Monday Espresso Podcast 12th December 2022

[00:00:00] Sheldon MacDonald: It is the 12th of December today. The Santa rally that markets had been enjoying for the last couple of weeks seems to have hit the buffers with a negative week last week, and certainly in most Western equity markets and the US markets suffering its worst week since September.

[00:00:14] Nathan Sweeney: Yeah, so I think markets are pretty much still concerned about inflation, and if we continue to see inflation coming through, or not falling as quickly expected, what does that mean for central banks?

[00:00:25] Nathan Sweeney: You know, because we know central banks are raising interest rates and they're starting to slow that pace. But if they continue to raise rates, that could create a recession, and that's why you've seen the market sell-off last week.

[00:00:36] Sheldon MacDonald: Well, we have seen inflation continuing to fall and partly that's what's been driving the, the Santa rally.

[00:00:42] Sheldon MacDonald: People have been getting excited about the potential for the pace of rate hikes to start easing. We have seen the oil price falling. The oil price now is below where it ended last year, so oil now actually a deflationary force. Not just a disinflationary force so that negative inflation will help bring the inflation numbers down.

[00:01:03] Sheldon MacDonald: We did see last week PPI, that's producer prices falling. The CPI number is expected out this week. The point is that if we are gonna get interest rates higher for longer, then as you say, that will lead to a stronger recession than be it at the moment. Of course, that decision out this week, the US Fed meeting tomorrow.

[00:01:26] Sheldon MacDonald: We also have the ECB meeting tomorrow. So definitely a lot on the calendar this week.

[00:01:31] Nathan Sweeney: Yeah, so if we look at central banks, generally, we've got three of the big central banks meeting this week. So as you mentioned, we've got the Fed. They're expected to increase interest rates by half a percentage point, so they've increased interest rates by six times.

[00:01:45] Nathan Sweeney: So we've had six separate instances where they've raised rates this year. So this will be the seventh increase, and this increase in interest rates of half a percent will follow the last four meetings where they increase at 0.75%, so the pace is slowing.

[00:02:00] Nathan Sweeney: We've got the Bank of England raising rates, expectations that they will do half a percent and again, this follows interest rate hikes of 0.75%. And we also have the ECB raising interest rates. So three, the big central banks raising interest rates, but at a slower pace and acknowledging that inflation is coming down.

[00:02:21] Sheldon MacDonald: Certainly inflation's starting to come down. If we do see a revisit of the 0.75% interest rate hike, that will certainly spook markets leading to fears of this harder recession, as I say.

[00:02:34] Sheldon MacDonald: We have seen bonds reacting more as we would expect. We have seen bonds performing quite well in this environment. That's almost as you would traditionally expect with economies facing a recession, at some point inflation will come down, at some point rates will be pulled down to restimulate the economy and in that environment, you do expect bonds to perform.

[00:02:54] Sheldon MacDonald: So as I say, bonds certainly long bonds performing relatively strongly last week, providing positive returns. Now said at the beginning, Western markets were negative this week, eastern markets driven mostly by China, we're pretty strong.

[00:03:07] Nathan Sweeney: Yeah. So for the last five weeks in a row, we've seen the Chinese market up, and this is on expectations that the Chinese government would reduce or loosen covid restrictions.

[00:03:18] Nathan Sweeney: So now we're getting confirmation of that. So the government is coming out and relaxing those restrictions, you're seeing the equity market reacting quite positively. So the Chinese market was up over 3%. This gave a boost to the Asian stock markets and emerging markets last week.

[00:03:34] Nathan Sweeney: There are some underlying concerns though, that if you reopen too quickly, there's a very low vaccination rate in China. Will the medical infrastructure be able to cope? So there's an expectation that this does lead to a bit of volatility within that whole reopening and the impact that that has on the economy.

[00:03:53] Nathan Sweeney: It should be positive. However, there might be a stop start there, so we just have to wait and see.

[00:03:58] Sheldon MacDonald: Yes, the government certainly having to accept those risks. I think in the interests of social stability, I think that local population certainly was starting to resist some of the very stringent lockdowns and some of the other measures that were in place.

[00:04:12] Sheldon MacDonald: So important for social stability for these measures to be eased, as you say, we'll see the impact of those in the months ahead.

[00:04:20] Nathan Sweeney: One thing worth mentioning this week, we actually have inflation data coming out in the US and it's quite important because if we look at the expectation here is that inflation goes from 7.7% to 7.3.

[00:04:33] Nathan Sweeney: Now what happens if that number is worse or better than expected? You will get a reaction in the market. The market is looking obviously, to hit those figures, and if there's any kind of movement on either side of that, you're likely to get some volatility. And that just really highlights that the market is quite sensitive at the moment because obviously there's a lot of bad news.

[00:04:53] Nathan Sweeney: The market is on edge. We'll expect inflation to continue to come down because as Sheldon mentioned, you saw the oil price fall substantially last week and it's now at levels which are lower than we've had all year, and that's likely to feed through into lower inflation. So the trend is down, but it will be bumpy.

[00:05:11] Sheldon MacDonald: As always, a bumpy ride.

[00:05:13] Sheldon MacDonald: We hope this week is a good week for everybody and we look forward to speaking to you next week.