BlackRock Commentary: Debt ceiling spat takes a breather

Wei Li, Global Chief Investment Strategist, BlackRock Investment Institute together with Elga Bartsch, Head of Macro Research, and Kurt Reiman, Senior Strategist for North America, all forming 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.

We still see a low risk of technical default by the U.S. and expect the debt ceiling debacle to ultimately resolve. The broadening economic restart keeps us tactically pro-risk, yet we see a narrowing path for risk assets to push higher and markets more prone to temporary pullbacks. Key events toward the year end, including the lapse of the temporary debt ceiling rise, could potentially trigger market volatility. We favor looking through market jitters against the backdrop of the restart.

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Sources: BlackRock Investment Institute, with data from Google, October 2021. Notes: Interest over time shows search interest relative to the highest point on the chart for the given time, according to Google. A value of 100 is the peak popularity for the term. A value of 50 means that the term is half as popular. A score of zero means there was not enough data for this term.

 

The showdown around the debt ceiling – a self-imposed federal borrowing limit – has kept investors on their toes. The debt ceiling has become a subject of intense partisan wrangling over recent decades, with negotiations going down the wire in 2011 and 2013. Google searches on the key phrase “debt ceiling” have surged to the highest level since the 2013. See the chart above. In recent months the impasse has led to market jitters, especially after risk assets have had an extended run higher. The front end of Treasury yield curve – a popular gauge of market sentiment on the issue – had shot up until the Senate struck a deal to temporarily raise the debt ceiling last week. Yet there is more political squabble to come toward the year end. The U.S. government could once again near a technical default around the time when the temporary government funding is set to lapse if Congress fails to approve new spending legislation and raise the debt ceiling. Democrats have yet to unify behind their multi-trillion-dollar spending plans on infrastructure, social policy and climate change.

The temporary debt ceiling increase will likely allow the Democratic Party to focus on rallying its members in Congress around the spending plans – key legislative priorities ahead of the 2022 midterm elections. As expected, the $3.5 trillion price tag of the bill on social policy and climate change is being scaled down to help ensure the support of party moderates.

A smaller package means a reduced amount of revenue needed to offset spending. The tax proposals from the House Ways and Means Committee prior to the latest effort among Democrats to scale down the plan already showed moderated tax increases. This includes a proposed rise in the corporate tax rate to 26.5%, down from 28% in the original proposal. It also showed an increase in the Global Intangible Low Tax Income (GILTI) tax – intended to discourage corporations from moving profits overseas – to 16.5%, down from 21%. This increase would be line with the new global minimum tax agreement that aims to achieve the same goal. We are tactically neutral U.S. equities as we see large caps as exposed to risks of higher taxes and tighter regulation. The tax increases will likely have the largest impact on financials and communication services, in our view, but any further watering down of the proposed tax increases would reduce the headwind for these sectors.

The debt ceiling debate recently has triggered headlines and volatility, and we believe markets generally are increasingly susceptible to swings in sentiment. This includes supply-driven price spikes in energy and other prices awaking fears of runaway inflation and central bank actions to suppress it. We see the price spikes as mostly related to the powerful economic restart and therefore not permanent, but recognize inflation narratives can easily take hold of markets.

The bottom line: We continue to see a low risk of a technical default by the U.S. government, and expect a downsized spending package and related tax increases. The debt ceiling showdown may return in December, yet we believe it will ultimately be resolved and prefer to look through potential market volatility. Political brinkmanship could lead to a short-lived government shutdown and reignite concerns of a technical default. We are tactically neutral U.S. equities as we see U.S. growth momentum peaking and expect other regions to benefit more from the broadening economic restart. We are strongly underweight U.S. Treasuries as we see a gradual rise in nominal yields even with the Fed poised to start tapering by the end of the year. We are tactically pro-risk, yet recognize the path for further gains in risk assets has narrowed after an extended run higher and that markets have become more susceptible to sentiment swings.

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Past performance is not a reliable indicator of current or future results. Indexes are unmanaged and do not account for fees. It is not possible to invest directly in an index. Sources: BlackRock Investment Institute, with data from Refinitiv Datastream as of Oct. 7, 2021. Notes: The two ends of the bars show the lowest and highest returns at any point this year to date, and the dots represent current 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, in descending order: spot Brent crude, MSCI USA Index , MSCI Europe Index, ICE U.S. Dollar Index (DXY), Bank of America Merrill Lynch Global High Yield Index, MSCI Emerging Markets Index, Refinitiv Datastream Italy 10-year benchmark government bond index, J.P. Morgan EMBI Index, Bank of America Merrill Lynch Global Broad Corporate Index, Refinitiv Datastream Germany 10-year benchmark government bond index, Refinitiv Datastream U.S. 10-year benchmark government bond index and spot gold.

 

Market backdrop

U.S. nonfarm payrolls growth slowed sharply in September due to the delta variant surge. U.S. stocks reversed the previous week’s decline after the Senate agreed to temporarily raise the debt ceiling. U.S. 10-year Treasury rose to the highest level since June. We view the recent yield backup as correcting a disconnect between the restart and earlier yield levels, rather than foreshadowing a more drastic yield rise. Stronger-than-expected activity data and more hawkish signals from policymakers have shifted the market consensus on the Bank of England’s interest rate liftoff to the first quarter of 2022.

Week Ahead

  • Oct 11-18: China total social financing and new yuan loans

  • Oct 13: U.S. consumer price index (CPI)

  • Oct 14: U.S. producer price index (PPI); China CPI, PPI

  • Oct 15: University of Michigan Surveys of Consumers

U.S. inflation data will be in focus this week. Consumer prices increased at their slowest pace in six months in August as prices of some items related to the Covid shock had subsided, though inflationary pressure had broadened beyond pandemic-related items. Consensus forecast sees a 5.4% annual increase, compared with a 5.3% rise in the previous month, according to Reuters.


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 October 11th, 2021 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.


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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. 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

Last week was again volatile for equity markets, with investors focused on rising inflationary pressure, central bank narrative and the threat of a US government shutdown. After a weak start to the week, markets recovered ground as the threat of a US government shutdown was averted. Although sentiment still feels brittle, markets ended the week in positive territory, with the MSCI World Index up 0.7% and regionally, the STOXX Europe 600 Index was up 1%, the S&P 500 Index was up 0.8%, whilst the MSCI Asia Pacific Index remained unchanged.

Inflationary Pressures Remain Front and Centre

As noted in recent weeks, investor focus was on inflationary pressures and the impact on bond markets as many government bond yields continue to widen. Intertwined with these issues is how central banks react and adapt to this environment.

It was hard to miss the price increases in energy markets given the extensive media coverage, with gas prices soaring—European gas is up 105% year-to-date (YTD) on restricted supply, rising demand and depleted storage facilities. Elsewhere, crude oil rose to levels last seen in 2014, topping US$80 per barrel. Other commodity prices also surged. There was some respite for gas markets midweek as Russia looked to calm nerves over supply, but prices remain elevated.

The pain felt by both industry and consumers on these soaring costs has also been clear. Although consumers in the United Kingdom are protected by energy price caps, the cost of higher input costs will certainly feed into consumer products. Over the weekend, Kraft Heinz CEO Miguel Patricio commented that inflation was “across the board” and that consumers will need to get used to higher food prices. Evidence of this is seen in the UN food price index, which is trading near record highs. Rising shipping/haulage costs, poor harvests in Brazil, droughts in Russia etc., are also factors leading to rising prices.

In this context, talk of inflationary pressures being transitory seems to be a distant memory. Market expectations for inflation are elevated. In the United Kingdom, the 10-year break inflation rate is at the highest level since 2008 and in Germany the same measure was at its highest level since 2013. Likewise in the United States, 10-year breakevens are moving back to recent highs, although not at the same extreme pace as the United Kingdom.

The impact of these strains on global economies is a key talking point, with the prospect of “stagflation”—rising inflation with little economic growth—a genuine concern.

That said, the US Purchasing Managers Index (PMI) data has remained in expansionary territory in the face of rising pricing pressures.

Whatever the true extent of future stagflation, the impact of inflationary pressures on bond yields is clear as the US 10-year Treasury yield has climbed to 1.61%, the UK 10-year gilt yield has climbed to 1.20%—its highest level since 2019, over 50 basis points (bps) wider than three months ago—and the German 10-year Bund yield climbed to -0.14% (+22 bps in the past three months).

Central Bank Reaction

In this context, the action of central banks in Europe was in focus as last week saw a surprise from the Polish central bank, which unexpectedly raised interest rates 40 bps to 0.5% because of inflationary pressures. The European Central Bank (ECB) continues to stick to a dovish path for now, but the Bank of England (BoE) is in focus as rhetoric from its members becomes increasingly hawkish and as the United Kingdom faces added pressures from Brexit dynamics.

Last week saw BoE Chief Economist Andy Haldane note: “magnitude and duration of the transient inflation spike is proving greater than expected”. Over the weekend, we also had the hawkish Monetary Policy Committee member, Michael Saunders, commenting that a tightening of policy may be “significantly earlier” than previously thought. Bailey also warned of a potentially “very damaging” period of inflation unless action is taken. With that, the market expects the UK interest rate to be at 75 bps by November 2022, vs. 10 bps currently, and expects a 25 bps hike by year end.

On the other hand, the ECB seems more concerned about the rising cost of capital and still believes the latest inflationary pressures are transitory. There were reports that the ECB was considering buying more bonds to prevent any market turmoil when emergency purchases get phased out next year.

In the United States, we will have another good steer on the Federal Reserve’s (Fed’s) thinking this week as the minutes from the last policy meeting are released. Whilst there is no expectation of a rate increase imminently, it is expected the Fed will begin to taper its emergency pandemic support in the coming months.

The Week in Review

Europe

European equities saw a large value-led rally last week to close higher. Nonetheless, market conditions feel very mixed at the moment as investors fight the overhang of central bank hawkishness, peak growth, rising commodity prices and supply chain issues. Rising bond yields helped fuel the rotation out of growth stocks, with inflation seemingly less transitory than first predicted. Over the next few weeks, attention will likely shift to corporate earnings season, where any hints around supply chain issues or cost inflation pressures are likely to be very closely watched. There was a cautious tone to fund flows last week as many investors rotated out of equities and into cash. Value stocks in Europe were favoured over momentum last week—the question is whether this trend will continue. Some market participants see value as still cheap by historical standards, with pockets of opportunity.

In terms of macroeconomic data, the Eurozone August Producer Price Index (PPI) was up 1.1% on the month and 13.4% year-over-year (Y/Y), slightly lower than expected Inflationary pressures in Europe remain strong, however. The final September PMI report confirmed slowing growth, coming in at 56.2 vs 59.0 previously. Rising price pressures and issues relating to supply shortages were key drivers there.

In Germany, the political discussion appears to be leading towards a “Traffic Light” government, made up of the centre-left SPD (Red), the pro-business Liberal FDP (Yellow) and the Greens parties. Talks continue, but the Christian Democratic Union (CDU) seems to be in a weak position, as leader Armin Laschet stated last week that he intends to step aside.

United States

US equities saw some respite at the end of last week following their recent slump. Despite that, volatility remains relatively high, with the VIX Index spiking back to 24 mid-week. The same themes continue to be in focus, with the discussion around stagflation front and centre. The heightened push and pull surrounding the higher-profile themes/debates, including “buy-the-dip vs sell-the-rip”, has left the market feeling very mixed of late.

The September non-farm payroll print was weaker than expected, a huge miss, showing a rise of 194,000 vs. expectations for an increase of 500,000. In terms of sectors, energy stocks, the year-to-date outperformer in the United States, led again. Financials were also higher, while real estate investment trusts (REIT) remain under pressure and were last week’s underperformers.

The potential debt ceiling crisis has been an overhang over US markets of late. Last Wednesday, Democrats said they could accept a surprise offer from Senate Minority Leader Mitch McConnell to raise the debt limit for two months. Republicans had offered the short-term debt limit increase that would last into December, and Democrats signalled their intention to accept the deal. However, this simply shifts the problem to December, a time when equity market liquidity becomes more constrained. It is also a time where the market is more likely to be grappling with the threat of tapering. So, whilst equity markets felt a little relief last week on the announcement, there is a feeling that what was agreed is simply a case of “kicking the can down the road”.

Last week’s big economic release was the September employment report on Friday. Employment figures have been a clear focus for the Fed. September payrolls grew by 194,000, far below expectations and below the 366,000 rise in August. The release noted gains in leisure/hospitality, professional/business services, and retail (all areas of recent strong growth), while public education jobs declined. The unemployment rate dropped to 4.8%, better than expectations and better than the prior month’s 5.2% level.

The big question remains around what this means for Fed tapering plans. Fed Chair Jerome Powell had said he felt the employment test for tapering had been “all but met” and he was not looking for a “knockout” September report. For the market, the miss was received well, as many touted “bad news is good news” and felt the Fed may soften its growing hawkish commentary.

Whilst a handful of meaningful macro themes rumble on, the market will now have the latest earnings season to deal with this week. JP Morgan reports earnings on Wednesday, followed by Citigroup, Bank of America, Wells Fargo and Morgan Stanley on Thursday, and Goldman Sachs on Friday.

Asia and Pacific

A mixed bag for Asian markets last week, with Australian equities up 2% (on commodity strength), while equities in Hong Kong were up1%, South Korea’s equity benchmark was down 2% and Japan’s Nikkei Index was down 2.5%. It was a quieter week as China was mostly closed for Golden Week holidays.

The weak performance in Japan has been referred to by some as the “Kishida shock” as it followed Prime Minister Kishida’s inauguration. There are fears that he is looking to raise capital gains taxes, something which spooked the market and forced the administration to state he’s not considering changes to Japan’s capital gains tax because he’s focused on other aspects of his policy agenda.

Elsewhere, tension between China and Taiwan remains heightened as Chinese warplanes performed a number of flights in Taiwanese airspace and China’s President Xi Jinping stated unification will be achieved. In response, Taiwanese President Tsai Ing-Wen stated the island faced “unprecedented challenges”.

Week Ahead

Monday 11 October 2021:

  • China: aggregate financing CNY, money supply, new yuan loans CNY, foreign direct investment (FDI) YTD, year-on-year (Y/Y) CNY
  • Japan: machine tool orders Y/Y
  • Italy: Industrial Production (IP)
  • Bond markets will be closed in the United States and Canada for the US Columbus Day/Indigenous People’s Day holiday and Canada’s Thanksgiving Day.

Tuesday 12 October:

  • UK: British Retail Consortium (BRC) sales like-for-like Y/Y
  • Japan: bank lending, PPI YoY
  • Australia: National Australia Bank (NAB) business conditions and business confidence
  • Germany: wholesale price index Y/Y
  • UK: Employment data
  • Germany: ZEW Survey expectations, Germany ZEW Survey current situation
  • Eurozone: ZEW Survey expectations
  • US: NFIB small business optimism, JOLTS job openings
  • Canada: Bloomberg nanos confidence

Wednesday 13 Wednesday:

  • Australia: Westpac consumer confidence index
  • Japan: Money stock, core machine orders Y/Y
  • UK: IP Y/Y, manufacturing production Y/Y, construction output Y/Y, index of services three-month/ three-month, visible trade balance GBP/Mn, monthly gross domestic product (GDP) (month-on-month), monthly GDP (three-month / three-month)
  • Germany: Consumer Price Index (CPI)
  • Eurozone: IP WDA Y/Y
  • US: MBA mortgage applications, CPI Y/Y, CPI (ex food and energy) Y/Y, CPI core index SA, real average hourly earnings Y/Y, real average weekly earnings Y/Y, Federal Open Market Committee (FOMC) meeting minutes
  • China: trade balance CNY, imports and exports Y/Y CNY, trade balance, imports and exports Y/Y

Thursday 14 October:

  • UK: Royal Institution of Chartered Surveyors (RICS) house price balance
  • Australia: consumer inflation expectation, employment change, unemployment rate
  • China: CPI Y/Y, PPI Y/Y
  • Japan: IP Y/Y
  • Spain: CPI
  • UK: BoE bank liabilities/credit conditions surveys
  • US: Initial jobless claims, continuing claims, PPI final demand Y/Y, PPI (ex food and energy) Y/Y, PPI (ex food and energy), trade Y/Y

Friday 15 October:

  • Japan: Bloomberg October Japan economic survey
  • Eurozone: EU27 new car registrations
  • France: CPI
  • Italy: CPI
  • Eurozone: trade balance
  • Italy: trade balance
  • US: Empire manufacturing, retail sales (ex automobiles and gas), retail sales control group, import and export price index Y/Y, business inventories, University of Michigan sentiment and current conditions

 


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 12th October 2021, 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. 

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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. 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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