Weekly Market Update - February 12

Posted by FlexShares on Feb 12, 2018 10:00:00 AM

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Global equities see second straight weekly drop, Bank of England signals a rate hike and U.S. inflation is in the spotlight. Find out more in this edition of “The Week in Review.”

Last Week Review

Rough week for global equities in second straight weekly decline. For the week, emerging market equities fell 6.7%1 driving a global equity return of 1.2%.2 Monday ended the S&P 500’s streak of going 80 straight weeks without a 5% correction and Thursday ended the streak of 99 weeks without a 10% correction.3 U.S. markets are now down 1.2% year-to-date.4 Non-U.S. developed market equities were down 4.4% on Friday.5 Volatility’s return to the market has pushed the Chicago Board Options Exchange Volatility Index (VIX) to the highest levels since August 2015.6 Treasury yields followed volatility with the 10-year climbing to 2.85%, its highest level since the start of 2014.7 Treasury’s with maturities coming due within the next 2-years, often referred to as the “short end of the curve,” remains elevated with the 2-year Treasury yield finishing the week at 2.07%.8 Despite the volatility and downturn, we believe a strong earnings season continues. So far, 340 S&P 500 companies (68%) have reported thus far, with earnings growth of 15.7% y/y, beating expectations by 4.8%.9

Two-year budget bill ends temporary government shutdown. After a brief government shutdown in the early hours of the morning last Friday, Congress and President Donald Trump passed a two-year budget bill. The bill passed despite Democrats’ fear of losing leverage in the upcoming immigration debate and some Republicans’ worries about increasing the deficit. Domestic program and military spending will increase to the tune of $300 billion over two years. The bill also includes short-term funding through late March to allow for additional time to finalize details of the agreement.

Merkel reaches coalition agreement with Social Democrats. German Chancellor Angela Merkel appeared to have secured a fourth term as Chancellor when she reached an agreement with the Social Democrat Party (SPD) to form another ‘grand coalition.’ SPD party members still need to approve the agreement to finalize the coalition. A government being formed in Germany would erase uncertainty around a potential second round of elections and could offer opportunities to work with French President Emmanuel Macron to strengthen the European Union (EU).

Bank of England signals rate hikes in upcoming meeting. As expected, the Bank of England (BOE) held rates steady at 0.5% but took the opportunity to indicate their intentions to push rates higher in upcoming meetings. The bank is looking to tighten policy to bring inflation back down closer to its 2% target.10 Following the meeting, the pound moved up over 1% versus the U.S. dollar.11

This Week Preview

Earnings season. Notable companies across a variety of sectors reporting earnings this week include: Coca Cola (KO), Deere & Co. (DE), CBS Corp. (CBS), Kraft Heinz (KHC), and Cisco Systems (CSCO).

U.S. inflation data in the spotlight this week. The recent uptick in average hourly earnings to 2.9% y/y will have investors keeping a close watch on headline and core inflation numbers posting on Wednesday. We believe both Headline12 and Core Consumer Price Index (CPI) 13 numbers are expected to decrease from prior numbers to 1.9% y/y and 1.7% y/y respectively.  Many professional investors utilize the Forward Rate Curve to determine the probability of a Fed rate hike and about how the market is feeling about the future movements of interest rates. The Forward Rate Curve is calculated extrapolating from the risk-free theoretical spot rate. Based on the current Forward Rate Curve, markets are currently pricing in 3 rate hikes which we believe will depend on the inflation moving closer to the 2% target in upcoming months along with continued economic growth. Fed fund futures14 currently expect an interest rate move in March with 100% probability.15 UK inflation expectations show a slight decrease to headline CPI (2.9%) and an increase to core CPI from prior levels.16 Any upward movement in UK inflation may cause the BOE to more decisively signal an increase in the policy rate in the next central bank meeting.17 Expectations show an increase to Germany CPI to 1.7% y/y.18

President Trump releases infrastructure plan which includes upgrades worth $1.5 trillion. Public works projects will be the focus including airports, roads, and bridges. Trump will also release his 2019 budget blue print, those worried about deficit expansion will monitor the release closely.

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Unless otherwise noted, all opinions expressed in this post are those of the author and do not necessarily represent the views of Northern Trust. Information contained herein is current as of the date appearing only and is subject to change without notice.


End Notes

  1. 1. Bloomberg, MSCI Emerging Market Equities Index returns 02Feb2018 – 09Feb2018.
  2. 2. Bloomberg, MSCI World Index returns 02Feb2018 – 09Feb2018.
  3. 3. Bloomberg. S&P 500 Index 26Jul2016 – 08Feb2018.
  4. 4. Bloomberg, MSCI U.S. Equities IMI Index returns 02Jan2018 – 09Feb2018.
  5. 5. Bloomberg, MSCI World ex-U.S. IMI Index returns 09Feb2018.
  6. 6. Bloomberg, Chicago Board Options Exchange Volatility Index 01Aug2015 – 09Feb2018. Professional investors utilize as a market estimate of potential future volatility.
  7. 7. Bloomberg, 10-Year Treasury Rate 02Jan2014 - 09Feb2018.
  8. 8. Bloomberg, 2-Year Treasury Rate 09Feb2018.
  9. 9. Peters, B. Stocks Dive, But S&P 500 Earnings Beating Estimates By Most in Years. Investor Business Daily. Retrieved 09Feb2018 from https://www.investors.com/news/company-earnings-beating-estimates-by-most-in-years-despite-dow-sp-500-dive/.
  10. 10. Turak, N. The Bank of England Could Validate Some Long-Awaited Optimism for the UK Economy. CNBC. Retrieved Feb 9, 2018 from https://www.cnbc.com/2018/02/02/bank-of-england-to-go-hawkish-responding-to-uk-economic-growth.html.
  11. 11. Bloomberg, British Pound Spot Exchange Rate Index (GBPUSD) 09Feb2018.
  12. 12. Headline inflation is the raw inflation figure as reported through the Consumer Price Index (CPI) that is released monthly by the Bureau of Labor Statistics. The CPI calculates the cost to purchase a fixed basket of goods, as a way of determining how much inflation is occurring in the broad economy.
  13. 13. The core CPI index excludes goods with high price volatility, such as food and energy. This measure of core inflation systematically excludes food and energy prices because, historically, they have been highly volatile and non-systemic.
  14. 14. Fed funds futures are used by banks and fixed-income portfolio managers to hedge against fluctuations in the short-term interest rate market. They are also a common tool traders use to take speculative positions on future Federal Reserve monetary policy.
  15. 15. Bloomberg, Fed Funds Futures Index, 09Feb2018.
  16. 16. Partington, R. UK Inflation Rate Slips to 3%, the First Fall for Six Months. The Guardian. Retrieved on 09Feb2018 from https://www.theguardian.com/business/2018/jan/16/uk-inflation-rate-fall-weak-pound.
  17. 17. Ibid.
  18. 18. Trading Economics. German Consumer Price Index (CPI) – Forecast. Retrieved on 09Feb2018 from https://tradingeconomics.com/germany/consumer-price-index-cpi/forecast.
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