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Market Outlook: Rising yields create headwinds for stock markets

  • New Economic Outlook report from the OECD
  • Euro area inflation likely to keep climbing
  • NIER Economic Tendency Survey will be published today, Riksbank minutes tomorrow

Between September 16 and 23, stock markets saw further declines. Sweden’s All-Share Index (OMXSPI) lost 5.3%. In the United States the broad S&P 500 index was down by 4.6%, and the Stoxx Europe 600 lost 4.4%. During this past weekend, both the British pound and international oil prices fell sharply. A barrel of Brent crude oil now costs around USD 85.

As share prices fall, government bond yields continue to climb. The 10-year US Treasury yield soared to 3.97% on September 27, its highest level since 2008.

New Economic Outlook report from OECD

On September 26, the Organisation for Economic Cooperation and Development published an Economic Outlook Interim Report subtitled “Paying the Price of War”. The report notes that “Compared to OECD forecasts from December 2021, before Russia’s aggression against Ukraine, global GDP is now projected to be at least USD 2.8 trillion lower in 2023.” The organisation’s latest forecast is that the world economy will grow by 3% this year and 2.2% during 2023. Before the war broke out, the OECD’s forecast was 4.5% growth this year and 3.2% next year.

Euro area inflation likely to keep climbing

On September 30, euro area inflation figures will be published. Both total inflation and core inflation are likely to have continued upward in September. Considering this summer’s extremely large price increases for electricity and natural gas, our forecast is somewhat cautious. We expect a year-on-year upturn in the consumer price index of 10.0%.

NIER Economic Tendency Survey will be published today, Riksbank minutes tomorrow

In Sweden, the National Institute of Economic Research is publishing a new Economic Tendency Survey along with a new set of economic forecasts today. According to Ylva Hedén Westerdahl, director of forecasting at NIER, we can expect slow growth.

Tomorrow (September 29) the Riksbank will publish the minutes of its latest policy meeting. It will be interesting to learn more about the reasoning behind the Swedish central bank’s record-sized recent 1 percentage point hike in its key rate and its fairly dovish rate path.

Our market view

Bond yields are soaring; stock markets are plummeting. High and rising inflation, record-sized central bank interest rate hikes, very worrying signals from Russia about the war and a European energy crisis are among factors that are causing financial market turmoil.

Many investors have become anxious, and surveys of both professional investor behaviour and the views of private individuals paint a pessimistic picture, which mirrors the downturns we have seen. It is hard not to get caught up in this anxiety, but a negative attitude among investors is, if anything, a buy signal. After all, the downturn we have seen is the market's way of adapting to tougher times. Much of the misery we are seeing today has already been discounted, and asset managers as a group are clearly holding a lower than normal proportion of equities in their portfolios.

Most investors seem to be counting on a mild recession – a relatively short period with a significant but manageable slowdown in economic growth. If things turn out worse than this, it will justify new market downturns, and vice versa.

We, too, expect a mild recession. Looking back at history, it is common for overall share prices to fall by somewhere between 20-35% in such cases: about where we are now. That suggests it is too late to sell.

Many forecasts (including ours) indicate that the worst will come this winter, with inflation peaking and growth bottoming out sometime around the end of 2022. Over the course of 2023, inflation will then start to fall and economic growth will accelerate. And since the stock market is forward-looking this suggests that in any event, a buying opportunity is approaching.

But right now the market is clearly worried and we are seeing a lot of headlines about inflation, central banks and other factors which indicate that things may turn out worse than investors expect. This may trigger further declines. During major crises we have seen stock prices fall by 50% or more, so there may be some way to go. Again, this is not our main scenario, but the risk is there and implies that it may be too early to buy.

Despite market concerns, this fairly balanced picture justifies our current view on risk-taking. We have a largely neutral risk profile in our portfolios, with good risk diversification across and within asset classes. If our main scenario proves correct, markets should be close to bottoming out, suggesting that investor increase their portfolio risks during the fourth quarter. In the short term, as usual we are closely monitoring developments and are also prepared to reduce our risk-taking if the outlook deteriorates further.