the recovery in demand, following the reopening of economies, has been added the demand for substitution from the electricity sector, as the price of gas in Europe has risen sharply. This increase is due to the disruption of supply in Russia. In anticipation of winter in the northern hemisphere, gas prices are also pushed up by speculative purchases.
Industrial metals presented a mixed picture in September for several reasons. Iron ore for steelmaking declined sharply due to the projected slowdown in growth in the construction sector after the Evergrande debacle. The Chinese government’s attempt to reduce emissions through restrictions on steel production is also a factor here. Metals such as palladium and platinum also moved lower due to reduced demand from the automotive sector, which produces less due to semiconductor shortages. Copper and aluminum held up well or even advanced.
The price of gold fell in September due to rising bond yields and a stronger dollar. This puts the price in the lower end of the range in which it has been fluctuating since this summer.
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