Risk assets initially had a good week as markets reassessed central bank reaction functions in the wake of a volte-face by the Bank of England. Then came the US October CPI release.
COVID-19 caseload rising
World daily new Covid cases have climbed to around 465 000 per day, led by a continued surge in Europe, where the infection rate has risen to around 260 000 a day.
Although infection rates in the US have receded over the past two months, they remain high at around 70 000 per day.
In China, daily new cases show little signs of easing, pointing to near-term risks to consumption.
Political appetite for renewed restrictions has declined globally, although China remains an exception as the authorities are unlikely to deviate from their zero-tolerance approach ahead of the Beijing Winter Olympic Games in February 2022. High infection rates represent a risk for further supply chain disruptions and labour market tightness in China.
Covid antiviral pill – A real game-changer?
On 5 November, Pfizer announced its Covid-19 oral antiviral treatment cut the risk of hospitalisation or death by 89% in a late-stage trial. This focused on 775 unvaccinated adult patients with mild to moderate Covid-19 and considered at higher risk of serious illness from the disease.
Clinical trial results were encouraging: 0.8% of participants who took the antiviral drug within three days of showing symptoms were hospitalised versus 7% for those who received a placebo. None of the patients taking the drug died compared with 1.6% of those who received a placebo.
Antiviral treatments are simple, easy to administer and cheaper than other treatments. They are less complicated to manufacture than vaccines. They could be a complementary tool in the therapeutic toolbox to transform Covid-19 into a manageable disease.
Dovish Bank of England confounds expectations
Last week, the Bank of England (BoE) surprised markets by keeping interest rates on hold. The impact for bonds went beyond the UK as the BoE’s decision suggested that central banks, faced with cost shocks, might sit tighter than expected on policy rates. UK bonds rallied as investors unwound their positions anticipating rate rises.
The BoE has decided to back away from an immediate rise in rates, leaving its benchmark policy rate at the historic low of 0.10% despite publishing its highest inflation forecast for a decade. It now expects UK inflation to reach 5% next spring and the BoE’s Monetary Policy Committee said it was likely that rate rises would be required ‘over coming months’.
However, the need to tackle inflation was considered less urgent than implied by BoE Governor Andrew Bailey’s comments last month, that the MPC ‘will have to act’ to restrain rising prices. The decision to hold interest rates confounded financial markets, which were convinced the BoE was poised to tighten monetary policy, raising the main rate to 0.25% for the first time since 2018.
The MPC attempted to quell market disquiet with signals that it would still need to take action to tame inflation. However, Bailey would not be drawn on when it would act. Asked to define the phrase ‘over coming months’, the governor said there were “several [MPC] meetings over the coming months”. He suggested the BoE would not raise rates to 1% by the end of 2022, as expected by the markets, because its forecasts showed inflation would fall to below its 2% target in the medium term if it tightened monetary policy by that much.
After the BoE’s dovish surprise, and the US Federal Reserve’s comment that inflation pressures reflect factors that are expected to be transitory, investors chose to reduce their underweight duration positions. Yields of eurozone bonds and US Treasuries fell sharply as investors reassessed central bank reaction functions.
US jobs growth rebounds in October
The latest jobs report was solid. Employers added 531 000 jobs on the month with notable upward revisions to job growth in August and September. That left total employment 4.2 million below its pre-pandemic level, but still around 7.5 million below the pre-pandemic trend.
If the economy manages to sustain the pace of job creation over the last six months all the way through next year, the US would return to pre-pandemic employment conditions in late 2022. Under normal circumstances, continued job growth at that pace would be remarkable, especially given that the economy will not be benefiting from major fiscal stimulus in 2022. However, right now, there are several million more job vacancies than usual. That should help support employment.
A dive into the sectoral breakdown makes it clear that the reduction in Covid cases since mid-September helped push employment growth back up in the sectors most sensitive to the effects of the virus and perceptions of infection risk (bars, transportation, hotels etc.). At the same time, job gains in the broader economy (manufacturing, business services etc.) remained robust at over 300 000.
Despite strong labour demand, labour force participation was again little changed, leading to a further decline in the unemployment rate, which is now at 4.6%. The big question is how representative that 4.6% figure of overall labour market slack is. Wage growth remained robust with particularly strong gains in the leisure sector, suggesting that demand for workers has continued to outstrip supply. Whether it will do so into the first half of next year will be key to the prospects for monetary policy.
In his press conference on 3 November, Chair Jay Powell stressed that the Fed was moving into ‘risk management’ mode, balancing the trade-off between wanting to see the labour market return to 2019 levels of employment and the risk that inflation would stay above target longer than desired.
House of Representatives passes Biden’s infrastructure bill
The House of Representatives has approved Joe Biden’s USD 1.2 trillion bipartisan infrastructure bill in a major victory for the US president after months of Democratic party infighting.
The vote provides a much-needed legislative win for Biden as he grapples with falling approval ratings and Democrats’ losses in several key elections recently.
US inflationary pressures building
Returning to the rising price pressures, the latest data that the US consumer price index increased by 6.2% in October from the level a year ago. This is the biggest monthly rise since 1990, reflecting broad-based price increases. The monthly CPI rose by 0.9% from September, marking the largest increase in four months. Both pieces of data exceeded consensus expectations.
Higher prices for energy, shelter, food and vehicles fuelled the strong reading in October and suggest inflation pressures may be broadening. Faced with solid demand, US businesses have clearly been raising prices for consumer goods and services steadily, while supply bottlenecks and a shortage of qualified workers are driving up costs.
Excluding the volatile food and energy components, core inflation rose by 0.6% in October from September and by 4.2% from a year earlier. The annual increase is the largest since 1991.
Shelter costs – a more structural component of the CPI constituting around a third of the overall index – rose by 0.5% in October (the most in four months), amid higher rents and home prices. Prices for new cars were up by 1.4% in October as a global shortage of semiconductors continued to limit inventories and drive up manufacturing costs. Used-vehicle prices jumped by 2.5%.
The surprise release reversed much of the rally in Treasury yields that had followed the Bank of England’s decision. Expectations for the level of Fed funds in one year jumped by 15 basis points. US equities sold off, with particular weakness in real-rate-sensitive growth stocks.
Risk assets at all-time highs
Stock markets and other risk assets have been making all-time highs. Market sentiment has recently been boosted by strong corporate earnings and the reaffirmation by leading central banks of their easy monetary policies. Ample liquidity is also helping (see Exhibit 1 below).
The records that have been established are notable and not just for financial market historians. Here are some of the recent milestones:
- On 8 November, the S&P 500 completed eight consecutive days of all-time closing highs. This is the longest run since 1997. European stocks remain close to all-time highs. The STOXX Europe 600 has closed higher on 16 of its past 20 trading days.
- The S&P 500 has now closed at a record high 65 times this year, according to S&P. The record for the most new highs in a year was set in 1995 with 78, marking the second-highest total in history. It has risen by more than 25% since the start of the year, and has more than doubled since the coronavirus-induced market rout of March 2020.
- On 9 November, bitcoin hit an all-time high at USD 68 494, giving it a market capitalisation of just under USD 1.3 trillion.
In our multi-asset portfolios, we are positive on risk assets (equities and commodities). We expect the healthy pace of economic growth and supportive central bank policies to continue to underpin valuations.