Insights

Eurozone growth outshines US

13 October 2017

Eurozone growth outshines US

The now-typical mix of politics and geo-politics threw up its usual serve of distractions for markets in September, but as a rule global markets were positive.

Tax cuts on the Washington table

In the US, President Donald Trump finally unveiled his administration’s new tax plan. The centrepiece is a proposal aimed at lowering the corporate tax rate from 35% to 20%, while for individuals, collapsing the existing tax brackets from seven to three. But the plan faced immediate criticism, and acknowledgement from the Republicans—following the collapse of their latest plan to repeal the Affordable Care Act—that they cannot rely on their theoretical majorities in Congress to pass legislation. Criticism focused on the fact that the plan would actually raise taxes for many middle-income families: the President, however, called it ‘a miracle for the middle class’.

Away from politics, the US economy showed a better growth rate than previously estimated in the second quarter, posting its fastest pace in more than two years at a 3.1% annual rate. US personal income rose 0.2%, while consumer spending was up 0.1%. The forward-looking Chicago Purchasing Managers Index (PMI) spiked to 65.2 in September, a jump from the August reading of 58.9, showing surging optimism among firms about business conditions.

The US Federal Reserve was also highly influential during the month, formally announcing that it would start to reduce the trillions of dollars’ worth of bonds it amassed as part of its economic stimulus measures following the GFC in 2008. Initially this will erode the Fed’s balance sheet by US$10 billion a month—not much change to a balance sheet that has swollen from US$850 billion prior to the GFC to US$4.5 trillion now, but it’s a start—and the Fed will lift that to US$50 billion a month in two years. Fed chair Janet Yellen also turned hawkish late in the month, warning in a speech that it could be risky “moving too gradually” on US interest rates. This was taken as reaffirming that the Fed is confident on the continuation of the US economy and a rate hike is on the cards for December.

Strong quarter for US shares

On the markets, investors concentrated on sending shares higher, with the S&P 500, Nasdaq Composite and Russell 2000 small-cap indices all hitting record highs on the last trading day of September—with the laggard, the Dow Jones Industrial Average, closing the month just 7 points short of an all-time high. The Dow Jones was up 2.1% in September, and 4.9% for the quarter; the S&P 500 gained 1.9% for the month, and 3.9% for the quarter; and the Nasdaq Composite added 1% for September, and 5.8% for the quarter. Both the Dow Jones and the SP&P 500 racked up their eighth straight rising quarters, while the Nasdaq posted five upward quarters in a row. September closed with analysts estimating S&P 500 constituents would report a 4.2% rise in profits in the third quarter compared with September 2016.

Eurozone growth outshines US

In Europe, September’s highlight was the German election. After 12 years in power, Chancellor Angela Merkel won an historic fourth term, but her victory was marred by the hard-Right AfD party winning its first seats in parliament. The main opposition Social Democrats (SPD) saw their vote drop to a post-war record low, at 20.8%.

In economic data, the highlight was the Eurozone manufacturing PMI hitting a six-year high in September, while the IHS Markit composite PMI figure defied a consensus economists’ estimate of a fall to rise to 56.7 in September from 55.7 in August, reaching its highest level since May. The latest Eurostat figures showed the Eurozone economy growing by 0.6% in the second quarter, or 2.3% on an annual basis. That’s better than the 2.2% growth rate of the US—and in fact, Eurozone growth has quietly outpaced the US for the past two years.

In the UK, the Bank of England made clear its intention to ease its foot off the accelerator, with an expected interest rate rise in November. The UK’s Office for National Statistics revised down growth figures for the second quarter of the year: slower growth in the last three quarters of 2016 lowered year-on-year GDP growth in the second quarter from 1.7% to 1.5%. The UK’s FTSE 100 stock market index eased 0.8% in September, but posted a 0.8% gain for the quarter.

The Stoxx Europe 600 index notched its best month since December 2016, up 3.8%, and ending the quarter with a return of 2.3%, a sound recovery from a 0.5% loss in the second quarter. Germany’s DAX index posted a 6.4% monthly gain, its best monthly performance for the year, and recorded a quarterly rise of 4.1% for its fifth straight quarterly increase. In France, the CAC 40 index had its best month since March, pushing 4.8% higher, which took it to a 4.1% rise for the quarter.

Markets positive on snap Japanese election

The North Korean test detonation of a hydrogen bomb (reported to be seven times stronger than the bomb the US dropped on Hiroshima in 1945) early in the month—and the accompanying demonstration of a similar weapon being loaded on to an intercontinental ballistic missile that could theoretically hit most major cities—brought the most concerted set of United Nations Security Council measures yet against North Korea; to which the hermit nation responded with another missile test over Japanese airspace.

The Japanese stock market didn’t enjoy the act, which coincided with a decline in US Treasury yields. But later in the month, markets rose as Prime Minister Shinzo Abe called a snap general election for 22 October, seeking a mandate for the tougher diplomatic and defence policies he says are needed to deal with the escalating threat from North Korea; and for seeing through his Abenomics economic policies. Facing him will be the unexpected figure of Yuriko Koike, Tokyo’s first female governor and founder of the brand-new Party of Hope. Japanese industrial production rose by 2.1% month-on-month in August, while trade data showed that both imports and exports were strong.

In China, industrial output rose 6% annually in August, down from expectations of 6.6%—registering the slowest pace this year. Retail sales grew 10.1% from a year earlier, compared to an expectation of 10.5%—also the lowest figure in 2017. Fixed-asset investment in urban areas rose by 7.8% in the first eight months of the year, the slowest rate since 1999. In contrast, the September manufacturing PMI rose by 0.7 points to 52.4, showing accelerated expansion. The continued slowing of the world’s second-largest economy suggests that efforts to rein in credit expansion and reduce excess capacity are working ahead of the major event in China’s year, the 19th Party Congress in October. 

Japan was the region’s strongest market in September, with the Nikkei index racking up its best month of 2017, rising 3.6%. The Hang Seng index slipped 1.5% in September, posting its first monthly loss for the year. In South Korea the KOSPI index added 1.3%, while the Shanghai Composite Index eased by 0.3% after a late-month sell-off toward the end of the month, prompted by China’s ratings downgrade from S&P. In Australia, the S&P/ASX 200 index was fractionally lower on the month, as the mining sector was weighed down by weaker commodity prices. In particular, the volatile iron ore price sank 21.4% for the month.