Market Review July 2019
After an exceptionally strong start to the year, financial markets paused for breath in July, with most asset classes delivering muted returns. The Federal Reserve (the Fed) lowered US interest rates for the first time in 11 years, and the European Central Bank (ECB) gave strong hints that an easing package is on the way.
Developed market equities continued their solid run, returning 1.2% over the month and outperforming their emerging market counterparts. The S&P 500 reached new all-time highs during July, closing 1.4% up over the month and more than 20% up year to date. In the UK, the FTSE 100 delivered 2.2% in July, boosted by a weaker pound.
The UK was one of the best performing major stock markets in July as Sterling fell sharply to its lowest level vs Dollar since 2017. Whilst this may be bad news for back packers it was good news for the FTSE100 with overseas earnings translating into higher sterling returns.
Sterling was weak on renewed fears of a disorderly EU departure after Boris Johnson came to power with a “do or die” pledge to achieve Brexit on 31 October. With parliament having regularly demonstrated that it is not willing to allow the UK to leave the EU without a deal, a no-deal exit remains unlikely unless a general election or referendum were to provide a mandate for it.
Source: xe.com GBP/USD 5 Year Chart
Meanwhile, figures from the Office for National Statistics revealed GDP rebounded 0.3% in May, following a 0.4% contraction in April. In further positive news, retail sales rebounded in June, defying expectations for another month-on-month decline.
The month ended on a sour note as the FTSE100 experienced its most significant one-day fall in two months as a mix of trade tensions, poor results in financial and retail sectors and the Pound recovering from a 28-month low trimmed monthly returns.
July was a busy month for European leaders as nominations for many of the top jobs in Brussels were decided. After several days of tense talks, the most important outcome for investors was the nomination of Christine Lagarde to take over from Mario Draghi as ECB leader at the start of November.
Lagarde was one of the most dovish options out of the potential candidates, and has previously been vocal in her support for Draghi’s accommodative stance on monetary policy. Given the ECB’s struggles to normalise interest rates during this economic cycle, it is likely that Europe’s response to the next downturn will require greater coordination between central bankers and politicians to support the economy. Lagarde’s expertise in political negotiations may therefore have strengthened her case relative to other candidates with more traditional experience for such a role. Confident in the knowledge that a successor is unlikely to reverse course, the ECB’s Governing Council used its July meeting to send strong signals to the market that a stimulus package is coming. Interest rate cuts into deeper negative territory and new rounds of asset purchases are both being considered. The dovish tone from policymakers helped European sovereign bonds to perform strongly in July. Constructive talks between Italy and the European Commission around Rome’s fiscal trajectory were a further plus for European investors. However, ongoing deterioration in economic data offset the better political news as manufacturing data from Germany – traditionally Europe’s exporting powerhouse – continued its slide.
Eurozone shares were virtually flat in July with the MSCI EMU index returning 0.1%. as data was released showing the eurozone economy expanded by 0.2% in Q2, slowing from a growth rate of 0.4% in Q1.
US climbed sedately in July as Investors moved into perceived safe havens such as US Treasuries as trade tensions with China continue to cloud the outlook for investors and companies alike. However, a positive start to the second quarter earnings season buoyed US performance. The Federal Reserve acted late in the month to cut interest rates by 25 basis points, but Fed chair Jerome Powell said the cut is “not the beginning of a long series of rate cuts”. Investors expecting greater commitment to policy slack were disappointed as risk appetites dwindled and the US dollar rallied.
Asian shares, as measured by the MSCI Asia ex Japan index, registered a negative return in July as Q2 earnings and economic data for the region were mixed.
South Korea, where a trade dispute with Japan weighed on the outlook, and India were the weakest index markets. In India, the Union Budget announcement was disappointing while economic data and initial earnings season results were lacklustre. Thailand also lagged, as the market fell back following strong performance in June.
Conversely, Taiwan posted a solid gain, led higher by IT stocks which continued to be impacted by US-China trade developments. The easing of US restrictions on Chinese telecoms company Huawei boosted sentiment somewhat. Indonesia and the Philippines finished in positive territory and outperformed. China posted a small negative return but outperformed the MSCI Asia ex Japan index.
Expectations of an interest rate cut in the US continued to build as the 31 July Fed policy meeting came into view. As the meeting drew closer investors seemed all but certain of a 25-basis point (bps) cut, with some expecting 50 bps. The Fed implemented a 25-bps cut at its meeting, but tempered expectations of further rate cuts.
US 10-year Treasury yields finished the month unchanged, following the significant drop year-to-date.
In Europe, the German 10-year yield fell seven bps to -0.40% and the French 10-year yield fell 17bps to -0.18%. The Italian 10-year yield also ended the month 50bps lower. While the ECB kept its monetary policy settings unchanged, it hinted that further accommodation could be announced in September.
The UK 10-year gilt yield, having lagged in previous months, fell 20bps as The Bank of England (BoE) continues to view Brexit as a binary risk to its economic outlook.
Corporate bonds had another positive month, across both investment grade and high yield, outperforming government bonds.
Despite the recent market turbulence caused by the continued escalation in the US/China trade war, central bank policy looks set to be supportive of most assets in the second half of this year. The path of least resistance for the stock market could yet be higher if policy action drives an improvement in economic data, but downside risks warrant an element of caution.
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