July was a volatile month in most markets. The VIX index increased from around 11 by the end of June to about 17 by the end of July – an increase of more than 50%! The equity markets in Europe and the US were also volatile throughout the month. Both S&P500 and MSCI Europe ended the month down about 2%, while MSCI Nordic was down 1%. Asia fared far better with MSCI AC Asia ex Japan and Nikkei 225 up about 4.10% and 2% respectively. The worst hit market was Russia which was down 11.71% in July. The Q2 reporting season is coming to a close in the next couple of weeks. So far the results have been close to our expectations. In the Nordic universe telecom/technology and finance have surprised on the positive side while capital goods has disappointed.
In the US the labor market still show a healthy momentum. Even though the non-farm payroll came in a little bit shy of expectations in July, the US economy added 209 000 new jobs during the month, of which 198 000 were in the private sector. The unemployment rose from 6.1% to 6.2%, but that is only because more workers are entering the labor market (which is a good sign since they are doing so because they think they are able to get a job). Another positive effect is that it also adds capacity to the economy. The Markits PMI in the US for July came in short of expectations, but the ISM for manufacturing came in on very solid 57.1 versus expectations of 56. It is also encouraging that it was a very broad based upswing where 17 out of 18 sectors reported growth. Domestic orders showed a very strong reading while export orders were a little weaker and only indicated modest export growth. In addition, the BNP number for Q2 came in on a very strong 4%, while the steep fall in the first quarter of -2.9% was revised to -2.1%. It must be added though, that part of these strong BNP numbers was due to inventory buildup.
After a weak PMI for Europe in June we were positively surprised by a healthy reading of 54 versus consensus expectations of 52.7 in July. The gain was led by a very solid gain of 1.6 to 54.4 in the service sector. This is the highest level seen since May 2011. The gain in manufacturing was more modest, rising from 51.7 to 51.9. It was a broad based uptick where Germany contributed most, but the readings from France, Spain and Italy were also encouraging. Unemployment has decreased for about a year and fell further in June to 11.5 %, but the fall is slow. The falling unemployment is strongest in Spain, Portugal, Ireland and Germany. The trend is very weak in France. In Finland and Greece the unemployment actually ticked up. BNP in the UK grew by 0.8% quarter on quarter, 3.2% on an annual basis, with growth in all industries except from construction.
The manufacturing PMI from NBS for China continued to show increased activity over mid-year. It came in at 51.7, up 0.7 points higher than expected by consensus and at a 27-month high. The service PMI, however, lost a little ground.
In July the Russian equity marked fell almost 12%. There are several factors behind the steep fall. As the sanctions implemented by the US and EU are taking effect it will clearly hit Russian economic growth. Russian export to the EU represents about 15% of Russia’s BNP, while EU’s export to Russia only account for less than 1% of EU’s BNP. In addition the shoot down of Malaysian Airlines Flight MH17, killing 298 civilians, over east Ukrainian territory by pro-Russian rebels gave Russia and Putin negative publicity. On the 30th of July Argentina officially in default as it failed to honor an interest payment to some of its bondholders. The market took the event with calm, but the ease may well end and spread to other markets if the situation is not resolved.
As we have written before we are concerned about corporate earnings. Coming in more or less as expected, Q2 did not help us in either direction. The macro numbers released in July were decent, but the market is worried about how and when better economic numbers will result in a rise in interest rates. As of now we see few alternatives to keeping a portion of assets in equities if investors want a decent real return.
By Hans Kristian Hals