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Aon Retirement and Investment Blog

Weekly Update - 08 October 2018 (UK/Europe)

MARKET MOVES

  • Global equity markets fell over the week with all the regions posting negative returns both in local currency and sterling terms. The MSCI AC World Index fell 1.5% in local currency terms and 2.1% in sterling terms. Rising bond yields weighed on equity returns as US treasury yields rose to their highest level since 2011 on the back of strong US economic data. Developed North America fell the least both in local currency and sterling terms at -1.0% and -1.3% respectively. All Country Pacific ex Japan fell the most both in local currency and sterling terms at -3.7% and -5.0% respectively.
  • Globally, bond yields rose over the week following US treasury yields higher. UK gilt yields rose across all maturities over the week, with the 10-year UK gilt yield rising by 13bps to 1.69% and the 20-year UK gilt yield rising by 12bps to 2.00%. 10-year US treasury yields rose by 18bps to 3.23%, touching its highest level in seven years, in a week in which the US ISM non-manufacturing index touched a 10 year high and the unemployment rate touched its lowest level since 1969 at 3.7%. In Europe, both the German bund and French government bond yields followed treasury yields higher, rising by 8bps each to 0.55% and 0.89% respectively.
  • Italian government bond yields rose by 22bps to 3.40% due to renewed budget uncertainty as investors feared a possible collision course with the EU and downgrades from credit rating agencies after the country’s populist coalition agreed a budget with a fiscal deficit of 2.4% for three years. Although the coalition government project a reduced fiscal deficit to 2.1% and 1.8% for 2020 and 2021 respectively based on more optimistic growth assumptions. Tensions in peripheral banking systems remain on the rise. Greek, Portuguese and Italian banks have all been notably weak. Greece’s largest bank fell 20% on Wednesday over fears that a plan to resolve its non-performing loan portfolio would force it to raise more equity capital. Greek government bond yields rose sharply by 34bps to 4.48% over the week, in a move widely attributed to the problems in the banking system.
  • The UK 20-year real yield rose by 9bps to at -1.48% and the Over 5-year real yield rose by 6bps to -1.40%. 20-year breakeven inflation rose by 5bps to 3.45%.
  • The US high yield bond spread over US treasury yields rose by 8bps to 332bps and the spread of USD denominated EM debt over US treasury yields rose by 4bps to 339bps over the week. The sterling non-gilt spread over UK gilt yields (based on the Merrill Lynch index) remained unchanged at 119bps.
  • The S&P GSCI rose by 1.7% in USD terms over the week. The energy sector rose by 1.7% as crude oil prices continued to rally. Brent Crude oil rose by 1.7% to US$84/BBL. Industrial metals rose by 0.6% despite copper prices remaining almost unchanged at US$6,183/MT. Agricultural prices rose by 3.5% and gold prices rose by 1.4% to US$1,204/Oz.
  • Sterling appreciated against major currencies towards the end of the week alongside signs of progress on key Brexit issues, such as the Irish backstop. The US dollar depreciated by 0.3% against sterling, ending the week at $1.31/£. The euro depreciated by 1.2% against sterling, finishing the week at €1.14/£. The Japanese yen depreciated by 0.1% against the US dollar, ending the week at ¥113.75/$.

ECONOMIC RELEASES

  • In the US, the Institute of Supply Management's (ISM) manufacturing index dipped from a 14-year high of 61.8 to 59.8; marginally below expectations of a reading of 60.0. Conversely, non-manufacturing sector growth accelerated over September as the ISM non-manufacturing index rose to 61.6 from 58.5 – the highest level since records began in 2008. Against the backdrop of the US unemployment rate falling to a multi-decade low of 3.7%, further labour market gains looked hard to come by with the 134k increase in non-farm payrolls falling well short of the 185k increase. That being said, previous readings were revised significantly higher; August rose to 270k from 201k while July's reading increased to 165k from 147k.
  • UK economic releases were mixed over the week. The Markit Manufacturing Purchasing Managers' Index (PMI) increased 0.8 points to 53.8 in September, above market expectations of a fall to 52.5. However, services PMI fell by 0.4 points to 53.9, marginally below expectations of 54.0. House price growth was also mixed with the Nationwide House Price Index increasing 0.3% in September but another indicator, the Halifax House Price Index, fell 1.4% over the same period. Finally, mortgage approvals unexpectedly increased to 66,440 in August from 65,156 in July with the rise focused on loans secured on dwellings for remortgaging.
  • Data in Europe was also mixed over the week. The Eurozone unemployment rate fell by 0.1% to 8.1% in August, its lowest level since November 2008. Retail sales data were less positive, falling 0.2% in August while July's reading was revised lower to a 0.6% fall. In Germany, factory orders rebounded from July's unexpected decline and rose 2.0% in August, well above market consensus of 0.5%. The increase was driven by a 5.8% surge in foreign demand. Elsewhere, German retail sales continued to decline in August, falling 0.5% versus expectations of a 0.5% increase and the previous month's 0.4% decline.
  • Japanese economic data was generally disappointing. The Bank of Japan’s Q2 2018 Tankan survey revealed a more pessimistic outlook for the Japanese manufacturing sector for the third straight quarter with the Tankan large manufacturer’s index falling to 19 from the previous reading of 21. Elsewhere, labor markets slowed as labour cash earnings slowed to 0.9% in the year to August, down from the 1.5% increase in the previous month and below a forecasted increase of 1.3%. In more positive news, Japanese household spending increased at the fastest rate in three years as spending rose by 2.8% over the year to August; up from 0.1% recorded in the previous month and expectations of similar growth.
  • In China, growth in the services sector accelerated in September with the Caixin services PMI rising to 53.1 from 51.5; above expectations of 51.4. However, the employment sub-index slipped to 49.0 reflecting the first contraction since July 2016 and indicating that companies are shedding more workers than hiring. To mitigate the potential effect of escalating trade tensions, the People’s Bank of China (PBoC) slashed the reserve requirement ratio by 1% for large institutions and smaller banks. It is estimated that this move will inject over $100bn into the Chinese banking system.

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