September saw profit-taking on equities amid concerns over Covid-19 as well as economic and political uncertainties. Global equities fell in September but didn’t panic. Although fiscal support measures are being a bit slow to come on stream, central banks are still firmly on the case.
After five consecutive monthly gains in equities, September brings a sudden drop
Early trading in September saw heavy profit taking, the S&P 500 index having just set a new record high when it closed on 2 September, the same day it marked a rise of nearly 11% since the start of the year. Labouring under substantial profit taking and certain technicalities, US tech stocks were particularly hard hit, with the Nasdaq composite index correcting by 10% between 2 and 8 September. These swings brought with them a rise in implied volatility: The VIX index, calculated on S&P 500 options, rose in a few days from 22 to 34, its highest since the end of June.
However, there was only limited contagion to other major stock markets and other risky assets and the ‘risk off’ phase failed to really take hold. Firstly, volatility eased and eurozone indices held up well for most of the month; in Tokyo, the stock market even ended slightly higher. Secondly, US equities rose at the end of the period, driven in particular by hopes of an agreement in Congress on new fiscal measures.
Over the month, global equities fell by 3.4% (MSCI AC World index in US dollar terms). Coming after five consecutive monthly gains, the drop reflected concerns about the resurgence of the Covid-19 outbreak. The rise in the number of cases of contamination and hospitalisation led many countries to beef up social distancing measures to varying degrees: A re-imposed lockdown in Israel, local lockdowns in Spain, restrictions on public gatherings and shorter bar and restaurant opening hours in France, the UK and Germany in particular.
The threat of a second wave and responses like these reminded investors of the reality of the uncertainties hanging over the global economy – something they had chosen to ignore during the summer. Disappointing activity indicators, particularly in the eurozone, fuelled investor concerns by highlighting signs that the recovery was running out of steam after the mechanical (and rapid) catch-up since May.
Against this backdrop, the renewed commitments from the major central banks to maintain their highly accommodative monetary policies for a very long time, or even to take additional measures if needed, failed to fully reassure equity investors.
Better news in Asia
In Asia, the economic data of recent weeks has been quite encouraging. Activity is returning to pre-pandemic levels in many sectors of the Chinese economy and the pick-up in demand on Asian exporters is favourable. Moreover, the epidemic appears to be under better control than in major Western countries and other emerging markets. Emerging Asia’s better resilience helped the MSCI Emerging Markets Index (-1.8% in US dollar terms) outperform developed markets.
US equities underperformed other major markets in September. The S&P 500 Index lost 3.9% and the Nasdaq composite, 5.2%. This month’s decline, however, leaves the Nasdaq up by 24.5% year-to-date (+4.1% for the S&P 500). European stock markets also ended down: -2.4% for the EURO STOXX 50, which has fallen by 14.7% so far in 2020, penalised in particular by the difficulties of financial stocks. In Tokyo, the Topix index ended the month slightly up (+0.5%), supported by the Bank of Japan’s purchases and by the recovery in demand in Asia. The government’s change of leadership, which was quick and smooth, was seen as ensuring continuity in economic policy. At the global level, cyclical sectors, including some subsectors of technology, outperformed the rest of the market. Energy and banks posted the biggest monthly declines.
The European central bank and the rise of the euro
The EUR/USD exchange rate, having peeped above 1.20 on 1 September, first stabilised at around 1.18 before heading towards 1.16. While market participants had envisaged that the ECB’s comments would put an end to the rapid appreciation of the euro that had been going on since late May, when the exchange rate was below 1.10, market moves in September were a result of concerns over eurozone growth and the decline in equities that led investors favouring the dollar. The EUR/USD exchange rate finished the month at 1.1743, down by 1.7% compared to the end of August. Even so, the euro appreciated in the third quarter.
Graph shows changes in the EUR/USD exchange rate from January 2018 to September 2020.
Following the European Central Bank’s (ECB) monetary policy meeting on 10 September, there were no changes in key rates, asset purchase programmes or forward guidance. While this was largely expected, observers were disappointed on several points, and were left with the impression that the ECB’s stance was a little less dovish than expected.
This feeling was compounded by various rumours that some members would have liked the upward revision of the GDP forecast to have been better highlighted. An 8% drop in eurozone GDP is now expected for 2020, while the figures published by the ECB in June showed a drop of 8.7%. This was mainly due to a somewhat smaller decline in Q2.
The ECB’s reaction to the euro’s climb seemed low key. As is customary, the ECB has talked about the effects on inflation of a strong currency. However, its statements have remained rather muted and seem to show that the Governing Council is not too concerned about the euro hovering at around USD 1.18. Yet only the day after the meeting, several comments on this topic suggested dissensions among council members.
Against this background, expectations remain high for the announcement in December of a further increase in the asset purchase envelopes, or a reallocation between programmes – and this despite some comments giving the contrary impression that the envelope of the PEPP (Pandemic emergency purchase programme) may not be fully used.
A rocky September in no way hurts the (cautiously) positive medium-term outlook
The investor optimism that had prevailed in July and August weakened in September. The difficulties encountered at the beginning of the month by US tech stocks spread to other risk assets, although without markets reaching for the panic button.
As signs of a second wave of the Covid-19 pandemic mount, investors seem to have suddenly become aware of the fragility of the global economy. After the slump in activity in the spring and the rapid rebound from May onwards, momentum has recently seemed to be running out of steam.
In addition, as the US election approaches and Brexit negotiations enter the final straight, the political factor will come more to the fore in the coming weeks.
And among these health, economic and political uncertainties, there are likely to be delays in the adoption of new fiscal support measures in the US and Europe. Equity movements could be erratic in the short term even if a still rather cautious investor positioning is likely to limit the downside.
In the medium term, proactive economic policies should ensure a favourable economic and financial environment. The message from central banks is clear: The monetary policies put in place will allow long-term rates to remain very low for a very long time. Such an environment is supportive for equities and risk assets generally. In addition, advances in medical research should become more tangible over the coming months and help boost economic agents’ confidence, which remains crucial for a sustainable recovery that can spread across all sectors.
Beyond possible short-term headwinds, we remain cautiously optimistic and, depending on the signals sent by our proprietary market “temperature” indicators, we may consider bearish moves as opportunities to strengthen our equity position.