BlackRock Commentary: Implications of a weaker dollar

Mike Pyle, Global Chief Investment Strategist, together with Scott Thiel, Chief Fixed Income Strategist, Kurt Reiman, Senior Strategist for North America, and Tara Sharma, Member of the Macro Research team, all part of the BlackRock Investment Institute, share their insights on global economy, markets and geopolitics. Their views are theirs alone and are not intended to be construed as investment advice.


A prolonged period of U.S. dollar gains has reversed abruptly. The policy revolution to cushion the pandemic’s blow is a key driver, as it has eroded the dollar’s interest rate advantage and helped lift risk appetite off its March trough, in our view. The different restart dynamics in the U.S. and Europe have also pressured the dollar, underscoring our preference for European equities and caution on U.S. stocks.

Article Image 1

Past performance is not a reliable indicator of current or future results. It is not possible to invest directly in an index. Sources: BlackRock Investment Institute, with data from Refinitiv Datastream, as of August 5, 2020. Notes: The chart compares the price returns of the MSCI EMU Index in local currency terms and in U.S. dollar terms. The returns are rebased to 100 at the start of 2020.

 

We upgraded European stocks to overweight, on the back of the region’s robust public health infrastructure and a galvanized policy response. These two factors have moved the currency market more than the equity market so far. Unhedged, dollar-based investors in European equities have benefitted as a result, even as returns in euro terms have lagged. The price return in dollar terms (yellow) had largely trailed that in local-currency terms (orange) until late June when the trend reversed. See the chart above. We see the fundamental dynamics ultimately flowing through and helping local-currency equity returns. We are much less sanguine about emerging market (EM) equities as many EM countries outside northern Asia struggle to contain the virus spread and have limited policy space to cushion the virus shock, even with the help of a weaker dollar.

The dollar had enjoyed a decade of nearly uninterrupted gains – and had a strong start in 2020 in part helped by pandemic-triggered global risk aversion and a seizing-up of the dollar funding market. We see the unprecedented policy revolution as helping reverse that trend since March. The Federal Reserve and other central banks have cut rates and initiated other easing measures, leading to the compression of interest rate differentials between the U.S. and most developed economies, just as governments have unleashed fiscal stimulus to help households and businesses bridge the virus shock. The forceful policy response has revived risk appetite, driving investors away from perceived safe-haven assets. The Fed’s measures to alleviate the dollar funding shortage also helped take the wind out of the greenback’s rally.

The euro as well as a handful of other European currencies have led the outperformance against the dollar in recent months, cheered on by the region’s improving virus dynamics and galvanizing policy response. The creation of the European recovery fund, and its upcoming issuance of pan-European bonds, has been a boon for the euro. The situation in the U.S. appears less encouraging. Negotiations over the next round of fiscal relief measures have dragged on even as key benefits expire, while COVID cases are rising in most of the country. We expect dollar weakness to persist in the near term as the drivers for its recent decline remain in place. The longer-term outlook is harder to gauge. A key question is the currency implications of the policy revolution – especially if and how central bankers build guardrails to manage growing balance sheets in the face of greater fiscal deficits and debt issuance. The prospect of the dollar retaining its perceived safe-haven status is another concern. We are weighing these as a contentious U.S. presidential election looms.

The bottom line: The shifting pandemic and restart dynamics in the U.S. and Europe have helped weaken the dollar and strengthen the euro, underpinning our overweight on European stocks and caution on their U.S. peers. A weaker dollar generally is positive for EM assets, yet we see the relatively weak public health infrastructure and limited policy space more than offsetting such benefit across much of the EM complex. We are underweight EM equities overall and EM dollar debt, as many of developing countries have limited capacity to control the virus spread and cushion the blow to the economy. We are neutral and more constructive on EM Asia equities and local-currency EM debt.

 

Market Updates

Article Image 2

Past performance is not a reliable indicator of current or future results. It is not possible to  invest directly in an index. Sources:  BlackRock Investment Institute, with data from Refinitiv Datastream, August 2020. Notes: The two ends of the bars show the lowest and highest returns versus the end of 2019, and the dots represent year-to-date returns. Emerging market (EM), high yield and global corporate investment grade (IG) returns are denominated in U.S. dollars, and the rest in local currencies. Indexes or prices used are: spot Brent crude, MSCI USA Index, the ICE U.S. Dollar Index (DXY), MSCI Europe Index, Bank of America Merrill Lynch Global Broad Corporate Index, Bank of America Merrill Lynch Global High Yield Index, Datastream 10-year benchmark government bond (U.S. , German and Italy), MSCI Emerging Markets Index, spot gold and J.P. Morgan EMBI index.

Market backdrop

Activity has started to normalize in both Europe and North Asia, albeit with localized lockdowns to contain virus clusters. The pandemic is still spreading in the U.S. and many emerging markets. The unprecedented policy response has boosted risk assets. Europe has agreed on a historic recovery fund, but U.S. stimulus is now at risk of fading. Talks over the size and makeup of a new U.S. fiscal package have dragged on as some key benefits expired and states face huge budget shortfalls. We could see a $1-1.5 trillion fiscal package that extends some (but not all) federal stimulus measures through late-2020.

Week Ahead

  • August 10th to 17th: China inflation, total social financing, money supply and new loans
  • August 11th: German ZEW Indicator of Economic Sentiment
  • August 12th: UK second-quarter gross domestic product; U.S. consumer price index
  • August 14th: University of Michigan Surveys of Consumers; China industrial output

Markets will focus on the sentiment data from Germany and the U.S., after some levelling-off of some sentiment indicators amid ongoing concerns of renewed spread of the virus around the world. A flurry of data from China, including inflation, industrial output, retail sales and lending, could shed light on the progress of the activity restart in the world’s second-largest economy.


BlackRock’s Key risks & Disclaimers:

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of August 10th, 2020 and may change. The information and opinions are derived from proprietary and non-proprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This material may contain ’forward looking’ information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this material is at the sole discretion of the reader.

The information provided here is neither tax nor legal advice. Investors should speak to their tax professional for specific information regarding their tax situation. Investment involves risk including possible loss of principal. International investing involves risks, including risks related to foreign currency, limited liquidity, less government regulation, and the possibility of substantial volatility due to adverse political, economic or other developments. These risks are often heightened for investments in emerging/developing markets or smaller capital markets. 

Issued by BlackRock Investment Management (UK) Limited, authorized and regulated by the Financial Conduct Authority. Registered office: 12 Throgmorton Avenue, London, EC2N 2DL.


MeDirect Disclaimers:

This information has been accurately reproduced, as received from  BlackRock Investment Management (UK) Limited. No information has been omitted which would render the reproduced information inaccurate or misleading. This information is being distributed by MeDirect Bank (Malta) plc to its customers. The information contained in this document is for general information purposes only and is not intended to provide legal or other professional advice nor does it commit MeDirect Bank (Malta) plc to any obligation whatsoever. The information available in this document is not intended to be a suggestion, recommendation or solicitation to buy, hold or sell, any securities and is not guaranteed as to accuracy or completeness.

The financial instruments discussed in the document may not be suitable for all investors and investors must make their own informed decisions and seek their own advice regarding the appropriateness of investing in financial instruments or implementing strategies discussed herein.

If you invest in this product you may lose some or all of the money you invest. The value of your investment may go down as well as up. A commission or sales fee may be charged at the time of the initial purchase for an investment and may be deducted from the invested amount therefore lowering the size of your investment. Any income you get from this investment may go down as well as up. This product may be affected by changes in currency exchange rate movements thereby affecting your investment return therefrom. The performance figures quoted refer to the past and past performance is not a guarantee of future performance or a reliable guide to future performance. Any decision to invest in a mutual fund should always be based upon the details contained in the Prospectus and Key Investor Information Document (KIID), which may be obtained from MeDirect Bank (Malta) plc.

Notes from the Trading Desk – Franklin Templeton

Franklin Templeton’s Notes from the Trading Desk offers a weekly overview of what their professional traders and analysts are watching in the markets. The European desk is manned by eight professionals based in Edinburgh, Scotland, with an average of 15 years of experience whose job it is to monitor the markets around the world. Their views are theirs alone and are not intended to be construed as investment advice.


The Digest

An early rally on the back of strong manufacturing data helped the STOXX Europe 600 Index close last week higher, with the majority of gains made on Monday. US markets also continued their grind higher. Equities in the Asia-Pacific (APAC) region also advanced, with Hong Kong the underperformer amid the weight of political unrest. With earnings releases looking okay in general for the United States and Europe, investors appear to be looking to macroeconomic data as the main market driver. To that end, the United States saw a decent July employment report, released on Friday.

In parts of the United States and in Europe, (namely France, Germany and Spain) COVID-19 cases have surged. So, the shape of global economic recovery from the pandemic remains uncertain, but markets appear to have shrugged this off for now. In the United Kingdom, Thursday’s Bank of England (BoE) minutes had a slightly hawkish slant as the central bank continues to model for a V-shaped recovery.

Low Yields, Record Gold Prices, Dollar Weakness

Investors have a number of things to be anxious about, including second-wave virus fears and the uncertain economic impact, the upcoming US elections in November and the impasse in the US Congress over passage of a fourth stimulus package. Despite this, US equities kept on moving up, with the technology sector leading. The NASDAQ Index hit yet another record high last week.

As we might expect with all of those headwinds, many investors have looked to fixed income for safety. In addition, global central bank stimulus has spurred interest rates to move towards zero and aggressive bond buying has diminished returns on government debt. The US 10-year Treasury yield hit a record low of 0.52% last week, and real yields (adjusted for inflation) hit a record low of -1.2%. These ultra-low rates could spur investors to move into other assets in search of better returns.

In this low-yield environment, gold has surged to a historic level, breaking through US$2,000 last week. Inflation expectations have also ticked higher (although they remain low by historical standards), which also plays into this dynamic.

Much of the support for gold comes from investor buying of exchange-traded funds that track the price of gold, which often leads to buying of physical gold in order to match investor demand. Gold bulls believe that the asset is still under-owned by historical standards, meaning this move may have further to go. However, we think it will be important to keep an eye on whether inflation expectations are realised; gold investors were caught out following the 2008 crisis as inflation did not materialise as many anticipated.

US dollar weakness remains a key theme, with the currency continuing to weaken materially since spiking in February and March. The move then was the result of investors seeking a safe haven as the severity of the pandemic was realised. Despite the continued uncertainty, demand for the currency has faltered as equities recovered for a number of reasons.

The handling of the pandemic and its severity has delayed the reopening of economic activities in the United States longer than some other regions, which has the potential to hit the US economy harder relative to its European counterparts. The Federal Reserve’s (Fed’s) extreme monetary policy intervention has swollen its balance sheet to a greater degree than the European Central Bank (ECB), BoE, or Bank of Japan (BoJ), and the US central bank has also been clearer on its intentions to maintain easier monetary policy.

In addition, the European Union’s (EU’s) sizable fiscal recovery fund has led to hopes that European economies will be re-invigorated and perhaps more importantly is demonstrative of solidarity between member states. In contrast, the US Congress remains at an impasse over its own fiscal stimulus, weighing on the dollar’s appeal.

Week in Review

 

Europe

European equities generally rose last week, clawing back the majority of losses from earlier in the week, even when faced with a number of headwinds. Last week saw the fourth week in a row where COVID-19 cases increased in France, Germany, Italy, Spain and the United Kingdom, with the aggregate level looking likely to set a new high since the middle of May. Spain has been hit hardest, with cases rising by 72% as the effect of local lockdowns seems to be limited so far. This dynamic is likely to be a focus this week. Despite the increase in infections leading to tighter travel restrictions, the travel and leisure space managed to outperform, although this is clearly from a low base. The more defensive health care and food & beverage sectors underperformed, with supportive macro data seeing a slight tilt towards value and realised volatility factors. Momentum and growth underperformed.

Improving European Macro:

  • On 3 August, we saw upward revisions and positive surprises in the euro-area manufacturing Purchasing Manager’s Index (PMI), with the headline figure recovering from 33.4 in April to an expansionary 51.8 in July. In addition, the employment index went from 35.8 to 42.9. The release boosted sentiment and helped markets recover some of last week’s losses, with the Stoxx Europe 600 Index closing the day higher.
  • On 7 August, industrial output figures from France, Germany and Spain showed that levels are edging closer to where they were pre-pandemic Spain saw the biggest monthly gain, with output rising 14% in June vs. May. Spain had one of the hardest-hit gross domestic product (GDP) releases last week (-18.5% in the second quarter), so the better data has given investors some hope. Germany has benefitted from increased trade with China, with exports to the country up 15% in June. German factory orders also improved, jumping a record amount in June. Eurozone retail sales rebounded to better levels than last year, suggesting that consumer confidence seems to be on the rise.
  • With all of this, the Citi Economic Surprise Index for Europe hit an all-time high.

The data in Italy was less impressive. The rate of industrial output growth slowing significantly in June, dampening hopes of a V-shaped recovery there. Despite the positive data from other countries, there is clearly still a long way to go, and the resurgence of COVID-19 cases in some areas has also dampened the chances of a speedy recovery. With this, reactions to data on 7 August were more muted.

United Kingdom and BoE

  • The UK PMI figure released last week was disappointing, revised down from the preliminary release.
  • There was nothing too surprising from the BoE on 6 August, with interest rates unchanged at 0.1%, although there was a hawkish slant to the minutes as it suggested that the BoE’s next move could be monetary tightening. The central forecast said the economy has had more than enough stimulus, spare capacity will be eliminated by the second half of 2021 and inflation will likely rise above target. BoE Governor Andrew Bailey did try to manage any panic, emphasising the downside risks to the recovery after the report was published, and stating that the central bank was ready to “lean in” to do more. He also said that negative rates are in the central bank’s toolbox, but that there are currently no plans to use them. Overall, it was a bit of a confusing picture.
  • The Monetary Policy Committee (MPC) continue to model for a V-shaped recovery, though it did push back achieving pre-COVID output levels to late 2021. Inflation expectations are to see the 2% target met in two years on current policy. The BoE is more optimistic than independent economists on the short-term path of recovery although it does note that there are high risks of the path being thrown off course. It also appears that there is high degree of uncertainty about the BoE’s forecasts, with the MPC split in its views, adding to the lack of clarity.
  • On 7 August the Financial Times reported that the Chancellor is likely going to face renewed pressure to extend the UK furlough scheme following the BoE outlook statement. The BoE supports the end of the scheme as planned in October, but political opposition remains.

United States

US stocks managed to outperform global equities last week, with much of the focus on politics and corporate earnings. The S&P 500 Index, Dow Jones Industrial Average and the NASDAQ all advanced, but it was the small-cap Russell 2000 Index which outperformed, up nearly 6% on the week.3 All sectors were better off last week, but the growth sectors generally outperformed and the more defensive sectors generally lagged. Industrials led the way, followed by financials and energy. Meanwhile, real estate investment trusts, health care and utilities were underperformers last week.

By the end of last week, stimulus talks had reached an impasse as the White House and the congressional Democrats struggled to agree on a support package. Speaker of the House of Representatives Nancy Pelosi had said that the US government was failing to face up to the gravity of the crisis whilst Treasury Secretary Steve Mnuchin recommended that President Donald Trump takes executive action to break the stalemate. Time is in limited supply with jobless benefits and a federal moratorium on evictions now expired. Whilst Mnuchin called Pelosi’s latest proposal of a US$3.5 trillion stimulus bill a “non-starter”, Trump also weighed in on the debate, calling the Democrats’ plans “radical left-wing policies”.

Over the weekend, the White House (via executive order) partially extended unemployment benefits, suspended payroll taxes and expanded unemployment benefits (at the lower figure of US$400, of which US$100 needs to be paid by state) and a series of other fiscal measures. This is temporary, however, and talks on the support package will resume soon.

Corporate earnings continue to be supportive for markets, with 89% of the S&P’s market capitalisation having reported on second-quarter earnings by the end of this week. So far, earnings have exceeded estimates in aggregate, and most companies have beaten earnings projections, albeit with estimates at decimated levels. Stock moves have been more muted than normally would be based on the earnings reports.

In terms of data, the July employment report was the key release last week, showing a larger-than-expected increase of 1.763 million nonfarm payrolls vs. +1.48 million expected. The Institute of Supply Management manufacturing data was also supportive, coming in better than expected. New orders also grew more than anticipated.

APAC

Asian equities were mixed last week, with the MSCI Asia Pacific Index closing the week up 2% overall. The KOSPI outperformed last week, grinding higher as the week went on, helped by the move into value stocks. Hong Kong’s Hang Seng Index lagged, with investors remaining very concerned over the autonomy of the region amidst a tightening on national security from Beijing. In terms of sectors in Asia, it was the materials which outperformed, with energy and consumer discretionary also strong. The utilities lagged on the week, along with consumer staples.

The Shanghai Composite Index came under pressure towards the end of the week as President Trump ramped up trade tensions with China by signing an executive order which will prevent US residents doing business with Chinese-owned TikTok and WeChat. Trump claims that the two apps are a threat to national and economic security. (Note, it was only last week that Microsoft was rumoured to be in talks with current owners ByteDance to buy Tiktok.) The restrictions will be put in place in 45 days from Friday. Restrictions on WeChat, owned by Tencent, were a surprise for markets, with Tencent down 10% at one point on 7 August.

In terms of data last week, Japan’s consumer price index  came in ahead of expectations, up 0.6%.China Caixin Services PMIs for July came in behind expectations, whilst Japan’s Jibun Bank Services PMIs for July were ahead of expectations but not yet in growth territory, coming in at 45.4. Finally, the Reserve Bank of Australia kept interest rates on hold.

The Week Ahead

Although it is the summer holiday season and market volumes will likely be lower than average, there are still a few events to keep an eye on this week. With the presidential election in the United States set to dominate market sentiment in the coming months, watch for Democratic candidate Joe Biden to announce his running mate in coming days.

In terms of macro data, as COVID-19 cases creep up in Europe, the ZEW sentiment surveys may give a good insight into the mood in Germany. UK GDP to be released on Wednesday and eurozone GDP on Friday will also be important to keep an eye on. Elsewhere, 14 August is a big day for Chinese data, with retail sales and industrial production to be released.

Calendar

Market holidaysMonday: Japan, Singapore, South Africa

Monday 10 August: In Asia we saw China’s producer price index (PPI) come in at -2.4% and the CPI at 2.7%.

Tuesday 11 August: German ZEW Sentiment Survey. US PPI data.

Wednesday 12 August: A big day for UK data, with UK GDP data due. Industrial production month-over-month (MoM) (June); UK manufacturing production MoM (June). Eurozone industrial production SA MoM (June). Japan machine tool orders. US CPI.

Thursday 13 August: Japan PPI.

Friday 14 August: Chinese retail sales and industrial production. Eurozone employment and GDP data. US retail sales and Michigan Sentiment Survey.


Franklin Templeton Key risks & Disclaimers:

What Are the Risks?

All investments involve risk, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Bond prices generally move in the opposite direction of interest rates. Thus, as prices of bonds in an investment portfolio adjust to a rise in interest rates, the value of the portfolio may decline. Investments in foreign securities involve special risks including currency fluctuations, economic instability and political developments. Investments in developing markets involve heightened risks related to the same factors, in addition to those associated with their relatively small size and lesser liquidity. Past performance is not an indicator or guarantee of future performance.

This article reflects the analysis and opinions of Franklin Templeton’s European Trading Desk as of 10th August 2020, and may vary from the analysis and opinions of other investment teams, platforms, portfolio managers or strategies at Franklin Templeton. Because market and economic conditions are often subject to rapid change, the analysis and opinions provided may change without notice. An assessment of a particular country, market, region, security, investment or strategy is not intended as an investment recommendation, nor does it constitute investment advice. Statements of fact are from sources considered reliable, but no representation or warranty is made as to their completeness or accuracy. This article does not provide a complete analysis of every material fact regarding any country, region, market, industry or security. Nothing in this document may be relied upon as investment advice or an investment recommendation. The companies named herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton. Data from third-party sources may have been used in the preparation of this material and Franklin Templeton (“FT”) has not independently verified, validated or audited such data. FT accepts no liability whatsoever for any loss arising from use of this information and reliance upon the comments, opinions and analyses in the material is at the sole discretion of the user. Products, services and information may not be available in all jurisdictions and are offered by FT affiliates and/or their distributors as local laws and regulations permit. Please consult your own professional adviser for further information on availability of products and services in your jurisdiction. 

Issued by Franklin Templeton Investment Management Limited (FTIML) Registered office: Cannon Place, 78 Cannon Street, London EC4N 6HL. FTIML is authorised and regulated by the Financial Conduct Authority.


MeDirect Disclaimers:

This information has been accurately reproduced, as received from Franklin Templeton Investment Management Limited (FTIML). No information has been omitted which would render the reproduced information inaccurate or misleading. This information is being distributed by MeDirect Bank (Malta) plc to its customers. The information contained in this document is for general information purposes only and is not intended to provide legal or other professional advice nor does it commit MeDirect Bank (Malta) plc to any obligation whatsoever. The information available in this document is not intended to be a suggestion, recommendation or solicitation to buy, hold or sell, any securities and is not guaranteed as to accuracy or completeness.

The financial instruments discussed in the document may not be suitable for all investors and investors must make their own informed decisions and seek their own advice regarding the appropriateness of investing in financial instruments or implementing strategies discussed herein.

If you invest in this product you may lose some or all of the money you invest. The value of your investment may go down as well as up. A commission or sales fee may be charged at the time of the initial purchase for an investment and may be deducted from the invested amount therefore lowering the size of your investment. Any income you get from this investment may go down as well as up. This product may be affected by changes in currency exchange rate movements thereby affecting your investment return therefrom. The performance figures quoted refer to the past and past performance is not a guarantee of future performance or a reliable guide to future performance. Any decision to invest in a mutual fund should always be based upon the details contained in the Prospectus and Key Investor Information Document (KIID), which may be obtained from MeDirect Bank (Malta) plc.

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