September arrives with a gust of wind

The oil price rally sparks inflation worries
Yields reach new highs for the year
Consumer is showing some signs of fatigue

This September has proven to be challenging for both the stock and the fixed income markets, as both have witnessed negative results. Investors find themselves contending with a multitude of conflicting factors. While stronger economic data and a tighter labor market offer the potential for a soft landing and an earnings recovery, they also contribute to persistent inflationary pressures and a Federal Reserve inclination to maintain higher rates for an extended period. Simultaneously, rising bond yields and a noticeable slowdown in economic growth in Europe and China are exerting a negative impact.

For the month of September, developed markets’ stock index MSCI World has retreated -1.9%, while emerging markets stocks’ index MSCI Emerging Markets has dropped -2.1%. Meanwhile, US bond yields have surged significantly, with 10‑year US Treasury bond yields rising to 4.62%, marking a 16‑year high (4.10% 1 month ago). Similarly, German 10‑year bond yields rose to 2.96%, up from 2.47% a month ago, as major central banks paused rate hikes but left the door open for more.

How big of a threat are rising oil prices?

After averaging $75 for most of the year, WTI (West Texas intermediate) crude oil prices reached a 10‑month high of about $93 a barrel, but they are still well below last year's $123 peak. The main driver behind the recent surge has been production cuts from Saudi Arabia (the top oil exporter) and Russia, as both countries announced earlier this month that they will maintain the current lowered production through the end of the year. On the other hand, from a global‑demand perspective, sluggish growth in China, which is the biggest oil consumer, and a slowdown in European activity could prevent a more significant rise past the $100 mark.

Elevated energy prices generally act as a tax on the consumer. As households allocate a greater portion of their budget to gasoline expenses, they have less funds available for other expenditures. However, this situation can also help in controlling core inflation, as it may result in reduced demand for certain services. And unlike the surge in oil prices seen last year after the invasion of Ukraine, natural gas prices have remained stable, staying close to their three‑year lows. This stability is expected to offer ongoing relief in terms of utility costs.

Oil prices rose to 10‑month highs, but natural gas prices have not followed

Source: Bloomberg L.P.

10‑year yields hit 16‑year peak

Global Central banks warned against premature expectations of rate cuts, which pushed rates across the yield curve to multiyear highs. Among major central banks, none seem to be in a more demanding position than Christine Lagarde at the European Central Bank (ECB). The reason for this tough situation is that inflation remains stubbornly high in Europe, which triggered the ECB’s decision to hike rates a quarter point on September meeting ‑ its tenth straight meeting with a rate hike, despite the sluggish economy.

Meanwhile, in the U.S. markets, there’s still uncertainty about whether the Federal Reserve (Fed) is completely done. However, unlike Europe, the domestic economy in the U.S. remains resilient, and inflation is on a better trajectory than its European counterparts. Nevertheless, worries about a potential government shutdown have emerged, further putting the negative impact on sentiment.

As indicated in the headline, the main attention was on bond yields, which reached multiyear highs, as the Fed plans to keep interest rates higher for longer. The 10‑year yield approached 4.62%, marking its highest level since 2007, pressuring growth‑style investments and the technology heavy Nasdaq.

A cloud of uncertainty surrounds consumer spending

Consumer spending has demonstrated remarkable resilience. For a significant portion of the year, a strong job market, substantial wage increases, and surplus savings resulting from the pandemic have propelled spending, particularly in travel and leisure activities. However, these good times seem to be fading away. Despite a drop in inflation, consumers are increasingly exercising caution and selectivity in their spending patterns, a trend frequently emphasized during company earnings calls this summer.

Furthermore, with the slowing jobs’ growth (and with expectations of further weakness in the first half of 2024), the complete depletion of excess savings, the resumption of student loan repayments on October, climbing fuel prices, and rising borrowing costs, the outlook for both consumers and the broader economy is growing significantly more fragile.

Market view

In September, investment team has maintained its market positioning. The prevailing economic outlook suggests a somewhat cautious approach across various asset classes. Risk assets have largely adopted a 'wait‑and‑see' stance since the end of summer, resulting in an overall sentiment that leans slightly towards a 'risk‑off' posture. This shift can be attributed to pressures on consumption and tightening conditions in both the US and the EU.

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