2016 | www.selectasset.com
August 2016 Market Update
In the USA, presidential primaries and national political conventions have dominated summer headlines, but the current economy, post-Brexit, remains a concern for some economists. On July 19, the International Monetary Fund (IMF) downgraded its forecast for global economic growth by 0.1% to 3.1% in 2016 (the same as 2015) and 3.4% in 2017. However, economic experts believe that a combination of political turmoil, rising protectionism and terrorist attacks could cloud the picture. Regarding the USA, the IMF was even more pessimistic, trimming its growth forecast downward by 0.2% to 2.2% for 2016. Figures released at the end of July by the U.S. Commerce Department showed that U.S. GDP rose at an annualized rate of 1.2% in the second quarter, which is far below the 2.5% forecasted by many economists. Consumer spending was healthy, but businesses have been reducing investment and inventory in the face of weak global markets, a strong U.S. dollar and continued economic uncertainty around the world. Household consumption, which makes up a 70% of the U.S, economy, grew at an annualized rate of 4.2%, but private fixed investment, including residential and business spending, fell 3.2% in the second quarter to reach its lowest level in seven years. Interestingly, the latest Commerce Department figures also included updated figures for last year which show that the actual growth rate cooled faster than previously reported, dropping from 3.3% in the first quarter to 1.9% in the fourth as opposed to the previously announced drop of 2.9% to 2%. For this year, government spending, both federal and state, declined in the second quart. Despite the negative data, the U.S. Federal Reserve Board has reported that risks have “diminished” and the labor market remains “tight,” which, according to some economists suggests that the Fed may be considering a future increase in loan costs as an option.
In late July, Britain’s Office for National Statistics released figures that showed the UK economy grew 0.6% in the second quarter (April-June), versus.4% growth of the first quarter. Largely, the growth was a product of the best industrial sector performance in almost 17 years (up 2.1%). Car manufacturing, for instance, had its best half-year since 2000, as nearly 900,000 vehicles were produced. That’s 13% more than in the same period in 2015. Almost 80% of those cars are exported with the largest market being the EU. The services sector, which accounts for more than 75% of the economy, also increased by 0.4%. But that was before the Brexit referendum. Chancellor of the Exchequer (Treasury head) Philip Hammond said the figures show the economy is fundamentally strong and will allow the UK to negotiate an EU exit “from a position of strength.” However, many economists are noting a slowdown in momentum and continue to warn of an even sharper slowdown in the coming months. The most recent sector-by-sector figures already show that construction, car manufacturing, and retail may be facing a gloomy third quarter. The Bank of England, whose policy committee met on August 4, is said to be considering new cuts in interest rates and resumption in quantitative monetary easing to support business confidence. According to the latest economic analysis released by the European Commission in mid-July, Britain’s GDP could contract by 0.3% in 2017, which would plunge the country into a recession. In the energy sector, a last minute decision by the government to hold off from signing a GBP 18 billion agreement to build the Hinkley Point C nuclear power plant added to the general uncertainty. The controversial project, Britain’s first new nuclear plant in a generation, was to be built by a French contractor with heavy investment from China. The proposed plant was projected to supply the UK with up to 7% of its energy needs. With all coal-powered plants scheduled to be shut down in 2025, economic planners fear that any long delays in Hinkley could force the UK into a future power crunch.
Nearly a month after the Brexit vote the European Commission released its latest economic analysis, which indicated that the GDP of the 28 EU countries could drop to between -0.1 and -0.3% from the baseline in 2016, and between -0.3 and -0.9% in 2017. Although the commission noted that conditions have not changed dramatically, it reported that Brexit “created an extraordinarily uncertain situation.” Eurozone inflation shows no signs of increasing much, but more political risks “could alter the forecast massively.” As if Brexit wasn’t enough to worry investors, Europe awoke in early July to the news that Italian bank shares have been falling very steeply due to roughly USD 222 billion in bad loans. European anti-bailout rules make it difficult for the government to help out (as the USA did in 2008). However, as of July 29, even the weakest bank, Monte dei Paschi di Siena, had managed to receive major loans from private sources. Banking authorities say that recent stress tests show that most of the 51 European banks tested were strong enough to survive even sharp drops in the economy, however weak banks have also been identified in Ireland and Austria. So far, the European Central Bank (ECB) has taken a wait-and-see stance regarding the UK’s Brexit decision and won’t say what it will do next to boost growth in the Eurozone. Nevertheless, ECB President Mario Draghi said, after the bank’s governing council meeting in July, that the bank had “the readiness, willingness and ability” to act and would use all the “instruments available within its mandate.” The comments were interpreted by many to mean additional stimulus (interest rate cuts and further expansion of quantitative easing) could be expected, but, despite the fact that inflation shows little sign of reaching the bank’s target of 2%, analysts do not expect any change in stance until after the next ECB meeting in September.
Following government reports that the economy remains weak, and in the face of continued media criticism of his economic policy, Prime Minister Shinzo Abe announced on July 28 that he will add a fiscal stimulus package of 28 trillion yen to this year’s budget to reach a target growth rate of 2%, which agreed to with the Bank of Japan (BOJ) approval. Where the money will come from is not yet clear, but economists anticipate most will come from long-term loans. In an effort to support the government, the BOJ said it will not change its key monetary tools, however, with banks and bond markets expressing increasing concern about the BOJ’s policy of massive monetary easing, it also announced that it will make a comprehensive review of its policy framework. The BOJ now holds over a third of Japanese government bonds, which is a factor said to have contributed to a collapse in bond yields. In a separate announcement, the BOJ also said it will double its program of buying exchange traded funds (ETF) in amounts of approximately 3-6 trillion yen to help combat “uncertainty” in financial markets following the volatility triggered by the Brexit vote and the continuing slowdown in emerging markets. Most economists, according to Bloomberg News, view the BOJ’s actions as being rather limited and may be a sign that it is running out of options (an opinion that is, of course, rejected by the BOJ). The BOJ also released an update of its forecast for the economy in which it cut the core Consumer Price Index (CPI) to 0.1% and GDP to 1.0% for fiscal 2016, but kept the core CPI for fiscal 2017 at 1.7% and raised GDP to 1.3%. Finally, Mitsubishi Motors made headlines when it announced on July 27 that its first quarter operating profits fell 75% as domestic sales dropped sharply following news of its fuel efficiency-data scandal.