Equities finish February on wobbly legs, look to data for clarity – Index News
March 1, 2018 2:26 pm
Global stock indices ended February lower, as concerns regarding rising inflation and interest rates took a hold of markets, helping to bring “overvalued” equities back to more reasonable levels. While the outlook for stocks has remained uncertain and price action has become increasingly more choppy, this may well change over the next few weeks as data on wages and inflation provide some much-needed clarity to investors.
It’s a long story, but not a complicated one. In early February, an upside surprise in US wages amplified expectations that higher inflation may be around the corner, and that the Fed may have to ‘reign in’ rising price pressures by raising interest rates more aggressively. The outcome was a surge in US bond yields, as investors priced in the prospect of faster rate hikes. Concerns regarding the sustainability of US public finances likely contributed to the surge in yields, as investors demanded a higher premium to hold US debt. This broader rise in yields, in turn, was probably one of the biggest factors behind the stock market turbulence. As yields rise, bonds become more attractive to hold relative to stocks, naturally leading investors to rebalance their equity-to-bond exposure and thus hurting demand for equities.
Where are we now? Well, not a whole lot has changed in this narrative. Yields on 10-year US Treasuries remain elevated near multi-year highs, helping to keep advances in stocks limited. The key question is whether there is more upside room for yields from here (and thus more pain for stocks), or whether a potential pullback in yields will help major stock indices to recapture their all-time highs.
The answer to that question could come as early as Friday March 9, when the US will release its wage data for February. Wage growth is typically considered a precursor to higher inflation and thus, investors will be watching closely to see whether last month’s sharp acceleration in wages was a fluke, or a sign of things to come. Then a few days later, on March 13, the US will release its CPI data for February. Alongside wages, these data are likely to be critical in determining the forthcoming direction of US yields and hence, equity indices. An upside surprise in these figures could add credibility to the narrative that US inflation is picking up, boosting yields and hurting stocks. Conversely, a disappointment may signal that markets have run ahead of themselves in pricing in higher interest rates, and provide some much-needed relief to stocks.
Looking at the Dow Jones, in case of advances in the index, immediate resistance may be met near the February 27 high, at 25,800. If buyers manage to overcome that level, then the next area that is likely to be congested with sell orders may be near 26,616, which is the index’s all-time high. If the bears remain in control, on the other hand, they are likely to aim for a test of the 24,790 zone, identified by the February 21 low. A decisive break below that hurdle could set the stage for further declines, possibly towards the Dow’s recent lows, near 23,360.
While US markets are likely to focus on wage and inflation data, European indices may get their cue from political events a little earlier, on March 4. On that day, Italian citizens will head to the polls to elect their new leader, while Germans will find out if they have a new government, as the SPD party will announce whether its members have approved another coalition with Merkel’s conservatives. European assets are likely to move according to how these risk events play out, namely to rally in case of strong and stable leadership in these major European economies, or to pull back in case political uncertainty increases.
Global stock indices ended February lower, as concerns regarding rising inflation and interest rates took a hold of markets, helping to bring “overvalued” equities back to more reasonable levels. While the outlook for stocks has remained uncertain and price action has become increasingly more choppy, this may well change over the next few weeks as data on wages and inflation provide some much-needed clarity to investors.
It’s a long story, but not a complicated one. In early February, an upside surprise in US wages amplified expectations that higher inflation may be around the corner, and that the Fed may have to ‘reign in’ rising price pressures by raising interest rates more aggressively. The outcome was a surge in US bond yields, as investors priced in the prospect of faster rate hikes. Concerns regarding the sustainability of US public finances likely contributed to the surge in yields, as investors demanded a higher premium to hold US debt. This broader rise in yields, in turn, was probably one of the biggest factors behind the stock market turbulence. As yields rise, bonds become more attractive to hold relative to stocks, naturally leading investors to rebalance their equity-to-bond exposure and thus hurting demand for equities.
Where are we now? Well, not a whole lot has changed in this narrative. Yields on 10-year US Treasuries remain elevated near multi-year highs, helping to keep advances in stocks limited. The key question is whether there is more upside room for yields from here (and thus more pain for stocks), or whether a potential pullback in yields will help major stock indices to recapture their all-time highs.
The answer to that question could come as early as Friday March 9, when the US will release its wage data for February. Wage growth is typically considered a precursor to higher inflation and thus, investors will be watching closely to see whether last month’s sharp acceleration in wages was a fluke, or a sign of things to come. Then a few days later, on March 13, the US will release its CPI data for February. Alongside wages, these data are likely to be critical in determining the forthcoming direction of US yields and hence, equity indices. An upside surprise in these figures could add credibility to the narrative that US inflation is picking up, boosting yields and hurting stocks. Conversely, a disappointment may signal that markets have run ahead of themselves in pricing in higher interest rates, and provide some much-needed relief to stocks.
Looking at the Dow Jones, in case of advances in the index, immediate resistance may be met near the February 27 high, at 25,800. If buyers manage to overcome that level, then the next area that is likely to be congested with sell orders may be near 26,616, which is the index’s all-time high. If the bears remain in control, on the other hand, they are likely to aim for a test of the 24,790 zone, identified by the February 21 low. A decisive break below that hurdle could set the stage for further declines, possibly towards the Dow’s recent lows, near 23,360.
While US markets are likely to focus on wage and inflation data, European indices may get their cue from political events a little earlier, on March 4. On that day, Italian citizens will head to the polls to elect their new leader, while Germans will find out if they have a new government, as the SPD party will announce whether its members have approved another coalition with Merkel’s conservatives. European assets are likely to move according to how these risk events play out, namely to rally in case of strong and stable leadership in these major European economies, or to pull back in case political uncertainty increases.
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