Notes from the Trading Desk – Europe

The Digest

Global equities traded higher again last week with both the STOXX Europe 600 Index and the S&P 500 Index making new all-time highs. Improving macro data and continuously dovish central banks have kept equity markets well supported. However, volumes were poor last week with the US and UK market holidays last Monday setting the tone. For example, STOXX Europe 600 Index volumes were down 25% on the week.

There was a general lack of market catalysts out there, allowing markets to grind higher, following the same path they have set in recent months. The MSCI World Index closed the week up 0.6%; regionally, the STOXX Europe 600 Index closed up 0.8%, the S&P 500 Index closed up 0.6%, whilst the MSCI Asia Pacific Index closed up 1%.¹ Cyclicals did well overall, with macro data supportive following upward revisions in the Eurozone Purchasing Managers’ Index (PMI) and further acceleration in the US Institute for Supply Management (ISM) indices. Oil prices rallied with focus on falling inventories and with the Organization of the Petroleum Exporting Countries (OPEC) bullish on demand while maintaining discipline on increasing supply.

COVID-19:  Positive Signs, but Still a Risk

The push and pull we have recently seen in markets on the back of reopening headlines was evident again last week. In the United Kingdom, the lockdown exit in England that was scheduled through June received a bit of a blow as ministers questioned whether a full reopening on 21 June was sensible, given the recent rise in cases. Scientists who brief the government remain split on whether this reopening should be delayed. Combining that with the news that Portugal would be removed from the UK’s “green list” for quarantine-free travel, businesses and investors had reason for increased concern.

Prime Minister Boris Johnson had previously said that any loosening of restrictions would be irreversible. Whilst the data is showing a notable increase in cases, the number of daily deaths remains at relatively low levels. The average age of those testing positive for COVID-19 in the United Kingdom is 29, the youngest yet recorded. This is down from age 35 at the beginning of April and 41 at the start of the year. The latest figures show that half of UK adults have received both doses of a COVID-19 vaccine. The milestone came on 3 June, a day after the UK government announced that three-quarters of adults had received their first dose. Indications show that the vaccination programme continues to have a material impact on serious illness resulting from COVID-19.

The vaccination programme is also picking up in continental Europe. At the start of April, Germany had administered 17 vaccines per 100 people, and the number rose by the end of May to 60 vaccines per 100 people. France (17 to 54) and Italy (17 to 57) saw similar increases over the same period. The schedule of vaccine deliveries points to further rapid progress ahead. There was a report last week which noted that the European Union (EU) has proposed to lift all quarantine requirements from 1 July for those who are fully vaccinated against COVID-19.

The market continues to react to specific headlines and announcements, rather than the reopening trade as a general theme. For example, European airlines sold off last week following the United Kingdom’s removal of Portugal from the green list, and the Credit Suisse European Airlines Index closed the week down 3.5%. More generally, the Goldman Sachs Stay at Home basket outperformed last week, up 1.4%, but the equivalent Going Out basket was also up 0.2% with the latest headlines regarding the Delta variant in the United Kingdom failing to spook investors just yet.

UK Economy: “Eye popping” Growth

UK macro data continues to reflect a sharp bounce back in the recovery, with the UK Services Purchasing Managers’ Index (PMI) showing the fastest growth in 24 years (62.9 actual vs. 61.8 estimated). According to IHS Markit (who produce the PMI data), “the rollback of pandemic restrictions unleashed pent-up business and consumer spending” and points to an “eye-popping” rate of UK gross domestic product (GDP) growth in the second quarter. In addition, the UK May jobs report showed the fastest growth in permanent and temporary placements in 20 years, the strongest wage growth in three years and the sharpest fall in candidate availability in four years. Also, only 8% of the UK business workforce are on furlough now.

Meanwhile, UK consumer finances continue to improve. The Bank of England’s (BoE) figures last Wednesday showed consumers continued to pay off significant amounts of debt since the start of the crisis. Net lending for consumers fell by GBP400 million in April, while households deposited a further GBP10.7 billion in banks and building societies.

The UK Housing Market is also Surging

UK house prices rose by 10.9% year-on-year to May 2021 and there were strong UK property sales, with UK mortgage approvals rising unexpectedly in April from the previous 83,000 to just under 87,000, above the consensus of 81,000. These figures add to the strength in the housing market as the UK government extended the stamp duty holiday on home purchases, fueling a surge in property prices. The BoE has said it is watching this closely. Deputy Governor Dave Ramsden said, “there’s a risk that demand gets ahead of supply and that will lead to a more generalized pick-up in inflationary pressure…that’s something we are absolutely going to guard against.”

European Impact from Retail Volatility?

Last week’s volatility in the heavily shorted so-called US “meme” stocks has not filtered through to European markets in a meaningful way as yet. Research from Cowen compared baskets of the most shorted stocks in the United States and Europe, noting that last Wednesday the United States basket traded +7.5% (AMC +95%) while European shorts were essentially flat. Indeed, their European “most shorted” basket has seen muted performance for a couple of months. However, in January we also saw US retail investors play a few European names (notably Nokia and Volkswagen) via their American depositary receipts (ADR). Volume in Nokia ADR was elevated last week (2x adv on Tuesday) suggesting some impact. This dynamic will be closely watched for any material impact over the coming weeks and months.

In terms of how prevalent retail investing is in Europe, it does appear to be on the increase.

Week in Review

Europe

European equities treaded water for most of last week and ahead of the Friday release of the May US employment report. Stocks in Europe, now the outperforming region year-to-date, were resilient, with the STOXX Europe 600 Index closing the week up 0.8%. We were very light on broader macro themes through most of the week; however, as noted, we have seen focus shift back to COVID-19 recovery somewhat, with a few announcements this week providing some push and pull for markets.

In terms of the country indexes, the Italian FTSE MIB Index led the way, up 1.6%, helped by outperformance from some of its heavyweight constituents. Conversely, Spain’s IBEX 35 Index lagged last week, down 1.5%, weighed by underperformance in its own heavyweights.

In terms of sectors, the automobiles outperformed last week, up a notable 5.3%, making it the best sector year-to-date in Europe. The sector was helped by cyclical outperformance and with chip shortage fears subsiding somewhat. Oil and gas stocks were also strong in Europe, up 2.7%, with oil prices breaking higher. Brent broke through US$72 for the first time in over two years. The notable laggard last week was utilities, down 2.4%, the worst performer year-to-date, with the defensives unfavoured once again in Europe. Overall, it was another big week for inflows into European stocks, with data showing another US$2.3 billion into equities in the region.

In Germany, the ruling Christian Democratic Union (CDU) partly surpassed expectations (based on polling) over the weekend and won the Saxony-Anhalt state election with 37% of the vote. Renewables traded lower at the start of this week, as the strong performance from the CDU suggests a Green victory in September national elections is less likely. Some recent polls had given the Greens a national lead.

United States

Like in Europe, it was a very quiet week for US markets as equities continued to trade in a narrow range with very few developments surrounding the high-profile themes. All the major indices had very similar moves, with the S&P 500 Index up 0.6%, the Dow Jones Industrial Average up 0.7% and the Nasdaq Composite up 0.5%. Much of the focus was anticipation of the May employment report, released on 4 June. Non-farm payrolls came in at 559,000, which was lower than expected. It shows that the US economy still has a long way to go to recover the 7.6 million jobs lost since February 2020. Following the employment report, the consensus view was that the Fed’s reinsured dovish commentary is leading the market for now.

The cyclicals outperformed overall as the data continues to point to a strong economic rebound. The ISM Manufacturing Index rose to 61.2, whilst new orders came in at 67.0, both better than expected. With West Texas Intermediate (WTI) up 5% on the week, US energy stocks were strong, up 6.7%. The defensives also lagged stateside, with health care down 1.2%.

The Federal Reserve’s Beige Book report showed the US economy growing at a “moderate pace” during the observation period of early-April to late-May. The report showed that “overall price pressures increased further since the last report. Selling prices increased moderately, while input costs rose more briskly.” The report also indicated that final goods prices may increase in the coming months as it cited “strengthening demand…allowed some businesses, particularly manufacturers, builders, and transportation companies, to pass through much of the cost increases to their customers.” The Federal Reserve also found increasing wages in some industries, with wage growth increasing moderately. Markets were largely unchanged following the release, as much of this was known from various sources already.

It was also interesting to see how US credit card balances and personal income have been transformed through the pandemic. Not only are credit card balances down significantly, but personal income in the United States has risen sharply, suggesting Americans have more room to spend as the country emerges from the pandemic.

Tax issues remain a major overhang for the market, but there did seem to be a step back from previous proposals. There were media reports that US President Joe Biden may drop plans for a 28% corporate tax rate to finance an infrastructure bill and to find a bipartisan solution. This of course comes at a time when G7 leaders are near to agreement on a 15% global minimum corporate tax rate, which would end decades of countries undercutting each other in the race lower and will also help countries pay for the colossal COVID-19 bills that governments now face.

Asia and Pacific

Last week saw a mixed bag in terms of performance in Asian equity markets. Australian equities performed well, up 1.6%, as the basic resources stocks rallied. In addition, the Reserve Bank of Australia (RBA) kept interest rates on hold at 0.1%, saying the economic recovery has been stronger than expected, but the pandemic continues to cloud the outlook, It kept the cash rate on hold at 0.1% and said it will discuss the three-year yield target and the case for further quantitative easing in July.

Korean equites also rose, with the benchmark index up 1.6%. South Korea’s inflation data showed a rise of 2.6% in May, its highest level since 2012. This marked the second month the headline inflation exceeded the central bank’s 2% target.

In China, performance was more muted, with the Shanghai Composite down 0.2%. There were some negative COVID-19 headlines, as China put Guangdong under partial lockdown due to a fresh outbreak. In terms of Chinese macro data, the Caixin May PMI Manufacturing came in with a reading of 52.

US-China ties were in focus as Chinese Vice Premier Liu He had a meeting via video conference with US Treasury Secretary Janet Yellen. According to the Chinese press, “The two sides believe that China-US economic relations are very important.” In addition, US Trade Representative Katherine Tai and China’s Vice Premier Liu He had a “candid” first conversation, according to China’s Ministry of Commerce.

Japanese equities lagged, down 0.7% last week. Focus remains on the upcoming Tokyo Olympics, with a number of sponsors suggesting the games should be postponed. Aside from that, after a very slow start the vaccine rollout has picked up pace, which is encouraging. Of the Japanese population, 11% have now received at least one vaccine dose. Furthermore, the Japanese government eased some restrictions for department stores and movie theatres last week.

Macro Week Ahead Highlights

At the start of this week, China trade balance data was announced. May exports grew 27.9% year-on-year and imports 51.1%. Outside of that, the European Central Bank (ECB) announcement on Thursday will be a focus as the central bank gears up for a major decision on asset purchases. Meanwhile, we have German Industrial Production (IP) data and the ZEW survey on Tuesday, and Chinese Consumer Price Index (CPI) on Wednesday. UK gross domestic product (GDP) and industrial production (IP) and US Consumer Confidence on Friday will all be in focus.

Monday 7 June

• Germany factory orders
• Spain industrial output
• US consumer credit
• China trade balance

Tuesday 8 June     

• Germany IP and ZEW survey
• France trade balance
• Eurozone GDP
• US trade balance
• Japan GDP and trade balance

Wednesday 9 June

• Germany trade and current account balance
• China CPI

Thursday 10 June

• France industrial and manufacturing production
• ECB main refinancing rate
• ECB deposit facility rate
• US CPI and weekly jobless claims
• US federal budget

Friday 11 June     

• UK monthly GDP and IP and trade balance
• Spain CPI
• Italy quarterly unemployment rate
• US consumer confidence

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