Global equity markets endured a volatile week as the British referendum on whether to remain or exit the European Union dominated investor’s minds. A rally across risk assets on Friday provided a small amount of relief, but overall the major equity indices were sharply lower for the week.
Core government bond yields continued to confound, with the 10-Year German Government bond yield moving into negative territory for the first time ever. UK government bond yields fell sharply on BREXIT fears.
The US Federal Reserve did their best to support markets, holding fire on an interest rate hike and conveying a reasonably dovish message, noting that “recent economic indicators have been mixed, suggesting that our cautious approach to adjusting monetary policy remains appropriate”.
In Europe, the FTSE Eurofirst 300 closed down -2.19% for the week. The German DAX index fell -2.07% while the French CAC 40 was down -2.62%.
The S&P 500 index ended the week down -1.19%, while the tech-heavy NASDAQ Composite fell -1.92%. The much quoted CBOE Volatility Index (VIX), the so-called ‘fear index’, a key measure of market expectations of near-term volatility conveyed by S&P 500 stock index option prices, jumped +13.98%.
In Asia, the Nikkei 225, the worst performing major index, fell -5.16%, driven by Bank of Japan’s decision to keep monetary policy unchanged and the continuing surge in the Japanese Yen. The Euro and the US Dollar were down -2.87% and -2.45% against the Yen, respectively, last week.
Government bonds were in demand last week as markets moved to risk-off mode. With yields moving inversely to prices the UK 10-year treasury yield fell 9bps to 1.14%, now down 82bps YTD. The German 10-year bond yield was unchanged at 0.02%, despite falling below zero for the first time ever during the week.
Seven years on since the market lows of the last crisis, it is becoming evident that Western Central Banks are struggling to avoid a similar fate to Japan. For years now the question has been asked “Is Europe turning Japanese?” Looking at government bond yields in Europe, it is fair to say on this level we now closely resemble our Japanese friends.
Brexit fears also weighed heavily on oil prices last week also. The price of Brent crude oil dropped -5.07% to $48.47. As well, there was a lower than expected drawdown in U.S crude inventories despite being in peak demand season.
Gold prices benefited from the risk-off sentiment in financial markets. The price per troy ounce rising +1.06% $1,287.05. The precious metal is one of the best performing assets this year, up +21.15% YTD, amidst the increasing uncertainty around the outlook for the global economy and monetary policy.
Risk assets surged yesterday as market participants jumped on the ‘Remain’ bandwagon. All of the losses suffered by the major European Equity indices the previous week were recouped, a reminder of the sometimes nonsensical erratic nature of financial markets.
On the macro front this week, durable goods orders in the US will be closely watched. The flash PMI data from Europe and the US will provide a useful leading indication of the momentum behind the recovery. The German IFO Business Climate Index for May will be released on Friday, with investors looking for signs that the Germany economy remains on the right trajectory.
As ever, the dominant force in markets remains the world’s major central banks and this week the pivotal players are on the speech circuit. Later today, we will hear from Mario Draghi. US Federal Reserve Chair Yellen will present the Fed’s semi-annual monetary policy report to the US Congress over the next two days.
This is the main event of the week. The polls are suggesting the contest is a close one but the bookies are in no doubt that Britons will vote to remain in the European Union. Overall, I think the referendum campaign has highlighted the worst of politics, with both sides using subjective economic estimates to spread fear. It is hard for people to know what to believe.
My position has not changed from what I wrote in my April blog on this subject, BREXIT – “Staying friends” after a breakup. “I believe the fear of the unknown will dominate voters’ minds and Britain will remain. What Britons have under the current system will outweigh the uncertainty and inability to quantify the economic and social consequences that comes with a free and independent Britain.”