By John Tierney 05-11-2019

What Investors Learned In October

(4 min read)

Equity markets rode a rollercoaster during the first week of October. First there were several negative data surprises, but then they marched higher on solid earnings reports and better economic data. Indeed, much of October was about new developments that could lead to market-moving events in coming weeks and months.

Early Market Jitters

The first number of the month – the US ISM manufacturing purchasing managers survey – dropped sharply to 47.8 versus expectations of 50. This sparked recession concerns and saw equities drop by three percent from the September close. The next key US report, payrolls, came in at +181,000 versus expectations of +140,000, which helped equities largely recover. But the good news didn’t last. Over the next couple of days, investors again grew concerned that mooted trade talks with China might fail to yield much. Equities promptly dropped two percent.

Confidence for Rest of Month

And that was pretty much the end of the bad news for markets. The S&P 500 surged 5% to a near-record 3037.6. The smaller cap Russell 2000 was also up 6.1%. Many other bourses around the world roughly followed US markets with some initial volatility followed by a rally. The European STOXX 600 was up 5.4% from early October lows. The Topix in Japan was up 6%. India rallied 7%. The CSI 300 index in China rallied sharply through mid-October on trade talks and then settled in a narrow range. It ended up 3.6% on the month. A big source of support for the US was solid earnings, with over 75% of reporting companies beating expectations.

All in all, October hardly lived up to its reputation as an ugly month for markets. But developments beneath the surface are less auspicious.

Trade War Could Return

The China/US trade deal turned out to be limited in scope. China apparently agreed to buy more farm goods and the US to relent on some tariffs. But details are yet forthcoming and plans to sign an agreement at an APEC summit in Santiago, Chile, in mid-November are in limbo after Chile cancelled due to political unrest. Even if the US and China do sign an agreement, it won’t begin to address the underlying issues between China and the US – nor between China and much of the rest of the world for that matter.

And President Trump is still making noises about increasing tariffs on European automakers, potentially acting in the coming weeks. It’s uncertain how real this threat is, but headline risk is definitely real.

Brexit Joy

The Brexit drama in Britain was supposed to be settled by 31 October, but Parliament insisted on more time to study Boris Johnson’s controversial last-minute deal that leaves Northern Ireland in a trade union with Europe and a border in the Irish Sea. As things stand now, the EU has granted another extension – to 31 January, 2020 – and the UK will hold a general election on 12 December, which could be viewed as a de facto referendum on Brexit. Both UK equities and the pound rallied during the first half of October then remained in narrow ranges through the twists and turns leading up to 31 October. The key point for markets seemed to be that an end is in sight for Brexit, whatever its nature.

Impeachment Risk

Back in the US, President Trump faced a growing risk of impeachment by the House of Representatives. A steady stream of witnesses offered testimony corroborating the initial whistle-blower’s charge that the president had tied the release of a Ukraine aid package to a commitment to investigate presidential candidate Joe Biden and his son. Given that conviction by the Senate is highly unlikely, these revelations had little market impact. But that could change in coming weeks if new developments compromise Trump’s ability to govern.

Central Bank Moves

The month ended with new developments at the Fed and ECB. The Fed cut its policy rate by a quarter point to 1.5% – 1.75%, but it also signalled that it planned to hold at this level unless incoming data suggested significant weakening of the US dollar. Previously its stance was to expect lower rates unless the data showed a material improvement. Both the 2Y and 10Y Treasury yields backed up about 3 bp but remain 10 bp below October highs.

At the ECB, Mario Draghi exited his role as president after an eventful eight years as Christine LaGarde took over. She is an unknown when it comes to monetary policy. Expectations now are that she will focus more on trying to get European governments to bolster monetary policy through increasingly aggressive fiscal policy.

WeWork Didn’t Work

On the corporate front, SoftBank announced a $10bn bailout of WeWork that values the startup at 80% below its $47bn peak. WeWork may still be a unicorn with valuation over $1bn, but it is proving a severe test of SoftBank’s business model.

Strong November Start

November begins with another nice tailwind from the US labour market, where payrolls jumped 128,000 versus the expected 89,000. US-China trade talks also appear to be progressing smoothly. Going forward, earnings will not be the driver that they were in October – look for economic data and political events to take centre stage.

Over a 30-year career as a sell side analyst, John covered the structured finance and credit markets before serving as a corporate market strategist. In recent years, he has moved into a global strategist role.

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