RISING COVID CASES CAUSE AN INCREASE IN VOLATILITY AS MARKETS REASSESS THE CASE FOR GROWTH

RISING COVID CASES CAUSE AN INCREASE IN VOLATILITY AS MARKETS REASSESS THE CASE FOR GROWTH

This week saw markets decide that rising coronavirus infections were a real concern. On Monday many global equity markets fell 2 per cent or more, with government bond yields falling to levels last seen in early February. However, some good earnings updates made these concerns short-lived. Notably bond yields have been slower to recover, which suggests lingering nervousness about the longevity of the current recovery.

Rapidly rising infections continue to cause severe problems, even in countries with successful vaccination programmes. As the UK is demonstrating, even if the link between infection and serious illness has substantially weakened the huge numbers off work is highly disruptive. Elsewhere, the UK government has decided that the Covid crisis is not sufficiently taxing and has decided to reopen hostilities with the EU by threatening to suspend the new rules for trade with Northern Ireland. Despite the government’s intentions, both problems appear to be complicated, impossible to win and will do more damage the longer they go on.

GLOBAL: RISING COVID INFECTIONS SPARK MARKET VOLATILITY

The rapid rise of coronavirus cases around the world caused a sharp sell-off in global equity markets at the start of the week. UK, European and Japanese stock all fell more than 2 per cent as the rise in cases in unvaccinated countries, as well as the rapid rise in many countries with established vaccination programmes, such as the UK and US, raised concerns about the strength of economic growth. The sell-off was accompanied by a rally in government bonds with the yields on 10-year UK gilts dropping to their lowest level since February this year.

Stock markets have generally recovered quickly, helped by a succession of strong earnings reports, and many global indices are back to where they began the week. As well as the rapid changes in markets, this week has seen a noticeable reversal of the trends seen for much of this year. Growth stocks, such as large tech companies, have strongly outperformed and led the recovery, while value and cyclical stocks have struggled.

EUROPE: ECB STICKS WITH MARKET SUPPORT TO HIT INFLATION TARGET

The European Central Bank held interest rates at their record low and committed to keeping its asset purchase programme at its higher level of €20 billion a month. The low rates and strong bond-buying programme is targeted to push the Eurozone inflation out of its persistently low range in recent years and reach the new interest rate target of 2 per cent.

June saw inflation in the Eurozone drop to 1.9 per cent from 2 per cent in May in contrast to rising levels in areas such as the UK and the US. To counter the downward trend the ECB has committed to run the asset purchase programme for as long as needed to push inflation back to its target, even if that results in inflation going above the 2 per cent target in the short term. With no sign of an end to the ECB’s bond buying, European government bonds continued their recent rally and yields on German, Italian and French government bonds all fell on the announcement.

UK: ‘PINGDEMIC’ RISKS UNDERMINING ECONOMIC GROWTH

The week started with the removal of most remaining coronavirus restrictions in England. ‘Freedom day’ was intended to mark the return to life pre-pandemic and assist economic recovery. However, there has been a surge in new infections and a record number of people have been told to self-isolate after being contacted by the NHS Test and Trace service. The knock-on effect has led to reports of shortages at supermarkets and shifts being cancelled at manufacturing plants due to shortages of available staff.

The disruption caused by staff shortages has led to a deterioration in expected economic activity. The monthly Purchasing Managers Index shows business confidence remains positive but has dropped sharply since last month. In contrast, the PMI reading for the EU remains at record high levels. The rise in infections and the number of people isolating has also been accompanied by a slowdown in retail sales, with the latest data from the Bank of England showing that spending on debit and credit cards remains around 5 per cent below pre-pandemic levels.