Weekly Market Insight - February 19th 2018

Equities

After a wobbly week, or two it looks as though the stock market rebound could continue if the Fed doesn’t act too hastily to unsettle markets.

After what was the best week in over five years, the main US indices regained about half the 10% loss that was seen in early February after the employment data, especially earnings led to fears of rising inflation and higher interest rates.

Since that time, it appears that the stock market has adopted a more realistic tenor and has found a way to live with rising bond yields. On the week the T2 added 7bps to yield 2.21% and the T10 rose by 6bps to print 2.92%. The next phase in these testing times is to hear what the half dozen talking heads from the Fed at the end of the week (see the calendar) have to say about the inflation outlook.

Be watchful as any suggestion of a more rapid rise in the Fed Funds rate will syphon investment flows from equities as borrowing costs become higher for investors and companies. There is also the worry that rising inflation could erode profit margins.

The S&P 500 is now 4.9% from its all-time high, following the decline of almost 10%…that was the most severe correction in two-years.

Elsewhere, German stocks were higher after the close on Friday, as gains in the Consumer & Cyclical, Financial Services and Industrials sectors led shares higher. French stocks were higher after the close on Friday, as gains in the Utilities, Oil & Gas and Healthcare sectors led the way.

In the UK, the FTSE 100 has performed strongly over the past couple of years, with 2016 and 2017 having brought in total returns i.e. price gains + dividends of 19% and 12% respectively. Since then the FTSE 100 has fallen to give up all its recent gains and sit at a level that’s a shade below the same point a year ago.

The FTSE 100 is now down 5.7% since the end of last year, and that pushes up the average dividend yield to a little over 4.5%. This makes the FTSE 100 an attractive income prospect.

Japanese stocks were higher after the close on Friday, as gains in the Precision Instruments, Shipbuilding and Insurance sectors leading the gains.

For global equity funds, net inflows during the past week totaled nearly $6Bn, with global, Europe and Japan funds outweighing a net redemption of $7bn from US funds.

Fixed Income

A change has come over the bond market, in that it has begun to signal that investors see the Fed raising interest rates for a longer period and possibly as many as four times this year. Thus, anything the Fed speakers say about their view of inflation or recent market volatility will be important.

As Treasury yields rose, especially as the T10 tends toward 3.0%, so the spreads of lower grade fixed income assets lost their appeal and investors moved quickly away from junk bond funds in the past week. They are driven by concerns about interest rate increases and a rise in risk aversion.

Net redemptions from high-yield debt funds totaled $10.89Bn in the week to Wednesday. That was their second largest net outflow, according to fund tracker EPFR Global.

Foreign Exchange

The Dollar will be important in the week ahead, and it could move higher after a technical break on Friday. The U.S. unit has been under pressure, with the Dollar Index losing 1.5% in the past week.

However, the Dollar Index closed higher by 0.5% on Friday, just above the important 89 level, the Thursday high. That indicates it could move higher in the near term. Bearish sentiment appears to be extended. Technically, the Dollar looks like it’s making a key reversal against many currencies as the Dollar Index Spot less the 50 Day Moving Average enters a small and young impulsive channel.