Investors applaud the Fed’s dovish taper, oil prices dip on stories OPEC supply could increase in 2022 and why restructuring the forestry licencing regime is an obvious place to start if the government wants to address the climate crisis. All these stories and more are covered in this week’s insights update from BlackBee.
The monetary policy meetings at the US Federal Reserve and Bank of England were the main events in last week’s economic calendar. As expected US Fed Chair Jay Powell announced that the US central bank would begin to unwind its bond purchase programme and based on the pace of the taper, it is set to be complete by the middle of 2022. We think this makes sense as the progress of the US economy, while checked of late by another rise in COVID cases and supply chain issues, does not suggest emergency monetary policies are required anymore. October’s employment report, which showed the economy adding 531,000 jobs in the month was further evidence of this.
Investors’ attention will now turn to how quickly the Federal Reserve will begin to increase interest rates. Our chart of the week this week shows that expectations for rate hikes have risen over the past couple of months. Generally a fairly slow pace of hikes is anticipated however (one to two 0.25% increases in 2022 and two to three 0.25% increases in 2023) – in our view this scenario is justified given some of the short term headwinds still faced by the economy. The big swing factor will be how inflation behaves in 2022 and beyond. The transitory narrative around inflation is weakening somewhat and we think inflation rates could remain stubbornly high into next year. With this there is a risk that we see a slightly quicker trajectory for US rate hikes than is currently expected by investors.
As regards interest rate changes more broadly in the major developed economies, we believe the Fed is very likely to be the front runner. In the past couple of cycles interest rate increases in the UK and Euro zone have lagged US ones and we believe we’ll see a similar outcome this time around also. Interestingly sterling dropped sharply last week following the Bank of England’s decision not to increase interest rates, indicating that monetary policies could very much drive currencies in the next couple of years. Rising currencies are something central banks would probably rather avoid, particularly in the Euro zone given its heavy orientation towards exports. In this context, we weren’t surprised to see ECB President Lagarde comment that rate hikes weren’t likely in 2022. Even if inflation still stays stubbornly high, we think rate hikes in the Euro zone are very unlikely given how unbalanced the recovery has been thus far.
Equities continued to rally last week with many indices reaching fresh records thanks to some familiar themes. Q3 earnings reports remained strong – at this stage 89% of S&P 500 companies have reported Q3 results with 75% of them outperforming earnings forecasts, a factor which has helped US Q3 earnings rise by nearly 40% compared to Q3 2020. As we noted above the ‘dovish taper’ announced by Fed Chair Jay Powell also soothed both bonds and equities, allowing both to make further progress. Finally, the positive October employment report in the US boosted investor sentiment that the US economic recovery was still very much in train.
Government bonds rallied last week mainly thanks to the bond friendly monetary policy announcements from the US Federal Reserve and Bank of England. In the US yields rose towards the beginning of the week reaching 1.6% on Wednesday but fell on Thursday following the Fed’s announcement that they would leave interest rates unchanged to bolster the economic recovery. In the UK yields rose throughout the week in anticipation of the Bank of England announcement, however, to many peoples’ surprise they chose to leave rates unchanged which saw yields fall by 0.13% on Thursday. Corporate Bonds also performed well following the lead from equity markets, reassured by the central banks’ announcements that debt costs would remain cheap.
Commodities gave back some of their recent gains last week. Oil prices fell below $80 a barrel to a four-week low amid reports that Saudi Arabia may increase output in the coming weeks together with stronger than expected inventory data in the US. Gold prices moved up and down over the course of the week before settling slightly higher as the fall in bond yields helped their progress. Copper prices meanwhile were fairly flat following comments from the CRU group that it was forecasting a global surplus of the metal in 2022 despite large volumes of copper currently sitting in ports due to supply-chain bottlenecks.
Commercial Real Estate – Frank-Knight Q3 report points to a strengthening office outlook
The publication of Frank-Knight’s Q3 report last week provided further validation that the outlook for the commercial real estate sector is improving, particularly for the office sector. Transactions measured by square footage hit 436,000 square feet in Q3, more than double the entire amount in the first half of 2020 alone. In addition vacancy rates also fell from 10.6% to 10.5%, the first contraction seen since the onset of the pandemic, and as a phased return to the office continues this is expected to put upward pressures on rents as the market recovers further in 2022. All in all, a brightening outlook for the office market.
Hospitality – Ireland puts its best foot forward for 2022 at world’s largest travel fair
Last week the World Travel Market (WTM) (the world’s largest travel fair) took place in London with 77 tourism companies from Ireland engaging with international tour operators to negotiate and secure vital contracts for 2022. This year the tourism minister Catherine Martin and Tourism Ireland launched their “Press the Green Button” campaign to re-start tourism and encourage overseas visitors to book Ireland for their next break or holiday. The €15.5m campaign will reach over 150 million people this year, 46 million of them being from the UK, highlighting the importance of our nearest neighbour. Other markets the campaign is targeting include the US, Canada and the largest European markets. Initiatives like this are vital to promote the recovery in tourist numbers into Ireland over the next couple of years, a crucial factor for the hotel sector here.
Forestry – SEEFA protests the forestry licencing crisis
Last week the Social, Economic and Environmental Forestry Association (SEEFA) staged a protest outside the Dáil at delays in the processing of forestry licences for planting and felling. The impact of licencing delays can be seen clearly in the widening gap between planting activity and the government’s planting targets. Licencing delays have meant that the industry will only plant 4,500 hectares this year (following on from only 2,300 hectares in 2020) compared to a government target of 8,000 hectares. Delays in issuing felling licences have also reduced the availability of timber at a crucial juncture for house building in Ireland. In the week where the government made significant commitments at the COP 26 summit, an effective restructure of the licencing regime seems an obvious place to start if the government really wants to address the climate crisis!