08 / 22

General

The hopes built up by the market in July for an imminent turnaround in monetary policy have already evaporated in the reporting month of August. At the central bank meeting in Jackson Hole (WY, USA), Jerome Powell stated that the Fed had by no means reached the end of its fight against inflation. Further interest rate steps, if necessary also clearly over the neutral rate (2.5%) are quite possible, in order to bring inflation back to the long-term goal. Powell's speech was short, clear and concise but also unsurprising given the economic data. Thus, the FED is prepared to keep monetary policy restrictive for longer and premature easing is not currently under discussion. It was mentioned as a lesson of the 1970s that there are no rate cuts in the midst of a recession as long as inflation remains well above target. This was a rejection of a FED pivot (reversal of monetary policy toward interest rate cuts) next year, which was expected by the market. As a result, the stock markets fell sharply. Even within the ECB Executive Board, the voices calling for a tighter monetary policy are getting louder and louder. For the upcoming ECB interest rate decision, the market currently expects an increase of between 50 and 75 basis points. The inflation data show no signs that would allow a pause in the tightening of monetary policy. To alleviate the energy crisis and spare the inflation-stricken population, governments are already discussing a reduction in the value-added tax on gas. It is astonishing to what extent the states are thwarting the self-regulating mechanism of the market. In the USA, too, student loans are generously waived and investment programs with a strategic background are launched. In the USA, this fiscal input already amounts to USD 2 trillion. Many economic data are trending south globally. Final purchasing managers' indices point to a contraction in economic activity in many places, confirming the long-standing inverted U.S. yield curves. On the geopolitics side, there was no uplifting news. Nancy Pelosi's visit to Taiwan caused a harsh reaction by Chinese troops in the neighboring territory. The situation in Ukraine remains very tense. Peace talks are not expected in the foreseeable future.

Equity Markets

Financial markets completely gave up initial monthly gains achieved under low volumes after Jerome Powell's speech and lost significant ground. Even the defensive SMI lost almost 3%. Europe, battered by the energy crisis, slipped by over 5%. The sell-off erased more than half of July's gains in some cases. Asian equities held steady. The Nikkei225 gained 1% and Hong-Kong lost 1%. The FTSE100 index held up well in global terms year-to-date. Although the index lost 2% in August, it is only 1% lower since the beginning of the year thanks to its high share of energy and mining companies. A large number of speculators are still betting on lower share prices, as can be seen from the CBOE's net short positions. Contracts sold are as high as last time during the great pandemic of 2020 (COVID-19 crash, see FOCUS). In healthy bull markets, we would take this as an opportunity; in the current regime, where central banks are withdrawing cheap money from the market, this signal should not be misunderstood.

Interest Rates

Interest rates rose again worldwide. It is interesting to compare market-based inflation expectations between the USA and Europe (see FOCUS). While inflation expectations in the United States (breakeven rate 3%) seem to be well anchored for the next 2 years, they have really gone off the rails in Europe (breakeven rate 7%). As mentioned at the beginning, the ECB seems to be taking action against this backdrop, while at the same time trying to balance multiple risks for the currency area. In September, the central bank is therefore also likely to take a larger interest rate step by historical standards.

Currencies / Commodities

Commodities showed a mixed picture. The gas price continued its high flight and the oil price corrected about 9%. Precious metals were equally weak (gold -3%, silver -10%). Drought favored the prices of certain agricultural commodities (corn +9%). The USD inched up to its highs for the year against most local currencies.

Outlook

In August, markets started the recalibration to the ongoing tight monetary policy and the more negative growth outlook that we expected and communicated in last month's commentary, following a decoupling under low volumes in July. In the near term, we expect stabilization after a very rapid sell-off before financial markets are likely to test the lower trading ranges in the seasonally difficult months. We expect that inflation could take further tolls. These include declining consumer spending and consequently lower corporate profits which ultimately translate into pessimistic investor sentiment. Western central banks continue to balance recession and inflation risks and are currently prioritizing the goal of price stability. In contrast, however, we also see slight improvements in supply chain issues as well as stimulus in China, which brighten the picture somewhat. Overall, we continue to consider a tactical underweight in equity risks as appropriate.

 

Focus Market Forecast