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Market Outlook: Slower economic growth amid persistent inflation

After a turbulent week, many of the world’s stock markets still managed to close higher on October 8 than on October 1. In the United States, the broad S&P 500 index gained 0.8% while European equities (Stoxx 600) were up by 1.0%. The Swedish all-share index (OMXSPI) was different, closing the week with a downturn of 0.8%. In the fixed income market, 10-year US Treasury yields continued to climb – peaking at 1.615% on October 8 before falling somewhat below 1.60% early this week (October 11-12).

Continued high energy prices and shortages in much of the world

There will be continued worries about surging prices for oil and other energy sources, unless the supply can increase enough to meet strong demand. High energy prices are creating a more troublesome situation for central banks, which are facing both high inflation and weaker economic growth prospects. Early this week, the price of West Texas Intermediate (WTI) oil in the US market pushed past USD 80/barrel for the first time since 2014, while Brent crude is trading at around USD 83/barrel.

American employment rose far less in September than expected

On October 8, the US Bureau of Labor Statistics released its employment figure for September, which showed far slower job creation than expected. Non-farm payroll employment rose by 194,000 compared to a consensus estimate of 500,000, but the unemployment rate fell by 0.4 percentage point to 4.8% while average hourly earnings for private non-farm payrolls rose by 0.6% month-on-month.

China’s growth is being squeezed from several directions

China’s economic outlook has deteriorated in recent months. Because of the country’s zero tolerance policy towards COVID-19, households and businesses remain cautious – hampering consumption and capital spending plans. In the construction sector, the government is trying to curb debt by means of tougher regulations and tighter financial conditions. Industrial production is also adversely affected by high energy prices and shortages. We are thus lowering our 2021 growth forecast from 8.6 to 8.2% and our 2022 forecast from 5.6 to 5.2%.

Worth watching this week

The US corporate report season begins this week, and as usual the major banks will be among the first to publish their quarterly results. The focus of attention will be on any production problems during Q3 due to component and labour shortages as well as the potential for companies to raise their prices. The outgoing Conservative-led Norwegian government unveiled its 2022 budget on October 12, including proposed cuts in spending from Norway’s sovereign wealth fund as the economy rebounds from the pandemic. The new Labour-Centre Party government will soon announce its intended changes in the budget. In Sweden,
Sweden’s September inflation figures will be published on October 14 (tomorrow).

 

Our market view

This autumn, stock markets have turned in a clearly weaker performance following large gains during the first half of 2021. Among the underlying factors are somewhat weaker macroeconomic statistics, higher-than-expected inflation figures, worrisome news about China’s highly leveraged real estate development sector and that country’s tightening of regulations affecting private companies. Uncertainty about how and when the US Federal Reserve will begin to taper its stimulative bond purchases has also contributed to market concerns, especially because long-term Treasury yields have been climbing.

There is thus no shortage of worries, nor is it inherently surprising that stock markets have lost ground after the sharp upturn of the past year. Yet given what we are now know, we do not regard this as the beginning of a long period of major downturns. Provided that weaknesses encompass different portions of economies and markets, however, there is an obvious risk that we will have to live with continued stock market volatility during the autumn.

But we believe that the risk of major downturns remains small. The Chinese authorities have the capacity to deal with problems without too much drama and we believe that inflation will fall in the future, although today’s levels are worrisome. The Fed is expected to reduce its bond purchases soon, but is also likely to be sensitive to events in global financial markets – for example if problems in China have a larger international impact. The recent weak performance of stock markets should also be viewed in light of the largely uninterrupted rally we have seen in recent quarters; in itself, a correction is not surprising.

It is also important to bear in mind that right now we are in the midst of a powerful economic recovery, bolstered by extreme stimulus measures. Looking ahead, the pace of economic growth is likely to slow gradually and eventually approach more normal figures – our guess is during 2023. Meanwhile major stimulus programmes will probably be phased out gradually, so massive support for risky investments will be smaller in the future.

Market turmoil may, of course, continue for some time and new downturns cannot be ruled out. However, we do not expect that what is happening, assuming the situation does not clearly worsen, will have any significant effect on either global economic growth or corporate earnings. The fixed income market has also been relatively stable, and equities will continue to enjoy strong fundamentals – including healthy growth and low interest rates.

In the past couple of months we have signalled a slightly increased level of caution by lowering the proportion of equities in the portfolios we manage. We have also reduced the proportion of riskier (high yield) corporate bonds in our fixed income portfolios from a large overweight towards a more normal weighting. But we still hold slightly more equities than in a normal situation. This reflects our view that the volatility we are now seeing will not affect the long-term stock market outlook. If share prices should continue to decline, buying opportunities may arise, but we are not there yet.