The equity market roller coaster ride carries on, as bond prices continue to rise and yields fall on inflation and economic growth fears. On Thursday it was the turn of the US dollar to cause the latest bout of volatility, falling sharply after another piece of weak economic data, this led the S&P 500 to make a 2.5% reversal in fortunes to finish the day higher. The move in the dollar led to a scramble to cover short positions in the commodity sector as Brent oil bounced back over $35 a barrel.
The fall in the US dollar only goes to prove once again that markets often move in the direction that causes the most pain. Sentiment towards the dollar and commodities was consensual, for obvious reasons. The US dollar would remain strong, as this was one of the few economies in the world where rates were likely to rise. This meant commodity prices were likely to remain under pressure, as demand remained weak and supply plentiful. Fund managers appeared to use this rationale to under own commodity related stocks, and hedge funds probably remained short. Just as falls can be painful, so can rises, as stocks such as Royal Dutch Shell and Rio jumped sharply on Thursday. Those fund managers who are underweight will now have to decide whether this dollar fall will continue and adjust their weightings to the sector or take the bet the move will be short term and fundamentals will take over once again.
The Bank of England were the latest to lower growth forecasts and push out rate rise expectations. In the Governor’s quarterly inflation report on Thursday, the Bank predicted inflation will remain below 1% for the rest of the year and supported the market’s view that interest rates will remain unchanged for at least the rest of this year. Ten-year gilt yields did not react materially to this news, as yields have been falling already in the past weeks ahead of this statement.
The minutes of the latest Monetary Policy Committee meeting recorded that Mr McCafferty, who has on several occasions since 2011 been the lone voice for a rate rise, once again has withdrawn his vote in favour.
We continue to live in unusual times, as many countries, in an effort to stimulate inflation and growth, have resorted to offering negative rates to depositors. Another example of how investors are currently risk adverse, is that the 2-year German bunds now trade at a price that means the yield has fallen below zero. These falling yields suggest an increase in economic growth concerns on the one hand, and therefore should impact equity prices, on the other low bond yields add to the attractiveness of equities, this two way pull partially manifests itself in the increased volatility we now see. It is anyone’s guess how all this will play out, one assumes yields one day will return to more normalised levels, but apparently not in the near future.