September 30, 2022
MFS Week in Review
A review of the week's top global economic and capital markets news.
Bond Volatility Spike Raises Stability Concerns
As of noon on Friday, global equities were lower on the week amid rising equity, fixed income and currency volatility. The yield on the U.S. 10-year note was little changed on the week at 3.74%. but rose to just above 4% at midweek. The price of a barrel of West Texas Intermediate crude oil rose $150 to $80.50 while volatility, as measured by the Cboe Volatility Index (VIX), rose to 32 from 29 a week ago.
MACRO NEWS
UK central bank intervenes in bond market
About 48 hours after saying it would not adjust monetary policy until at least its November meeting in response to British Prime Minister Liz Truss’ plan to slash taxes and regulation during a time of high and rising inflation, the Bank of England was forced to buy 30-year gilts after as a freefall in prices and a precipitous rise in yields. The yield spike raised financial stability concerns as UK pension plans and their intermediaries were hit with margin calls they could not meet amid long-gilt selling linked to liability-driven investment strategies. At a time when the BOE was preparing to shrink its balance sheet, it instead had to set up a program in which it will buy up to £65 billion in long-term bonds until mid-October while postponing quantitative tightening. These actions raised doubts about the bank’s credibility. UK rates and the pound stabilized after the intervention.
After falling to a record-low exchange rate of $1.0350 on Monday, the pound bounced back to $1.11 on Friday, but markets remain wary that what appears to be a short-term fix won’t work. On Thursday, Truss addressed the crisis for the first time, blaming global factors for the market turmoil, not the dramatic fiscal expansion that her government has proposed. Also this week, UK policymakers received a scolding from the International Monetary Fund in which it called the prime minister’s fiscal stimulus inappropriate given the inflation pressures in the economy. Additionally, Moody’s warned that the policy shift could negatively affect credit ratings.
Fed’s preferred inflation measure accelerates
The core personal consumption expenditures price index, the inflation measure that the U.S. Federal Reserve focuses on when setting monetary policy, rose 4.9% in August versus a year ago from an upwardly revised 4.7% in July. Core PCE jumped 0.6% from the month before. Personal income rose 0.3% in August while personal spending rose 0.4%.
Market trims hawkish Fed bets as volatility jumps
Deutsche Bank’s measure of foreign exchange volatility rose to its highest level since the European sovereign debt crisis a decade ago. Major currencies, as measured by the U.S. dollar index, are at their weakest levels in more than 20 years as global investors look for a hiding place amid extreme levels of market volatility in the bond market and rising equity vol. And it’s not just currencies: The MOVE index, which measures volatility in U.S. Treasury yields, traded this week at its highest level since the global financial crisis. Earlier in the week, the yield on the U.S. 10-year note brushed 4% for the first time since the early days of the GFC. Growing concerns about financial stability led investors to pare back bets on rising short-term rates as the market priced out a 25 basis point hike next year by the Fed.
Russia suspected of Nord Stream sabotage
Following ruptures in the Nord Stream 1 and 2 pipelines, European officials have pointed the finger at Russia, claiming sabotage. While gas flows to Germany had been halted by Russia, the ruptures caused gas to bubble to the surface of the Baltic Sea, raising environmental concerns. The attacks also raised fears that other pieces of critical infrastructure in Europe would come under threat. While a small quantity of Russian gas is still being exported to Europe via a pipeline in Ukraine, Russia is threatening Ukrainian energy firm Naftogaz with sanctions, which would bring that flow to a halt. In a further provocation, Russian President Vladimir Putin will formally annex four Russian-controlled area of eastern Ukraine on Friday, declaring them Russian territory. He has vowed to defend them using all available means.
QUICK HITS
- Morgan Stanley estimates that Q4 S&P 500 earnings will face a 10% headwind from recent dollar strength.
- The Paris-based Organization for Economic Cooperation and Development sees U.S. growth slowing to 0.5% in 2023 from an earlier forecast of 1.2% and expects global growth to slow to 2.2%, a rate seen in a recession.
- The Congressional Budget Office estimates that the Biden administration’s student loan forgiveness program will cost U.S. taxpayers $400 billion.
- European Central Bank President Christine Lagarde said she expects the central bank to hike rates further over the next several meetings. Those comments came early in the week before news that the eurozone inflation rate rose to 10% in September amid broadening price pressures, the first double-digit reading since the introduction of the euro in 1999.
- ECB Chief Economist Philip Lane said Thursday the central bank’s monetary policy will not be influenced by the euro’s recent fall against the dollar.
- As fears of a recession mounted, the Bloomberg commodities index fell to an eight-month low this week.
- U.S. economic data continued to hold up better than expected as new homes sales rose a shocking 28.8% in August from July, core durable goods orders rose 1.3% last month and weekly jobless claims continued to slide, falling to 193,000 from a downwardly revised 209,000 the prior week. The consumption portion of Q2 U.S. GDP was revised to 2% from 1.5%. Inflation measures were revised up as well. Solid data will allow the Fed to remain aggressive in its fight against inflation.
- South Korea announced that it will buy ₩2 trillion ($1.39 billion) worth of government bonds in order to stabilize yields.
- Purchasing managers’ indices in China gave off mixed readings in September. The official manufacturing PMI rose to 50.1 from 49.7 while the services reading came in at 50.6, down from 52.4 in August. The Caixin manufacturing PMI fell to 48.1 from 49.5.
- Despite sluggish global demand, Japan’s industrial output rose 2.7% in August, dwarfing expectations.
- On Friday, the Reserve Bank of India raised its base rate 0.5% to 5.90%.
- Hurricane Ian made landfall in southwestern Florida on Wednesday, leaving millions without power and causing damage estimated in the tens of billions of dollars.
- On Sunday, Brazilians will vote in presidential elections that pit the incumbent, Jair Bolsonaro, against his predecessor, Luiz Inácio Lula da Silva. Heading into the election, Lula holds a commanding lead in opinion polls.
Past performance is no guarantee of future results.
Sources: MFS research, Wall Street Journal, Financial Times, Reuters, Bloomberg News, FactSet Research, CNBC.com.
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