The last week of the month and quarter started negatively for European markets with Spain’s Ibex taking the brunt of the selling with a 1.6% drop on Monday. The losses for other European markets were smaller, while on Wall Street, technology shares outperformed, sending the Nasdaq to a new record high as yields eased back. Investors sold airlines, cruiser operators and shares in the hospitality sector, as several European and Asian governments imposed new limits on travel from the UK, where cases of the highly transmittable coronavirus delta variant have been spreading sharply.
European Markets Decline
Despite Monday’s drop for European stocks, sentiment remains overall positive towards equities and other risk assets. The major European indices are only slightly off their recent highs, while Wall Street shares are at or near record levels. Dip-buying has been the trade of choice and we don’t think that will change soon. Central banks are still happy to keep their record stimulus measures in place despite the upsurge in inflationary pressures. This message is likely to be echoed by a handful of central bank officials scheduled to speak.
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On Wednesday, we might see some volatility as money managers rebalance their portfolios ahead of the third quarter. The focus will then turn to the OPEC+ meeting on Thursday, then swiftly back to the US with the release of important macro data, including the monthly non-farm payrolls report on Friday.
Eurozone CPI Unlikely To Set Off Fireworks
Eurozone CPI, due for release on Wednesday, is expected to have moderated in June to 1.9% from 2.0% in May. But if inflation were to surprise to the upside, how will the European markets react? We think not too negatively, if it is a small beat. The European Central Bank President Christine Lagarde last week said the outlook is now balanced and that the Eurozone recovery will get back to pre-pandemic levels in the first quarter of 2022. She countered that by saying that underlying prices pressures remain subdued, and that continued support, both from a fiscal and monetary policy points of views, were needed to avoid the pandemic leaving scars. She echoed other central bank heads in saying that inflation is likely to increase in the Autumn but that it is going to be temporary. Therefore, if Eurozone CPI comes in ahead of expectations on Wednesday, this will probably not surprise the ECB watchers and it probably won’t unnerve equity investors too much, for the ECB is still keeping to the easy monetary policy script.
Inflation Concerns Have Eased But Elevated Oil Prices Pose Risk
With several commodity prices (excluding energy) easing back of late, so too have concerns over run-away inflation. But rallying oil prices means there is still the risk that inflation might accelerate more than major central banks expect. Ahead of the OPEC+ meeting on Thursday, Brent oil touched $76 and WTI $74 a barrel last week, thus reaching their best levels since October 2018, before easing back slightly on Monday of this week.
Rising oil prices are particularly bad for consumer nations such as India, where fuel prices have jumped to record highs thanks to heavy local taxes and high crude prices. If oil prices remain high or rise even further, this will surely exacerbate the situation and eat into consumers’ disposable incomes. There is a risk therefore that rising oil prices could potentially choke economic growth in India and other oil consumer nations.
However, with other commodity prices easing back and in light of the rising cases of the delta variant of coronavirus, there is a risk that oil prices may fall back from these elevated levels because of the potential for weaker-than-expected demand.
Will OPEC+ Ease Restrictions?
The OPEC and its allies will not want to risk triggering an economic downturn because of rapidly rising oil prices (and wouldn’t want to continue losing market share for too long) by keeping supplies restricted. The have a decision to make on Thursday.
The OPEC+ has been steadily raising its output as the global economy recovers from the pandemic. The group is still withholding about 5-6 million barrels a day of production from the market compared to pre-covid levels.
But how likely is it that the OPEC+ will boost supplies? The group may very well discuss production quotas for August, and possibly beyond. But with no Iranian nuclear deal in sight, and in light of the rising delta variant of Covid, which has raised the risk for weaker demand, this may well discourage the OPEC+ to increase supplies more than expected at its meeting on Thursday.
If they make no changes to the previously agreed plan, oil prices may remain supported near their recent highs amid expectations of a tight market. But if the OPEC+ decides to restore production more aggressively, then that could catch the market off guard, leading to a drop in oil prices.
All Eyes On NFP
As the Fed has become data-dependant again, speculation about the future of US monetary policy will continue this week. On Friday, all the attention will be on the US monthly jobs report, although we will have a few other important macro pointers earlier in the week from the world’s largest economy to look forward to first, including the ISM services PMI on Thursday. In so far as the jobs data is concerned, will we see a big rebound after a couple of disappointing readings? Analysts expect the economy to have created 700K non-farm jobs in June, which would be higher than the May’s 559K print. However, average hourly earnings have beaten expectations in the previous two months and another sharp rise could re-ignite inflation concerns. This time, average earnings are expected to have risen by 0.4% month-over-month vs. 0.5% previously.
If the jobs and wages data come in line or around expectations then the ongoing goldilocks scenario for the stock markets will likely be kept intact, potentially leading to fresh highs on Wall Street.
A very strong jobs report may not be too good for stocks as it could raise tapering concerns. But it will most likely boost the dollar and undermine buck-denominated commodities like gold and silver.
Meanwhile a very disappointing report could send yields and the dollar sharply lower, which in turn, could provide strong support for gold.
Article by Alexey Kirienko, CEO of International FinTech EXANTE