Global Weekly: A step back

News item -

After equity markets recovered in April, May started on a downbeat note caused by tensions between the US and China. Both US President Trump and Secretary of State Pompeo criticized China for the corona outbreak. Disturbed relations between the two economic powers could endanger the strongly needed economic recovery.

The negative stock market reaction does not come as a surprise, as stocks already largely anticipated a possible improvement in economic activity and global trade. In Europe, the financial sector was under pressure due to doubts whether the German Constitutional Court would agree with all measures taken by the European Central Bank (ECB) to support the financial system.

Despite the possibility of a disturbed relation with China, US stocks again outperformed other developed regions, in the hope that lockdowns will soon be abandoned or softened in several states. Technology stocks again were the main driver of the continued outperformance. The sector already has shown resilience in the corona crisis and corporate results supported this trend.

In Europe, the earnings season is heating up with more important companies publishing first-quarter figures. In the energy sector, the announcement of an interim dividend of Total was a relief to investors after the Royal Dutch Shell dividend cut. The French energy company also published a net income above the consensus in the first quarter. The stock also benefited from the recovery of the oil price.

Pharmaceutical company Novo Nordisk had strong sales in the first quarter, although part of it was a result of patients stocking up medicines in anticipation of lockdown measures. The company maintains its guidance for revenue and earnings growth in 2020. Similar comments were made by Ahold Delhaize. First-quarter revenue was also boosted by consumers hoarding essential products in anticipation of lockdown consequences.

Bonds: How close are we to the Fed buying bonds?

The latest trend in the US and German leading government bond market is for slightly higher adjusted yields. The explanation for Europe is twofold; the pressure from the southern EU countries for euro-corona bonds (bonds collectively underwritten by all European states) and a court ruling in Germany. A German court is questioning the justification of the ECB bond buying programme and its proportionality. The ECB could ignore the German ruling, given a ruling in December 2018 by the European Court of Justice (ECJ) that affirmed the ECB’s bond buying. The ECJ has jurisdiction not over only the ECB, but also over the implementation of monetary policy by euro-system central banks. It is also a delicate proposition if the ECB would need to discuss its approach with the German Bundestag and not the Bundesbank. The court ruling is seen as a challenge to the independence of the ECB. The ECB’s Pandemic Emergency Purchase Programme is also about six-times the size of the quantitative easing (QE) that the German court is trying to rule about.

The US Treasury has started to issue government bonds worth close to USD 100 billion to fund the fiscal stimulus program approved by the US Congress. It is expected that the US Federal Reserve will keep up its pace to support the US Treasury market. Furthermore, the Fed announced that they would buy corporate-credit exchange-traded funds (ETFs) before they will buy individual bonds. We see this as an acknowledgement that the bond buying part of the programme has become so complex that its implementation is not coming in the near term. The Fed is able to buy ETFs more easily than they can bonds, because the rules requiring corporates to attest that their bonds are eligible for purchase do not apply to ETFs.

On a global basis, central banks are expanding their balance sheets with their asset purchase programmes (QE), whereby the Federal Reserve, the ECB and the Bank of Japan are taking the biggest portions. Central banks in emerging markets are also starting to experiment with QE programmes in their domestic markets. With no imminent inflation on the horizon for emerging markets, real local currency bond yields could find lower levels, but the currency could be the risky part. With recession risk rising for developed markets, these risks will likely also impact emerging markets regions and countries. The impact of these risks could be an additional challenge for emerging markets assets.