Weekly house view | Never surrender
Federal Reserve Chair Jay Powell struck a cautiously hawkish tone in his Jackson Hole speech on Friday, saying US inflation was too high for the Fed’s comfort but that it will proceed carefully. Inflation will determine its policy path. This week, we will watch the Personal Consumption Expenditures index, the Fed's preferred inflation indicator, due for release on Thursday and August jobs data on Friday. After Powell’s speech, the two-year Treasury yield, which is sensitive to changes in interest rate expectations, rose 5 bps while the benchmark 10-year Treasury yield was unchanged. In fresh signs of economic weakness, mortgage applications fell to their lowest level since 1995 as the interest rate on the most popular US mortgage rose in the week ended 18 August to its highest level since December 2000. A bellwether for AI reported stronger-than-expected results but its stock price barely rose the next day, suggesting investors’ positioning was already quite positive. We are underweight US equities and overweight USD investment grade debt.
In Europe, the economic environment is deteriorating, led by Germany. German business activity contracted at the fastest pace in more than three years in August, the latest Purchasing Managers’ Index (PMI) showed, with the services sector back in contraction territory. Business morale deteriorated for a fourth month running in August, the Ifo survey showed. Moreover, German producer prices fell 6% in the year to July, indicating strong pressure on producers’ margins. In France, the services PMI fell deeper into contraction territory in August. The news weighed on the euro, which dropped below $1.08. We expect no growth in the next two quarters in Europe, though employment remains quite strong. In the UK, PMIs were weak too and small businesses’ sales contracted by more than 20% over the past year. The GBP fell to a 10-week low on Friday.
In China, the PBoC is trying to support the economic cycle by lowering the 1-year prime lending rate. But it surprised markets by keeping the 5-year unchanged to preserve banks’ profitability. Profits at China’s industrial firms fell 6.7% on the year in July, confirming the tough industrial environment. The PBoC has been pushing up funding costs in the offshore market to defend the yuan. Chinese regulators cut a levy on stock trades over the weekend and pledged to slow the pace of IPOs in an effort to boost investor confidence. At a meeting of the BRICs group of leading emerging economies, China played a big part in trying to promote an alternative to the dollar. Argentina, Egypt, Ethiopia, Iran, Saudi Arabia and the UAE have been invited to become BRICS members from 2024, confirming the world’s shift towards multipolarisation. The killing of the Wagner paramilitary group’s leader in a plane crash may, however, reduce Russia’s influence in Africa.