This week, while monetary tightening by central banks remained top of mind, additional factors also contributed to the current bout of risk aversion, ranging from the power crunch in China to the debt ceiling debacle in the United States (US).
Key themes for the week include:
- US Debt ceiling threatens government shutdown
- US Jobless claims disappoint
- Coal prices soar amid shortages
- The dollar rules the roost
GOVERNMENT SHUTDOWN LOOMING?
It is not the first time that we have heard about the controversial US debt ceiling, and it certainly will not be the last. The US has never defaulted on its debt, however, in a game of politics, the world’s largest economy is facing a showdown that could lead to exactly that. So, what exactly is this “ceiling”, and what would hitting it mean?
What is a debt ceiling?
In simple terms, the debt ceiling is the limit imposed on the amount of money that the US Treasury is allowed to borrow to meet its debt obligations. The need to borrow funds to pay for essential economic and governmental functions arises from a government budget deficit – where the US’s tax revenue does not cover government expenditure. Some of the functions covered by these borrowed funds include, but are not limited to, Social Security benefits, Medicare, and the salaries of military personnel. The amount of debt currently stands at around $28 trillion.
The US Congress is responsible for setting the limit of how much money the US Treasury Department can borrow. Since 1960 the debt ceiling has been raised and revised 78 times, and the most recent revision took place in 2019 when Congress voted to suspend the debt limit for two years. That two years came to an end on 1 August 2021.
The role of politics
As always, politics is hard at work behind the scenes, with the Republican-Democratic rivalry, yet again, taking centre stage. Actions by Senate Republicans are threatening the nations squeaky clean credit record.
The Democratic-led House of Representatives barely managed to pass a bill, along party lines, last week to fund the US government through to the beginning of December and suspend the debt ceiling until the end of 2022. On Monday, however, Senate Republicans blocked the measure, with not a single Republican voting in favour.
To avoid a shutdown, Democrats in the House of Representatives passed a continuing resolution, on 21 September, to keep the government funded at its current level until sometime in December. However, the House’s resolution included a debt limit suspension for the US Treasury, a provision that Republicans in both the House and Senate now oppose.
While both Democrats and Republicans voted to raise the debt ceiling three times during the Trump presidency, Republicans now argue that another suspension would be “enabling a spending binge”.
What are the consequences of reaching the debt ceiling?
Should Congress not revise the ceiling upwards, the US government will be unable to meet all its financial obligations somewhere between 15 October and 4 November, according to a recent analysis from the Bipartisan Policy Center.
As the US Congress has never failed to act on the suspension/revision of the debt ceiling, it is impossible to predict what the exact consequences would be. However, Treasury Secretary, Janet Yellen, warned in a statement to the Wall Street Journal, that a default by the US government to meet their obligations will “produce widespread economic catastrophe”.
The impact of such a default is expected to be severe. Millions of Americans would not receive Social Security or Medicare benefits, the federal government would stop issuing paychecks to US troops and federal employees, and only certain essential federal employees would be allowed to work. According to a report published by Moody’s Analytics, US gross domestic product (GDP) would decline drastically while approximately 6 million jobs would be lost. All the while, the country’s track record – at least as far as paying its debts are concerned – would be permanently tarnished. Experts are closely monitoring the situation, with many forecasting interest rate spikes and stock-price plunges, should the ceiling not be raised or suspended.
As in the case of most disasters, the economically disadvantaged will, once again, be the hardest hit. Food assistance benefits would stop nationwide, monthly child tax credits would be delayed and compensation for veterans and pension payments would lapse. As the US, like most other countries, is still navigating its way through the COVID-19 pandemic fallout, the additional strain of a government shutdown is sure to bring the most vulnerable to their knees. Janet Yellen further noted that defaulting “would likely precipitate a historic financial crisis that would compound the damage of the continuing public health emergency”.
DATA IN A NUTSHELL
New orders for US durable goods soared by 1.8% month-on-month in August, following an upwardly revised 0.5% rise in July, and beating market forecasts of a 0.7% increase. Rises were seen predominantly in orders for non-defence aircraft and parts, capital goods, transportation, and manufacturing. On the other hand, orders for defence aircraft and parts shed 17.8% and defence capital goods dipped by 8.3%. Orders for non-defence capital goods excluding aircraft, a closely watched proxy for business spending plans, rose 0.5%, beating forecasts of 0.4%.
The number of Americans filing new claims for unemployment benefits rose for a third straight week to 362,000, in the week ending 25 September, defying market expectations of 335,000 and moving further away from a pandemic low of 312,000, reached earlier in the month. Meanwhile, The American economy advanced by an annualised 6.7% quarter-on-quarter in the second quarter of 2021, slightly higher than early estimates of 6.6%. Upward revisions to personal consumption expenditures, exports, and private inventory investment were partly offset by an upward revision to imports.
The British economy expanded by 5.5% quarter–on–quarter in the second quarter, well above initial estimates of a 4.8% increase. Household consumption made the largest upward contribution, following the easing of Coronavirus restrictions. On the production side, the largest contributors to GDP growth came from wholesale and retail trade, accommodation and food service activities, education and human health, and social work activities. Year-on-year, the economy expanded by 23.6%, also higher than initial estimates of 22.2%. The country’s GDP is now 3.3% below where it was pre-pandemic.
The eurozone’s seasonally adjusted unemployment rate dipped to 7.5% in August, the lowest level since May 2020, and in line with market expectations. The number of unemployed decreased by 261,000 to 12.162 million, as the labour market continued to show signs of recovery. The youth unemployment rate, measuring jobseekers under 25 years old, edged down to 16.4% in August, from 16.7% in the previous month.
The Chinese National Bureau of Statistics Manufacturing Purchasing Managers Index (PMI) unexpectedly declined to 49.6 in September, compared with market expectations and August’s figure of 50.1. This was the first contraction in factory activity since February 2020, with new orders and export sales declining, amid the COVID-19 Delta variant outbreaks, higher material costs, production bottlenecks, and the recent electricity shortages.
Producer prices in South Africa climbed 7.2% year-on-year in August, up from a 7.1% increase in July and above market expectations of 7.05%. The main contributors to the upward pressure came from prices of petroleum, chemical, rubber and plastic products. Every month, producer prices rose 0.8%, up slightly from a 0.7% increase in July and above market estimates of 0.7%.
TECH STOCKS RETREAT ON HIGHER BOND YIELDS
US stock index futures were higher on Thursday, indicating a slightly positive end to what was a tough month for the markets, with focus turning towards economic data and government funding negotiations. Earlier in the week, we saw a surge in US Treasury yields hurting stocks in the tech and financial sectors. Tech giants were all in the red with Microsoft down 3.5%, Amazon losing 3.1% and Apple down 1.8%. Major financial companies also felt some pain with Wells Fargo falling 1.1% and Goldman Sachs down 3.7%. Major US indices all gave back some of their strong year-to-date returns, with the S&P 500 losing 1.9%, Nasdaq Composite down 3.1%, and the DJIA seeing a 1.4% fall.
As with the US, European stocks also suffered on Tuesday due to the surge in yields largely affecting their high-growth tech shares, with signs of a slowdown in China’s economy also weighing on investor sentiment. The European STOXX 600 index was down 2.2% on the day, which was the biggest one-day decline in over two months, with the technology index (SX8P), declining 4.8%. The STOXX 600 index managed to claw back some of the losses and was down 1.8% for the week, with the SX8P sliding further by 5.4%. In the other European markets, the DAX was also in negative territory, down 2.0% with the FTSE 100 returning a paltry 0.2%.
In Asia, Japan marked its best month since November 2020, even as markets fell for the fourth straight session on concerns over China’s economic growth due to a worsening power crunch. The Nikkei returned 4.9% for the month with the broader Topix index appreciating by 3.5%. The Hang Seng was also positive this week, gaining 1.5% but the stock market is on track for its worst quarter for new listings since the earliest days of the COVID-19 pandemic, down 12.3%, after a regulatory crackdown on Chinese technology companies stifled the flow of lucrative share sales vital to the exchange. The Shanghai Composite was flat for the week, returning a negative 0.4%
Locally, the JSE All Share Index was relatively flat for the week, gaining a meagre 0.6%. The financial index was the best performing of the indices, up 3.0%, driven by strong returns from banking stocks with Investec up 6.8%, FirstRand 5.1% and Absa 5.3%, all having a great week on the back of a strong set of earnings results from FirstRand whose headline earnings increased by 54% compared to the previous year. Sasol was the biggest gainer for the week, up 15.9% due to higher energy prices and a strengthened balance sheet. The laggards on the JSE were the platinum miners, Sibanye Stillwater falling 7.8%, Implats losing 5.7% and Amplats down 5.1%, all impacted as PGM metal prices retreat further, due to supply chain constraints within the automobile sector, which is affecting demand for these metals.
ALL EYES ON COAL
Coal futures surged to a record high of $212 per metric ton towards the end of September, bringing the monthly gain to nearly 20% and the yearly to almost 160%. Several factors have been pushing coal prices up, including tight supply in China, as the country vows to achieve emissions standards and reach carbon neutrality by 2060, a lack of mine investment reflecting pressure from socially conscious investors, imports constraints due to Coronavirus restrictions, and a surge in natural gas prices amid prospects of a shortage in inventories, especially in Europe. The power crunch is likely to stay, given that environmental policies have deterred coal companies from investing in new mines and forecasters predict an unusually cold winter season.
After touching a three-year high of $76.67 earlier in the week, West Texas Intermediate (WTI) crude futures were down at $74 a barrel on Thursday, after a third straight day of losses, due to an unexpected rise in US inventories and signs of slowing growth in China, the world’s biggest crude importer. Energy Information Administration data showed that crude inventories rose by 4.6 million barrels last week, compared with analysts’ expectations of a 1.7 million-barrel drop. In addition, PMI data suggested China’s factory activity remained weak in September, while the country’s power crisis added to concerns. Elsewhere, the extended Organisation of the Oil Producing Countries, OPEC+, is expected to keep supplies tight when it meets next week.
Gold hovered around the $1,730 level an ounce level on Thursday, remaining close to levels not seen since mid-August, amid a strong dollar and as Treasury yields hold at elevated levels. The odds are high that the removal of US Federal Reserve (Fed) support will start as soon as November, while the Fed indicated it may start hiking rates next year. Meanwhile, Fed Chairman, Jerome Powell, said at the European Central Bank Forum, that supply chain issues could cause inflation to last longer than the Fed had previously thought.
DOLLAR TESTS NEW HIGHS
During the week the dollar index reached 94.5, which represents a new high for the year, and stood at 94.3 on Thursday. This comes as liquidity concerns continue to mount on the back of the US Fed’s hawkish tone and mixed feelings in the market around risk positioning.
On Thursday, the euro closed below $1.16 adding to last week’s losses. Pressures on the euro stemmed from the region’s emerging energy crisis, as low natural gas stores sent energy prices soaring. Europe is entering its winter heating period with significant risks to its gas supply, and the possibility of colder (La Niña) winter conditions, which does not bode well for some manufacturing industries and core inflation levels. This month’s announcement of the completion of the Nord Stream 2 pipeline could bolster Europe’s energy security once the red tape is cleared.
The British pound traded softer this week closing below $1.35 on Thursday. Concerns around the spike in Europe’s natural gas prices were compounded by the United Kingdom’s (UK’s) prevailing fuel supply chain disruptions which are dampening economic growth expectations and the possibility of moderating inflation. Against this backdrop, there are renewed fears that the UK economy is not ready for a fourth-quarter rate hike by the Bank of England, which remains a possibility given current inflation levels along with a hawkish US Fed.
The week saw the South African rand lose almost 1% in value against the US Dollar closing at R15.03 on Thursday. Some of the weakness comes from the inverse relationship between emerging market currencies and the stronger Dollar, however, other structural issues weighing on the rand include the sustained sell-off of local bonds by foreign participants, and the softening of industrial commodity prices as the global economic recovery loses steam.
We start the day at R15.09/$ R17.48/€ and R20.31/£