Rate Rise, Risk of Wider War Undermine Equities

by Investment Solutions Group, MFS Investment Management

For the week ending 20 October 2023

As of noon on Friday, global equities were lower on the week amid higher bond yields and unease over the potential widening of the war between Israel and Hamas. The yield on the US 10-year note flirted with 5% this week, reaching its highest level since 2006. The price of a barrel of West Texas Intermediate crude oil gained $4 on the week, rising to $90.20, while volatility, as measured by the Cboe Volatility Index (VIX), rose to 20.5 from 19.3.

MACRO NEWS

Cautious Powell suggests Fed can wait

US Federal Reserve Chair Jerome Powell delivered a speech at the Economic Club of New York on Thursday and participated in a discussion with Bloomberg’s David Westin. Powell said that given the uncertainties and risks the economy faces and how much tightening has been done already, the Fed will “proceed carefully,” suggesting policymakers are in no hurry to tighten policy further. Like many of his colleagues, Powell acknowledged that the recent surge in bond yields could require the Fed to do less. Geopolitical tensions are highly elevated, he said, and pose important risks to global economic activity. However, additional evidence of strong economic growth could merit additional rate hikes, the chair said, keeping all options on the table. Powell noted that monetary policy isn’t “too tight” right now. The odds of an additional rate hike in the coming three meetings declined after Powell’s comments, falling from about 54% at Wednesday’s close to about 33% on Friday morning.

Geopolitical tensions remain high after Biden visits Israel

US President Joe Biden visited Israel on Wednesday, but his plan to hold a summit with Arab leaders was derailed after regional protests erupted in the wake of disputed reports that Israel attacked a hospital in Gaza. US and Israeli intelligence point to the blast being caused by a misfired missile launched from Gaza toward Israel. Israel has yet to start its promised ground offensive on Hamas strongholds in Gaza City, though according to reports, during his visit Biden privately backed the plans of Israeli Prime Minister Benjamin Netanyahu to press ahead with the campaign. Arms shipments from the United States began to arrive in Israel this week. Egypt has agreed to open its border crossing with the Gaza Strip to allow 20 truckloads of humanitarian aid to reach Palestinians. Iran called for an oil embargo against Israel over its air strikes in Gaza. On Thursday, a US Navy destroyer intercepted three missiles fired from Yemen, along with a swarm of drones. It is believed that the missiles targeted Israel. In a Thursday evening public address, Biden asked the US Congress to appropriate $100 billion to aid Ukraine and Israel, among other appropriations, but because lawmakers have still not elected a new speaker of the House of Representatives, no new legislation can yet be enacted. Amid the regional tumult, gold has proven the best performer among the traditional safe havens, along with the Swiss franc. Oil is firmer within recent ranges, though below its late-September highs. US Treasuries have given back the gains that came in the days after the attacks on Israel began, posting new multiyear-high yields late in the week.

China’s economy shows signs of bottoming

China’s Q3 growth rate beat economists’ forecasts after several incremental rounds of fiscal and monetary stimulus. GDP rose 4.9% year over year, better than the 4.5% consensus forecast but slower than the 6.6% pace recorded in Q2. Industrial production rose 4.5% from a year ago, slightly exceeding forecasts, while retail sales rose 5.5%, beating the 4.9% estimate. However, property investment plunged 9.1% year over year and residential property sales fell 3.2%. Overall, the data show marginal improvement in the world’s second-largest economy.

QUICK HITS

Bloomberg reports that bond market volatility is exceeds stock market volatility by the widest margin in at least 18 years.

A Wall Street Journal quarterly survey of economists shows that the economists expect the US to skirt recession, the Fed to halt rate hikes and inflation to continue falling.

The International Monetary Fund has warned China that it risks “Japanization,” potentially resulting in low growth and deflation as a result of the bursting of its property bubble. The IMF urged China to restructure distressed property developers and support highly indebted local governments.

This week, the US eased oil sanctions against Venezuela in exchange for the government of President Nicolás Maduro lifting bans on opposition presidential candidates and releasing political prisoners and wrongfully detained Americans.

US retail sales rose 0.8% in September, with August sales revised up 0.8% from 0.6%. Core sales rose 0.6%, greatly exceeding expectations and helping fuel the continued rise in US Treasury yields.

US mortgage applications hit a 28-year low this week as mortgage rates continued to rise. Sentiment among US homebuilders fell in October while existing home sales dropped to the lowest level since 2010.

Inflation in the United Kingdom appears sticky, hovering near 6.7% for the third month in a row; however, wage growth appears to be peaking, which will likely keep the Bank of England on the sidelines.

Boosted by government transfer payments and rising stock and home prices, US inflation-adjusted household net worth climbed 37% from 2019 to 2022, the largest-ever increase since the Fed’s triennial Survey of Consumer Finances began in 1989.

Chinese President Xi Jinping hailed his “deep friendship” with Russian President Vladimir Putin as the two leaders met in Beijing to reaffirm their close partnership.

This week, US weekly jobless claims fell below 200,000 for the first time since January, descending to 198,000, another sign that the US is likely to avoid a near-term recession.

The Conference Board’s index of leading economic indicators fell 0.7% in September, the eighteenth consecutive monthly drop.

Representative Jim Jordan (R-OH) will make a third attempt to secure the speaker’s gavel in the US House of Representatives after his first two attempts fell far short of the mark. Efforts to temporarily broaden the powers of acting Speaker Patrick McHenry (R-SC) have not borne fruit. The lack of a speaker is becoming a pressing problem as government funding runs out in a matter of weeks and important matters such as funding for Ukraine and Israel remain stalled.

EARNINGS NEWS

With just over 17% of the constituents of the S&P 500 Index having reported for Q3 2023, blended earnings per share (which combines reported data with estimates for those that have yet to report) shows that earnings declined 0.6% compared with the same quarter a year ago, according to data from FactSet. Sales growth has risen less than 2% year over year.

Copyright © MFS Investment Management

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Sources: MFS research, Wall Street Journal, Financial Times, Reuters, Bloomberg News, FactSet Research, CNBC.com.

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