This summer, when the yen rebounded, the market experienced a brief but very lively episode of volatility. It is approaching the autumn with 3 hopes: renewed growth in China, a new equilibrium in the United States and the loosening of the global monetary straitjacket.
With an impressive spike in volatility lasting several days, August was a nervous month for investors. On August 5, the Nikkei index even recorded its biggest daily fall since the crash of October 1987.
Despite the ultimately limited consequences of a significant rebound in the world’s major indices, calm has returned.
Beyond the traditional autumn volatility, questions remain about the possible combination of a US and global slowdown and central banks too cautious to ease their monetary policies sufficiently.
Yet history is not written, and the final quarter could allow investors to scale this “wall of worry”, provided three key elements are fulfilled in the months ahead.
1- The first is the realization of China’s hopes for economic recovery, which have been regularly dashed for the past eighteen months since the end of the “zero-Covid” policy.
Affected by its real estate sector struggling to digest past exuberance, held back by lackluster domestic demand and overly dependent on the country’s formidable industrial export machine, China is unable to regain a dynamism worthy of its pre-pandemic standing.
Our MMS Montpensier Economic Momentum indicator is in positive territory. But the concrete effects of this improvement are taking time to be felt by economic players.
Source: Bloomberg / Montpensier Finance at August 30, 2024
However, the first encouraging signs are emerging.
Real estate is still in a fragile state,
where the latest figures, published on August 15, show that prices are down year-on-year in 68 of the 70 cities making up the benchmark indicators.
In January, only 53 cities were in this situation.
But the authorities seem to have stemmed the tide of developers’ bankruptcies, and the systemic risk is receding as guarantees are provided by the highly mobilized local authorities.
This is particularly true for domestic demand. After a sharp slowdown in June, with a year-on-year increase of just 2%, the lowest since early 2023, July’s retail sales figures were reassuring, with an annualized rate of +2.7%.
At the same time, Beijing is forcibly cleaning up its banking sector, forcing the concentration of the many small, fragile rural banks, along the lines of the savings bank crisis in the late 1980s in the USA: in the first half of 2024, the number of banks liquidated was four times greater than the total number of such operations in 2023. This should help to revive credit, which contracted in July for the first time since 2007.
All that remains now is to give a real boost to business activity, for example through a far-reaching tax reform. The rise in the unemployment rate, to 5.2% at the end of July and 13.2% for 16-24 year-olds according to the new calculation method, which excludes students, leaves central government with few alternative options.
2-The second element expected by investors is the affirmation of the scenario of a soft landing for the US economy after the post-pandemic expansion on fiscal steroids.
For several weeks, contradictory indicators have been multiplying. At the beginning of August, it was the succession of a much lower-than-expected ISM purchasing managers’ index in the manufacturing sector – particularly in the most advanced component, that of new orders – and less positive than expected employment figures, which greatly increased investor nervousness.
But a few days later, the publication of still very solid retail sales, supported by positive comments from retail giant Walmart, enabled the indices to make up much of the ground lost.
To date, fears of recession in the United States appear to be exaggerated. Firstly, because despite rapid normalization, the job market remains solid, with the unemployment rate at 4.3%, supporting consumption. Secondly, wage growth is now outstripping inflation, which again is a positive contributor to household morale. Lastly, productivity gains have outstripped wage increases for the past three quarters, supporting the downward trend in inflation.
3-The third element needed to support the markets over the next few months is, of course, monetary loosening in the wake of the continuing rapid decline in inflation indices.
Our MMS Montpensier monetary conditions indicators point to a very restrictive financial environment in both Europe and the United States. Despite the very sharp slowdown in price dynamics over the past year – to below 3% annualized – central banks have so far remained very cautious, worried about being caught out by wage growth in Europe, especially Germany, and by the service sector in the US, where price pressures are easing only slightly.
Our MMS U.S. monetary conditions indicator remains very restrictive
Source: Bloomberg / Montpensier Finance at August 30, 2024
As a result, refinancing tensions have increased, and the real estate sector, in the front line, is suffering on both sides of the Atlantic. Fortunately, the balance sheets of both companies and households have been strengthened by the decade of very low interest rates following the financial crisis, and the massive support provided by governments and central banks during the pandemic and until early 2022.
Investor nervousness in this area was particularly well illustrated on August 5, when the Bank of Japan’s decision to initiate a cycle of monetary tightening triggered the sharpest daily fall in the Nikkei index since the 1987 crash and accelerated the pressure on European and American indices, already weakened by fears of a faster-than-expected economic slowdown. So much so, that the Japanese monetary authorities were forced to announce a pause in the implementation of their new strategy the following day.
In the USA, as in Europe, the tide is already turning in favour of an acceleration – or the beginning, in the case of the Fed – of monetary loosening. Since the middle of spring, and even more so since Jackson Hole, the Fed has put the balance between its two mandates – price stability and full employment – back at the heart of its action, suggesting the start of a rate cut in September. If this were to occur in a context of economic stabilization, which is our central scenario at this stage, the markets would welcome this new oxygen.
Europe, as is often the case, remains more cautious, as the ECB continues to be constrained by its strict inflation-control mandate and the divergent approaches of the members of its Monetary Policy Committee. Nevertheless, the ECB will have to demonstrate its decisiveness from September onwards, in order to act decisively in favor of growth.
