Financial Update from Brewin Dolphin - 6 April 2023

April 2023

The Weekly Round-up

Thursday 6 April 2023

In his latest weekly round-up, Guy Foster, our Chief Strategist, explores the latest US job openings figures, inconsistencies in economic data, and a surge in oil prices.

During the first week of April, stocks and bonds both made headway. Stock gains were fairly limited, whereas bonds were particularly strong. The driver has been changing interest rate expectations – namely, that it is touch and go as to whether the Federal Reserve will raise interest rates at its May meeting, and that rates will be cut at subsequent meetings. This would result in rates being around one percentage point lower by the end of the year.

Employers not employing

The US manufacturing sector appears to be contracting at an accelerating pace, according to the ISM. This is particularly evident in the new orders and employment series. This stands in contrast to an alternative purchasing managers’ index (PMI) from S&P Global, which suggests that manufacturing is contracting at a slower pace (i.e. it is less bad).

Similar discrepancies exist across the services sectors as well, with the ISM consistently more downbeat than S&P Global’s PMI. The same is true of the employment series of each index. The market takes more notice of the ISM as it has been compiling these data since the 1950s, whereas the S&P Global equivalents have only existed since 2007. There are differences in approaches too. S&P surveys around twice as many businesses as the ISM and, in its final output, S&P weights forward-looking series like new orders more highly. So it could be argued that S&P’s PMI is the more reliable indicator, despite its lack of heritage.

The ISM is an input into the Atlanta Federal Reserve’s estimate of current gross domestic product, or GDP (the Atlanta Fed GDPnow nowcast). This has been indicating that growth would be above an annualised 3% during the first quarter of 2023. However, taking this week’s data into account, that has dropped to 1.5%. The main driver of this is personal consumption expenditure, which is the largest component.

Oil producers not pumping

The US economy has been enjoying tailwinds in recent months. One was from falling bond yields, which reduce borrowing costs, most obviously for mortgages. This trend has continued this week. The more impactful tailwind came from gasoline prices, which had been declining since last June, but this will now reverse due to a sharp increase in oil prices. The rise was triggered by Saudi Arabia and some OPEC+ peers cutting the production of oil by an aggregate 1.1 million barrels per day in order to protect their profitability.

The move will frustrate the US government, whose economy is very responsive to changes in crude prices. The increased prices will be of particular benefit to Russia, whose own sales are limited by the size of markets not abiding by sanctions. It is further evidence of the US’s declining influence within the Middle East; today, we saw diplomatic relations between Saudi Arabia and Iran restored at a meeting held symbolically in China.

Also in China, president Xi Jinping is entertaining French president Emmanuel Macron this week, as the two sides try to bridge the growing diplomatic gap between east and west. However, this is happening in a week that saw US speaker Kevin McCarthy entertain Taiwanese president Tsai Ing-wen – a move which has antagonised China by chipping away at the US’s policy of ambiguity towards Taiwan’s independence. Both the US and Taiwan de-escalated tensions by hosting the Taiwanese in California, rather than McCarthy visiting Taiwan.

Armies not mobilising

The unification of China is a strongly held ambition of Xi. He has stated it must and will happen. Some argue that the time to do this would be now, when the US is heavily reliant on China for a range of economic goods which it might be unwilling to sanction. However, there are no signs of military preparations being made to this end (unlike the Russian invasion of Ukraine, which was denied by Russia even as preparations were very much evident).

There are a few compelling reasons to believe that China is not likely to embark on those preparations, and much less an actual invasion, in the near future. One would be that while the pain for the US global economy might be acute, the pain for the Chinese economy is estimated to be more severe.

The challenges in making such calculations are pretty significant, but what seems undeniable is that the terrain China would need to overcome to invade Taiwan by force would be incredibly challenging. It consists of 258 peaks of over 3,000 metres and only 14 small invasion beaches that are bordered by cliffs and urban jungles. A further complication is that the Chinese military is not a battle-hardened force.

The Chinese market was a relative laggard in the first quarter, giving up ground after a very strong run at the end of 2022. The economy looks to be among the very strongest at the beginning of this year, benefitting from the removal of Covid-zero measures.

Builders not building

Here in the UK, Halifax again gave a vote of confidence to the UK housing market, which is bouncing back after a temporary lull. House prices have been supported by a decline in mortgage rates, despite interest rate increases, as bond yields moderated from the upward spike suffered after the September mini-budget. Supply will also be a factor, though, as the UK’s construction PMI released this morning indicates that housing building is suffering its sharpest decline since the onset of Covid in 2020.

The value of investments can fall and you may get back less than you invested. Neither simulated nor actual past performance are reliable indicators of future performance. Performance is quoted before charges which will reduce illustrated performance. Investment values may increase or decrease as a result of currency fluctuations. Information is provided only as an example and is not a recommendation to pursue a particular strategy. Information contained in this document is believed to be reliable and accurate, but without further investigation cannot be warranted as to accuracy or completeness. Forecasts are not a reliable indicator of future performance.