Global Markets Weekly Update

• U.S.
  
• Europe
• Japan
• China
• Other Key Markets

Stocks move to new highs on stimulus hopes

The major indexes continued to march to record highs despite one of the most tumultuous weeks in the nation’s political history. Small-caps outperformed large-caps by a wide margin, and value stocks outpaced growth shares. Energy stocks led the gains within the S&P 500 Index, after Saudi Arabia made a surprise announcement that it was unilaterally cutting oil production by 1 million barrels per day. A surge in longer-term Treasury bond yields boosted financials shares by holding out the promise of improved lending margins, but rising rates weighed on the small real estate sector.

Heightened prospects for significant fiscal stimulus under the incoming Biden administration appeared to be the major factor driving the week’s gains. According to T. Rowe Price traders, the prospects for the Democrats taking the Senate and achieving unified control of the government seemed to bolster sentiment early in the week. High levels of early voting in two runoff elections in Georgia on Tuesday appeared to favor the party, and stocks then rallied sharply on Wednesday morning, after it was confirmed that Democrats had won the two seats. With 50 seats in the Senate, Democrats will now gain control of chamber given the tie-breaking vote by incoming Vice President Kamala Harris.

Investors look past civil unrest

The extraordinary assault on the U.S. Capitol on Wednesday afternoon seemed to unsettle markets, but only moderately—the Cboe Volatility Index (VIX) briefly spiked from around 22 to nearly 27 but remained below its levels from earlier in the week. The market gave back a portion of its early-day gains, but our traders noted that the possibility that Tencent Holdings and Alibaba Group Holding may be added to the list of Chinese companies to be delisted by the New York Stock Exchange also seemed to weigh on the broad market. On Thursday, the focus seemed to return to the anticipated fiscal impetus, helping lift the S&P 500 to its best daily gain since late November, while the tech-heavy Nasdaq Composite Index surged 2.6%.

Some observers warned of the inflationary dangers of USD 2,000 stimulus payments and other proposed measures, while others discounted the risk given the current economic strains. The week’s economic data arguably provided ammunition to both sides of the debate. On Tuesday, the Institute for Supply Management (ISM) revealed that its gauge of U.S. manufacturing activity in December rose to its highest level (60.7, with levels above 50 indicating expansion) since August 2018. The ISM’s services sector gauge also surprised on the upside, hitting 57.2, its highest level in three months. Conversely, the labor market showed signs of a sharp slowdown, due mostly to job losses at bars and restaurants shuttered by coronavirus containment measures. Nonfarm payrolls, reported Friday, fell by 140,000 in December, marking the first monthly decline since April. October and November gains were revised significantly higher, however.

Long-term yields increase to highest levels since March

The bond market appeared unmoved by the poor jobs report, with the yield on the benchmark 10-year Treasury note continuing to move higher in its wake. For the week, the yield jumped roughly 20 basis points and hit its highest level (around 1.12%) since March. (Bond prices and yields move in opposite directions.) The broad municipal bond market proved resilient despite the sell-off in U.S. government bonds. T. Rowe Price traders commented that reinvestments of January coupon payments supported the tax-exempt market, as did strong risk appetite for higher-yielding munis. Many observers believe that Democratic control of both houses of Congress is likely to lead to greater federal support for financially stressed states and municipalities.

Heavy corporate issuance

According to our traders, weekly primary issuance expectations in the investment-grade corporate bond market were exceeded quickly as new deal volume was heavy at the start. The macroeconomic tone strengthened throughout the week after the conclusion of the runoff elections for Georgia’s two U.S. Senate seats brought greater political clarity.

The high yield market tracked the gains in equities over much of the week. Several issuers came to the market with new deals, and our traders noted that exchange-traded funds were active buyers. Below investment-grade funds reported modest outflows.

Shares in Europe shrugged off the imposition of stricter lockdowns and rose on hopes that coronavirus vaccines and a potentially massive U.S. stimulus package would spur an economic recovery. In local currency terms, the pan-European STOXX Europe 600 Index ended the week 3.04% higher, while Germany’s Xetra DAX Index added 2.41%, France’s CAC 40 advanced 2.80%, and Italy’s FTSE MIB notched a gain of 2.52%. The UK’s FTSE 100 Index rallied 6.39%, led by banking and energy stocks.

These same factors helped to drive core eurozone government bond yields higher. Weaker-than-expected eurozone inflation data and persistent concerns about the coronavirus’ resurgence curbed the rise in yields, however. Peripheral eurozone bond yields largely fell during the week, moving inversely to core markets. UK gilt yields rose as demand for high-quality government bonds fell.

UK imposes third national lockdown; Germany extends controls

The UK imposed a third national lockdown in England to stem a surge in coronavirus infections and hospitalizations that surpassed levels in the first wave early last year. Press reports said the measures could last until the end of March. All passengers arriving in the UK will now have to prove they do not have COVID-19, the disease caused by the novel coronavirus, and receive a negative test result within 72 hours of the start of their journey. Germany extended tough restrictions until the end of January. France said it would keep bars, restaurants, gyms, and theaters closed until at least February, while a senior medical expert did not rule out a third national lockdown. The European Medicines Agency approved a second coronavirus vaccine, one developed by Moderna, for European Union (EU) use.

Strong German economic data; eurozone still in deflation

Better-than-expected German industrial production and trade figures for November, together with stronger factory orders data, signaled that the economy may have expanded in the fourth quarter. Industrial output rose 0.9% in the month versus a consensus forecast of 0.7%. Exports grew 2.2%, beating a forecast for 1.0% growth and a monthly increase of 0.8% in October. Imports climbed 4.7%, compared with 0.3% in the previous month. Factory orders rose 2.3%.

A flash estimate of consumer prices showed that the eurozone suffered a fifth straight month of deflation in December, with consumer prices falling 0.3% year over year. However, a core measure excluding food, energy, tobacco, and alcohol showed a 0.2% uptick in inflation, the same as the previous month.

Italy seeks EUR 222 billion from EU to help economy

The Italian government is planning to draw EUR 200 billion from the EU’s coronavirus emergency fund and EUR 22 billion from other EU programs to help revive its economy, according to a draft document seen by Reuters. The plan needs Cabinet approval, but it has been criticized by coalition partner Italia Viva, led by former Prime Minister Matteo Renzi, who wants more spent on health care and infrastructure. He also wants the government to seek a loan from the eurozone bailout fund to help hospitals.

Japanese stocks posted strong gains for the week. The Nikkei 225 Stock Average advanced 2.5% (695 points) and closed at 28,139.03, recording another multi-decade closing high. The large-cap TOPIX Index and the TOPIX Small Index, broader measures of the Japanese stock market, also performed well. The yen weakened and closed near JPY 104 versus the U.S. dollar.

Amid the spike in coronavirus cases, Suga declares state of emergency

On Thursday, Prime Minister Yoshihide Suga declared a state of emergency in Tokyo and the surrounding prefectures that goes into effect on Friday, January 8, and is expected to last one month. The decision is an effort to quell the nationwide surge of coronavirus infections. Tokyo’s government confirmed 1,600 new cases on Wednesday and nearly 2,500 new cases on Thursday, marking successive daily record highs.

The prime minister is looking to implement “limited and concentrated” restrictions that minimize the negative impact on the economy. Although all the measures are voluntary, the government has asked bars and restaurants that sell alcohol to close by 8 p.m.; instituted shorter hours for gyms, stores, and entertainment establishments; and requested that residents minimize nonessential outings. Schools are permitted to remain open, however. The parameters are less strict than those mandated in the April 2020 nationwide lockdown, and there will be no fines or punishment for those that fail to comply. Tokyo’s Governor Yuriko Koike has repeatedly urged the government to declare a state of emergency because of the strains on the health care system. Several economists believe the monthlong measures will hurt private consumption and could cause the economy to contract in the current quarter.

World Bank cuts its global economic growth forecast to 4%

The World Bank’s January 2021 Global Economic Prospects report forecasts global economic growth of 4.0% in 2021, following the 4.3% contraction in 2020. The World Bank lowered the gross domestic product (GDP) growth targets for about half of the countries worldwide. The latest 2021 global forecast was revised from its earlier 4.2% growth target. The World Bank said, in a worst-case scenario, if infections accelerate or the vaccination process is delayed, global growth could be as low as 1.6%. It believes that the trajectory of the coronavirus and debt accumulation represent the two most significant variables in its forecasts. The World Bank forecasts a 5.3% contraction for Japan’s economy in calendar year 2020 and 2.5% GDP growth in 2021. In comparison, in 2021, the U.S. GDP is expected to be 3.5%, the eurozone GDP 3.6%, and China’s economy could expand 8%.

Chinese stocks began the year on a strong note, with the CSI 300 Index of large-cap stocks up 5.5% and the Shanghai Composite Index adding 2.8% since December 31. Nevertheless, sentiment was shaken after the New York Stock Exchange said it would move ahead with delisting three Chinese telecommunications companies, reversing itself for the second time in one week, following an executive order by President Donald Trump. Reports that the Trump administration was considering adding Chinese internet leaders Alibaba and Tencent to a U.S. investment blacklist also tested investors’ nerves and marked an escalation in the Trump administration’s effort to increase restrictions on U.S.-listed Chinese companies.

In fixed income trading, the yield on China’s 10-year government bond was relatively unchanged, rising two basis points to 3.21%. For foreign investors, Chinese bonds remain attractive in an ultralow yield world and have grown more accessible to outside investors after recent reforms. In currency markets, the yuan broke through the 6.50 level on January 4, when it closed at 6.465 versus the U.S. dollar, a gain of 1.0%.

For 2021, economists forecast that China’s economy will expand from 8% to 9%. The forecast range implies average growth of 5% to 6% over the 2020–2021 period and is seen as an achievable level given China’s success in recovering from the coronavirus pandemic. China is expected to report the fourth-quarter GDP on January 18. Analysts expect the GDP to be around 5.5% to 6.0% for the full year and as high as 15% for the quarter, given the low base in 2020 amid the pandemic. With policy stimulus effectively on hold, China is expected to place renewed emphasis on financial stability in the coming months. Few expect the government will start tightening policy in the near term, however, and leverage is expected to stabilize near the current debt-to-GDP level of 293%.

In other economic news, China’s regulators introduced a cap on bank loans to the real estate sector for the first time. The move comes after micro or local property curbs in recent years did little to dampen a buoyant property market. Under the new rules, loans to developers may not exceed 40% of total credit for large banks, while mortgage exposure should not exceed 32.5%. In economic readings, the Caixin manufacturing Purchasing Managers’ Index declined to a weaker-than-expected 53 in December, a three-month low. The services gauge also came in below consensus.

Kingdom of Saudi Arabia

Saudi stocks, as measured by the Tadawul All Share Index, returned about 0.5% in the five trading sessions since the close of business on Thursday, December 31. The market is closed on Fridays and Saturdays.

Early in the week, Saudi Arabia, the United Arab Emirates (UAE), Bahrain, and Egypt agreed to resume normal diplomatic ties with Qatar following a three-and-a-half-year rift. Representatives of the five nations signed the reconciliation agreement at a regional summit that took place in Saudi Arabia on Tuesday, January 5.

Also on Tuesday, OPEC and non-OPEC oil-producing nations, which are referred to collectively as OPEC+, agreed after protracted discussions to keep total oil production flat, with Saudi Arabia compensating for a marginal increase in output by Russia and Kazakhstan of 75,000 barrels per day with a deepening of its own cuts. Saudi Arabia then surprised the market by announcing that it will unilaterally cut an additional 1 million barrels per day of crude production, which led to a sharp increase in oil prices.

Mexico

Mexican stocks, as measured by the IPC Index, returned about 6%. Shares were lifted in part by strength in U.S. equities, as Joe Biden—who is expected to be less aggressive on trade and immigration issues than President Trump—was certified by Congress as the winner of the November 2020 presidential election. Biden will be inaugurated on January 20.

On Thursday, the government reported that Mexico’s inflation data for December were mostly in line with expectations, although pricing pressures were a bit softer in the second half of the month. Headline inflation was reported at a 3.15% year-over-year rate compared with 3.33% in November. Core inflation was still relatively high at 3.8% year-over-year; this was up from 3.68% in the previous month but below the 3.9% to 4.0% range that has prevailed since June.

T. Rowe Price emerging markets sovereign analyst Aaron Gifford believes that the inflation figures largely reflect the annual Buen Fin shopping discounts rolling off. He also notes that non-core items once again showed price declines, led by agricultural goods. On a quarter-to-quarter sequential basis, Gifford is encouraged to see that both headline inflation (seasonally adjusted annual rate of 1.62%) and core inflation (3.05%) are looking soft, with core services, which is most indicative of the output gap, at a seasonally adjusted annual rate of 2.4%.