Market sentiment has improved in recent weeks, as price fluctuations have calmed and equity prices have risen. Economic data for the euro zone has been a positive surprise for investors over and over again in the autumn, and last week’s PMIs have not disappointed. The US data, however, has been weaker.
Last week did not bring much new information about the economy. The most important economic data was obtained from Europe’s and the USA’s PMIs; in other words, from survey data describing the mood of companies. Although the European figures were historically low, they clearly rose from last month’s figures, which indicates that the state of the economy was better than expected. The USA’s PMI clearly declined, especially in the manufacturing industries.
The positive mood on the equity markets continued last week. The depreciation of the dollar somewhat pushed down euro-denominated returns in the US market. The year-to-date returns of different market areas are now essentially at the same level, with the exception of emerging markets and China.
The general market sentiment has slowly improved over the past few weeks as, among other things, volatility on the equity market has calmed down, and thanks to good employment figures. According to surveys of US private and professional investors, the mood among investors this year has been at its lowest since the 2008 financial crisis, but there has been a slight rise from rock bottom.
This week will determine the market sentiment for the rest of the year. US employment data will give the Fed more input for the interest rate decision it will make in December. If employment has marginally declined and the extremely tight labour market has slackened a bit, the Fed will likely downshift to a slightly lighter, 50 basis point, interest rate hike. If the labour market has remained tight, a 75 basis point hike may be in store.
Volatility remains high on the fixed income market
The fixed income market has generally shown positive development as a result of shrinking spreads and falling interest rates. Particularly European high yield and investment grade corporate bonds have experienced an uptick in a short period of time. In the US, interest rates fell steadily last week, while upward movement in interest rates was seen on Friday in Europe.
The weakened dollar has also weighed down the euro-denominated returns of USD investments on the fixed income side.
Although price fluctuations on the equity market have calmed somewhat, volatility on the fixed income market has remained high. Historically, price fluctuations in the fixed income and equity markets have often gone hand in hand, with the exception of the price volatility caused by the pandemic in 2020. It is likely that the volatility in the fixed income and equity markets will again balance out to the same levels in the longer term, when the central banks clearly announce that they have reached the peak of the interest rate hike cycle.
Price of natural gas will determine Europe’s economic outlook
European economic data has positively surprised investors repeatedly in recent months. Now the euro zone economy is being put to the test again, however, as the temperature drops and the demand for and price of energy rises.
The economic data has revealed a clear correlation between the price of natural gas and the performance of Germany’s DAX index against the S&P 500. The DAX tracks the performance of 30 German blue-chip companies on the Frankfurt Stock Exchange. When natural gas is cheap, the DAX performs better than the S&P 500, and when the price of gas goes up, the situation is reversed.
The connection is explained by large companies’ dependence on fossil fuels, especially gas. As the price of gas goes down, corporate cost items decrease and earnings improve. Likewise, expensive gas takes its cut of corporate profits.
By monitoring this correlation, it is possible to draw some conclusions about the performance of European companies in the coming months.
What to keep an eye on this week
This week is more eventful than last week in terms of economic data. This week, investors should keep an eye on, for instance, US employment data and euro zone inflation figures.
We are still in a situation in which it is difficult to estimate how financial news will affect the markets. A strong economy gives central banks a mandate to continue tightening their monetary policy, and correspondingly, a sluggish economy could lead to messages of lighter monetary policy in the future.
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