This week 7IM provides an update on oil prices, and three key pieces of news driving markets out of the UK, US and the Eurozone. We also look to highlight how our thinking on bonds has progressed.
OIL PRICES SLIDE
Oil prices rose modestly last week, with Brent Crude reaching almost US$48 a barrel. However, since the beginning of the year, oil prices have suffered their worst period since 1998, falling 15.5% on average. While many see lower prices at the pump as a bonus (correctly), the fall could re-ignite concerns of a repeat of the market convulsions seen in 2015/2016 when the oil price fell to US$26. There are direct consequences on OPEC countries which are already experiencing deteriorating economic growth.
PORTFOLIO ACTIONS CHANGE IN TUNE AT BANK OF ENGLAND?
The Bank of England’s governor, Mark Carney, indicated that he may be becoming more upbeat about UK economic prospects when he stated that some removal of stimulus “may be necessary”. He also indicated he would vote to tighten monetary policy if business investment began to rise, offsetting weaker consumption. Only last week, Carney was saying that it was “not yet time” to raise rates.
EUROPEAN CENTRAL BANK CONFUSES
Mario Draghi, president of the European Central Bank (ECB), stated that he was growing increasingly confident about the Eurozone recovery and that “deflationary forces have been replaced by reflationary ones”. The comments however fuelled speculation that the ECB would soon start to taper its bond-buying programme, which triggered a rally by the Euro and a sell-off in European government bonds, sending yields higher. Senior figures in the ECB later signalled that markets had “misinterpreted” Mr Draghi’s remarks. But the attempt to inject more nuance into the comments had a limited impact on the direction of travel of the Euro.
US GDP DATA SOLID
US Q1 2017 GDP growth was revised up to the annualised rate of 1.4%, up from its previous estimate of 1.2%, which itself was an increase on the original reading of 0.7%. The upward revision in the measure of economic activity was due to stronger consumer spending, which grew at 1.1% versus the 0.6% originally forecast. However, the numbers still denote a slowdown from Q4 2016, when the economy grew at a rate of 2.1%, although it was noted that Q1 numbers are historically lower than other quarters, and the stronger-than-expected trade figures published on 28 June prompted some to predict that better growth would follow in Q2.
The risk with fixed income is still that interest rates rise sharply, and hurt their capital value -particularly a problem for cautious clients, who tend to have more invested in bonds. UK Gilts have seen yields decline as Brexit uncertainty grows. The communications from the Bank of England are suggesting that the low interest rate environment is at least up for debate. Meanwhile, given the low growth and inflation environment we find ourselves in, US Treasuries appear to have priced in interest rate hikes for now. As a result we continue to diversify our portfolio protection strategies, using duration as a hedge against equity market risk. The portfolio’s duration exposure is concentrated in US Treasuries position, which we have added to recently. Yields at 2.2% are still low, but we feel the current “goldilocks” environment keeps a cap on yields.
THREE ANNOUNCEMENTS DUE THIS WEEK
5 July –Eurozone Retail Sales // 5 July –US Federal Reserve Rate Meeting Minutes // 7 July –UK Balance of Trade
SOURCES: REUTERS, BLOOMBERG, 7IM
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