The United States (US) Federal Reserve (Fed), in Wednesday’s Federal Open Market Committee (FOMC) meeting, took a hawkish tone against the market’s expectation of a possible dovish surprise. While the Fed kept short term interest rates unchanged, it hinted that in order to fight inflation, increasing tightening is on the table if needed.
Key themes for the week include:
- US equities trying to find their feet
- US economy beats expectations
- Brent Crude hits $90/barrel
- Dollar index beats its July 2020 high
READING BETWEEN THE LINES
The Fed’s policy statement on Wednesday, following the FOMC meeting, delivered a hawkish surprise to the market as the Fed Chair, Jerome Powell, reiterated the FOMC’s position that short term interest rate hikes are imminent, and that increases in the Fed’s balance sheet will cease in early March 2022.
While noting the uncertainties facing the US economy, Powell was optimistic about economic growth prospects and cited a strong labour market recovery as one of the reasons that the economy no longer needed sustained high levels of monetary policy support. This statement, and his speech’s emphasis on the possibility of core inflation proving sticky, gives the Fed room for more hawkish strategy down the line.
An equally important disclosure by Powell was that reductions in the Fed’s balance sheet, also known as quantitative tightening, will only occur after rate hikes have commenced, implying that the Fed wants to avoid shocking the market with a rapid decline in liquidity levels.
DATA IN A NUTSHELL
The US economy grew at a 6.9% annualised pace in the last quarter of 2021, accelerating from 2.3% in the previous quarter. This marked the sixth consecutive quarter of growth since the pandemic caused a short but very sharp recession in early 2020. The economic growth numbers surprised to the upside, as the market was expecting annualised economic growth in the fourth quarter of 5.5%. The growth in output over the same quarter in the 2020 was 5.5%, which is the largest gain since 1984, when output rose 5.6%. Output growth was strong in early autumn and winter in the US as the Delta variant waned, schools and businesses re-opened, and consumers started spending their accumulated savings. The increase in real economic activity was driven by increases in private inventory investments, exports, personal consumption, and non-residential fixed investment.
As widely expected, the South African Reserve Bank (SARB) raised the repo rate by 25 basis points for the second consecutive time on Thursday to 4%, after inflation in the economy rose well above the median of its target. Year-on-year consumer inflation surged to 5.9% in December, close to the upper limit of the official 3% to 6% target. The SARB said that the risks to the domestic inflation outlook are assessed to be on the upside after oil prices beat expectations and global inflation continued to surprise higher in recent months and could continue to do so for some time. SARB Governor, Lesetja Kganyago, also revealed that the Bank now expects SA’s real economic growth rate for 2021 to come in at below 4.8%, compared to the forecast of 5.2% as at SARB’s last monetary policy meeting in November. The SARB has maintained its economic growth prediction of 1.7% for 2022, with the expected deceleration in growth from the past year coming as a result of the fading rebound from the pandemic, coupled with a slowdown in export prices and slower global growth.
GLOBAL MARKETS REACT TO THE FED
In the US, Wednesday’s trading was extremely volatile as US stocks initially rose after the Fed published its policy decision but reversed sharply as the Fed Chairman spoke to journalists later in the afternoon. On that day, the index’s reversal was 3.4%, which was the biggest downward turn since September 2020.
Although US stocks were up in the early hours of Thursday’s trading, it nevertheless closed down on the day. The S&P 500 has now lost about 9% month-to-date.
In company news, McDonald’s shares were flat, after the company’s profit estimates missed analyst’s expectations. The company’s earnings and revenue have grown at a slower rate than anticipated, due to rising costs and COVID-19 restrictions in China and Australia. Netflix’s share price climbed 6% as billionaire investor, William Ackman, said his hedge fund purchased 3.1 million shares in the company. Private equity firm, Blackstone, surged 8% on strong earnings as its net income nearly doubled from the previous year.
In European markets, the Stoxx 600 Index was marginally down for the week, with financials outperforming tech stocks. German lender, Deutsche Bank, had a good set of earnings results, beating market expectations by posting a profit in the fourth quarter, thanks to a strong performance from its investment banking division. While several of the bank’s Wall Street peers, including JP Morgan and Morgan Stanley, came in with disappointing earnings results, Deutsche Bank posted a profit of €145 million in the last quarter of 2021, which was almost triple its profit for the same period in 2020.
In local markets, the JSE All Share Index was in the red this week, losing 1.7%, largely driven by losses in the industrial sector. Mr Price was the biggest laggard, down 8.4%, with fellow apparel retailer, The Foschini Group, also losing 8.2%. Prosus and Naspers were the other two biggest detractors down 8.3% and 7.7% respectively. The financials index also gave back some of its year-to-date returns, depreciating 1% for the week, while resources were largely flat.
Wednesday’s trading saw West Texas Intermediate (WTI) oil futures rise to a high of $87.27, while Brent Crude oil prices surged to a seven-year high of $90/barrel at one point. Brent oil’s market drivers include low inventory levels in Europe, tensions between Russia and Ukraine, and the case of Russia struggling to increase its oil production to meet higher quotas set by the extended Organization of Petroleum Export Countries (OPEC+). Russia is expected to send less of its premium seaborne crude to Europe in February, underwhelming Bloomberg estimates. The increase in WTI oil futures, however, came in the face of higher than anticipated oil inventory levels in the US, and Thursday’s trading saw WTI give back some gains, as inventory levels eased some supply concerns.
Gold broke down on Thursday as selling pressure led prices below $1 800 per ounce, marking a two-week low. Gold responded to the hawkish Fed policy statement. However, pressures on gold from rising US real yields have also built year-to-date.
Iron ore surged to $137 a tonne on Wednesday, increasing by 58% from the 18-month low in November 2021. The rally has largely been driven by sentiment, including the view that China’s stimulus plan will lead to a recovery in building activity, and the view that Australian iron ore inventories, based in the Western Australia state, will be restricted from export as the region deals with a COVID-19 outbreak.
DOLLAR CLIMBS AS FED FLAGS INTEREST RATE HIKES
The US dollar rose to an 18-month high as the Fed primed investors for rate hikes, beginning as early as March. The US Dollar Index, which measures the dollar’s value against other major currencies, rose to 97.1, which is its highest level seen since July 2020. The gains came as the markets priced in five short-term interest rate increases, of 0.25% each, by the end of the year. This move sees the gap in rate expectations, between the US and other big economies, widening. The greenback also hit its highest levels in more than a year against the New Zealand dollar, a seven-week high against the Australian dollar and rose broadly against the emerging market currencies.
The British pound fell to a one-month low of $1.3376 as traders keep an eye on the situation regarding Prime Minister Boris Johnson. After news was leaked that the Prime Minister attended parties during his country’s lockdowns, he is under growing pressure to resign. China’s yuan was also down 0.7% against the dollar on Thursday, which was its biggest one-day fall since July, as data showed that industrial profits grew at their slowest pace in 18 months.
Cryptocurrency’s have also been feeling the heat as there has been a sharp sell-off in Bitcoin and other major digital currencies. Bitcoin plunged to below $33 000 on Monday, its lowest level since July, but has now partially recovered, sitting above the $37 000 level. Bitcoin has lost almost 50% of its value since it reached its record highs in November last year of close to $69 000. The entire crypto market has shed more than $1 trillion in value since those highs.
The rand is trading at R15.44/$, R17.22/€ and R20.70/£.