Market commentary

There is a certain opportunity cost attached to every decision we make – we sacrifice one thing in order to obtain another. This simple economic theory holds true in every aspect of our lives: when we choose to save rather than to spend; when we choose to go for a run rather than to sleep in; and even when countries devalue their currency in an effort to boost their economy. Everything has a price. 

 

RISING EURO STRENGTH CONCERNS ECB

As markets attempt to navigate the uncertain terrain we now find ourselves in, attention has remained particularly focused on the tone, policies and actions of central banks for guidance, with the European Central Bank (ECB) taking centre stage on Thursday. The ECB has ramped up stimulus in recent months in an effort to offset the economic impacts of the pandemic, but little attention has been paid to the rally in the euro, and the implications of this strengthening for the efforts of the ECB to reignite growth – until now.

The euro recently skyrocketed to two-year highs, and while a strong currency is often considered a good thing (just think of how optimistic South Africans get when the rand strengthens), it unfortunately also has its pitfalls.

To first put this strength in context, we must turn to the US, where the Federal Reserve Bank has pumped stimulus in excess of $1 trillion into the US economy to support its recovery. Stimulus, by way of quantitative easing, interest rate cuts, and other open market activities inevitably weakens the underlying currency – in this case the dollar. We can therefore conclude that the euro’s rally is rather a case of dollar weakness.

Next, to understand the dilemma posed by a strong euro, consider that the ECB has struggled to stimulate inflation since post the financial crisis, and the strong euro now poses a risk of even lower inflation. However, inflation is not the only concern. Europe is one of the most open economies in the world, and many companies in the EU are export dependant for trade. The stronger euro poses a threat to the competitiveness of European exports, raising concerns about the broader business activity of the eurozone and its economic growth prospects. While the correlation between the currency and ultimate economic growth is far more complex than the above synopsis, one can understand the angst of the ECB should the euro continue on its current path.

Markets thus waited with bated breath for ECB president Christine Lagarde to take the podium on Thursday. Even though many expected for the ECB to intervene, Lagarde made it clear that there is no currency target in place regardless of the recent dollar weakness, sending the euro to yet another one-week high. But, with price stability being the core mandate of the ECB, the ECB will intervene the moment negative price pressure becomes a reality.

In the US, on the other hand, a weak dollar has always been part of President Trump’s playbook. Trump was therefore seen placing pressure on the Fed to cut rates during the economic downturn in an effort to bolster growth and make the US more competitive – especially in light of the trade spat with China.

However, Trump’s policies have taken a backseat as his handling of the pandemic has drawn increasing criticism, with the US alone accounting for a fifth of global deaths. Trump has admitted that he downplayed the virus, and with elections around the corner, the question now remains: was he attempting to prevent panic and act in the interest of the economy by taking a looser approach? US voters will decide in November.

Moving to the UK, it’s clear that the grass is indeed not always greener on the other side. The UK economy continues to labour under the pressure of the COVID-19 pandemic and uncertainty surrounding Brexit, and it now faces the threat of a second wave of the virus. Prime Minister Boris Johnson has imposed new restrictions, in an effort to avoid another lockdown, as cases in the UK spiked for four consecutive days to over 2,000.

The PM is also fighting fires on another front, with Brexit negotiations seemingly falling apart. Johnson remains committed to leaving the EU without a deal should the EU be unwilling to budge on some of the UK’s demands. As a consequence, the pound reflected growing uncertainty this week, sliding against both the dollar and the euro.

The following data came into focus this week:

US:

  • PPI contracted by 0.2% year-on-year in August
  • Initial jobless claims remained steady at 884k

EU:

  • GDP contracted by 14.7% year-on-year for Q2
  • Interest rates remained on hold at 0%

CN:

  • Imports fell by 2.1% year-on-year in August, while exports gained 9.5%
  • PPI  declined by 2% year-on-year in August
  • CPI declined to 2.4% from 2.7% 

 

SA AWAITS EASING OF RESTICTIONS FOLLOWING POOR GDP STATS

The EFF was once again associated with acts of violence this week, as EFF supporters brought Clicks stores nationwide to a standstill. This was as a result of a racially offensive advert by haircare brand TRESemmé placed on the Clicks website. Since then, Clicks has dropped the product from its shelves, and TRESemmé manufacturer Unilever has reached an agreement with the EFF to withdraw the brand from stores for 10 days.

Meanwhile, the National State of Disaster was extended to 15 October on Thursday, as the country continues to slowly ease out of lockdown. President Ramaphosa further alluded to the potential easing of some of the current restrictions currently applicable in level two after communicating with the tourism sector and various religious groups.

With latest stats revealing that GDP contracted by 51% quarter-on-quarter in Q2, speculation is now rife on when the borders will be reopened for international travel in an effort to capture some of the upcoming December holiday tourism. The economic data released this week indicated a particularly significant decline in the secondary sector, which is concerned with production and manufacturing, while investment and household spending also declined by 50% and 60% respectively.

Gold and mining production data released on Thursday indicated a contraction of 10.2% and 9.1% year-on-year respectively for July 2020, while manufacturing production gained 7.6% month-on-month in July as a result of the easing of lockdown restrictions. 

 

LOOKING AHEAD

We continue to keep an eye on Brexit, the US presidential campaign, as well as the tension between the US and China. From a local currency perspective, we continue to trade within a broad range of R16.50-R17.00 with a sense of ‘wait-and-see’ permeating the atmosphere leading up to three key events in the week ahead. These events are the Fed’s interest rate decision and economic forecast, followed by the BOE and SARB’s respective interest rate decisions.

The following data and events are due for release in the week ahead:

Monday:

  • Eurogroup meetings

Tuesday:

  • CN retail sales, industrial production, and unemployment
  • UK unemployment
  • US manufacturing and industrial production

Wednesday

  • UK PPI and CPI
  • Local retail sales
  • US retail sales
  • Federal Reserve interest rate decision

Thursday:

  • EU CPI 
  • BOE interest rate decision
  • US jobless claims
  • Local interest rate decision

Friday

  • UK retail sales

The rand began the day trading at R16.86/$, R18.96/€ and R21.61/£.

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