Global Markets Overview: Western Europe
By John Taylor, Analyst at the York IFS Global Market Telegraph
European equities are still on track to post their best monthly gain on record, with stock markets up for the fourth week in a row. Optimism that a COVID-19 vaccine could be deployed as early as the beginning of next year eclipsed short-term concerns around the Eurozone’s sluggish economy.
European shares rose for the fourth week in a row with the benchmark pan-European STOXX 600 Index still on track for its best month ever, seeing gains of nearly 15% for November. Optimism from the development of successful coronavirus vaccines from companies such as Moderna and Pfizer, that could be deployed as early as the start of next year, has fuelled the recent rally. Fading uncertainties around the US election with news that the US presidential transition is going ahead has also helped reassure investors. The growing confidence has been accompanied by a rotation and shift in sentiment from momentum stocks that have performed well throughout the pandemic towards value stocks. The pan-European STOXX Europe 600, Germany’s Xetra DAX and France’s CAC 40 Index have all ended the week increasing by 0.93%, 1.51% and 1.86% respectively[i].
The announcement of successful COVID-19 vaccines has thus far eclipsed shorter term concerns about the European economy.[ii] Eurozone business activity slumped this month as rising coronavirus infections led to the introduction of new lockdowns which forced many firms to close, especially those with a dominant service sector. The IHS Markit Eurozone composite purchasing managers index fell to a six-month low of 45.1 in November from October’s 50.[iii] The drop in the PMI, well below the benchmark 50, suggests that the Eurozone economy is at risk of a double-dip recession, with a sizeable contraction likely in the final quarter of 2020. The fall was slightly offset by a strong manufacturing sector with continued expansion, albeit at a slower rate. Moreover, with the development of a vaccine that could be widely distributed at the beginning of next year, there is greater optimism surrounding a swift economic recovery from the pandemic.
In response to the sharp drop in business activity the ECB has signalled that it is getting ready to inject fresh monetary stimulus into the Eurozone economy. On Thursday, details on last month’s rate-setting meeting were published where it was mentioned that there may be some countries within the bloc that could experience a double dip recession. The chief economist of the ECB, Philip Lane, warned that demand for business loans and availability of credit was falling. If governments deliver insufficient fiscal and monetary support in response to the second-wave of the pandemic, then we are at risk of ‘unwarranted tightening of funding conditions’ where countries could find themselves in a downward spiral of falling demand [iv]. Signs of further stimulus measures and expectations that the ECB will continue its asset purchase programme has continued to fuel the rally in Eurozone debt. Portugal’s 10-year bond yields fell into negative territory on Thursday for the first time, with countries such as Germany also experiencing negative yields on bonds of approximately minus 0.59%[v]. In general, bond yields tend to fall as their price rises.
With an optimistic economic outlook for the beginning of 2021, many ECB officials have signalled support in favour of the resumption of bank dividend payments next year, to return investor confidence in the sector. The benchmark index for European banking stocks, the Euro Stoxx Banks Index, rose 1.3% on Friday as investors gained confidence from the news. The index is down 22% this year, making it the second worse performing industry after energy[vi]. Furthermore, banks will only be allowed to pay dividends if they convince ECB supervisors that their balance sheets are strong enough to survive the recovery from the pandemic.
In Brexit news, with only five weeks to go until the end of the transition period, the future relationship between the UK and Europe hangs in the balance. Official talks are set to resume next week with no clear breakthrough in sight. The UK has rejected an EU offer on fishing rights with officials labelling it inadequate and unhelpful. Thus, dealing a blow to hopes that the two sides can secure a trade deal[vii]. Financial companies and regulators are also making some last-minute adjustments to avoid disruptions when the UK leaves the single market. On Monday, European regulators finalised a late change to avoid disarray in £15 trillion worth of derivatives contracts held between UK and EU counter-parties[viii]. The steps taken reflect uncertainty over a post-Brexit financial environment, with many officials warning market volatility may increase over the transition period as financial markets adjust.
This article was first published in University of York Investment and Finance Society's Global Market Telegraph (GMT) Edition 13.1 in mid-December 2020.
Reference List: [i] . https://www.troweprice.com/personal-investing/resources/insights/global-markets-weekly-update.html#Europe [ii] https://qontigo.com/examining-market-rotation-through-the-stoxx-factor-indices/ [iii]https://www.reuters.com/article/us-eurozone-economy-pmi/euro-zone-business-activity-shrinks-but-vaccine-hopes-boost-optimism-idUSKBN2830V6 [iv]https://www.ft.com/content/9912df16-ca58-4157-9b62-187b368862d0 [v] https://www.ft.com/content/fc7d166f-a951-48e2-a33f-f7b58ab8c6cd [vi] https://www.bloomberg.com/news/articles/2020-11-27/ecb-signals-bank-dividend-ban-could-be-cautiously-lifted-in-2021 [vii] https://www.ft.com/content/4573cc3a-bde7-4ae9-82f1-765f61759c7c [viii]https://www.ft.com/content/4d15ca05-306e-431d-946a-b2eef3d5f659
What do you think? Let us know in the comment section below!
Interested in writing for us? Click on the 'Write For Us' button at the top of the page!