By Gary Mullins

Correspondent, Economics Undergraduate 

Worries over Italy’s 2019 budget heightened early in the week before subsequently receding. Chinese stocks rallied sharply and the latest round of corporate earnings provided encouragement. US stocks had a quiet week – at least relative to last week’s turmoil.

Italian government bonds staged a sizable turnaround following reports that EU officials had sought to reduce tension with Rome over the populist government’s contentious budget plans. The yield on Italy’s 10-year government bond — which touched 3.78 per cent, its highest level since 2014 — ended the week 8 basis points lower at 3.59 per cent. The proposed budget deficit of 2.4 per cent – a clear violation of EU rules –  has stoked tension between Rome and Brussels in recent weeks.  On Friday evening, the credit rating agency, Moody’s, lowered its rating of Italy’s sovereign debt to one level above junk investment. The rating agency cited the government’s spending plans as the trigger. Brussels’ more reconciliatory tone on Friday helped push down Italian yields. The rally for Italian debt prices helped other peripheral eurozone government bonds recoup early losses.

Data on Friday showed that the Chinese economy had grown 6.5 per cent in the third quarter – the slowest pace for almost a decade. Many see China’s economic outlook as challenging, particularly against the backdrop of bellicose trade rhetoric that has already weighed heavily on market sentiment. Chinese authorities have historically remained proactive in cushioning any economic slowdown; to the point where they have been accused of holding down the Chinese renminbi in order to run large trade surpluses. President Trump accosted China for being “the grand champion” of currency manipulators, however, such accusations are now largely out-dated and ill-founded. Publications from the US Treasury and the IMF (amongst others) have found that China has actually been propping up its currency for the last decade. According to one publication, South Korea, Taiwan and Switzerland are the biggest currency manipulators.

The markets were relatively accommodative to the unanimous decision by the Federal Reserve’s Open Market Committee to raise interest rates by 25 basis points, and a general agreement to press ahead with further increases above the neutral level. The dollar index was up 0.9 per cent following the release of minutes of the Fed’s meeting last month. There are now heightened expectations that the US central bank is on course to raise rates above its measure of neutral. The neutral rate of interest is a hypothetical construct that, when attained, an economy should neither overheat nor be constrained. A central bank can deviate from this neutral rate – reducing rates during contractions and, conversely, increasing rates during expansions.

Equities
Most of the major indices remained relatively calm following last week’s bout of extreme turbulence. The S&P 500 recorded a very marginal gain for the week. The Dow Jones Industrial Average edged up 0.2 per cent and the tech-heavy Nasdaq Composite fell 0.5 per cent. Elsewhere, the Europe wide Stoxx 600, Frankfurt’s Xetra Dax and London’s FTSE 100 all showed minor deviations from last week.

It’s reporting season for many of the heavyweight US corporations. The big winners this week were Procter & Gamble, Netflix, Goldman Sachs and Morgan Stanley. However, European car-making stocks struggled after figures indicated that sales across the regions fell substantially in September. Weakening Chinese demand for European cars has been sited as the reason for the broad underperformance.

Fixed Income
Italy’s 10-year yield jumped 12bp to close at 3.67 per cent, and climbed further in after-hours trade to levels not seen for four years. Germany’s 10-year Bund fell 4bp to 0.42 per cent. This suggests that risk averse investors are withdrawing from Italian markets, amid the ongoing tensions between Rome and Brussels, and instead opting for safer German bonds.

Despite the Federal Reserve’s signal that it will remain steadfast in its monetary tightening policy, the yield on 10-year US Treasuries remained relatively flat for the week at 3.16 per cent – some way off last week’s seven-year high of 3.261 per cent.

FOREX
China’s onshore renminbi touched a 21-month low on Thursday after China escaped being labelled a currency manipulator by the US, pushing the currency closer its lowest level in a decade.

Early in the week, the dollar index extended its rise to 95.58, pushing it back towards a seven-week high reached last week.

Commodities
Brent Crude began the week at $84.41 a barrel, before falling as low as $79.17. The price drop followed data released on Wednesday showing that US crude stockpiles had risen for a fourth successive week. An increase supply of oil puts downward pressure on prices.

First photo provided by tradingeconomics.com

References
FT Market Overview:
https://www.ft.com/content/64b0eab8-d33e-11e8-a9f2-7574db66bcd5
https://www.ft.com/content/4b991ac8-d27b-11e8-a9f2-7574db66bcd5
https://www.ft.com/content/2f20c3f6-d1a8-11e8-a9f2-7574db66bcd5
https://www.ft.com/content/27a77570-d0e5-11e8-a9f2-7574db66bcd5
https://www.ft.com/content/7a9b6738-d017-11e8-a9f2-7574db66bcd5
Italian Budget:
https://www.ft.com/content/9b324788-d4b2-11e8-ab8e-6be0dcf18713
Chinese Growth:
https://www.ft.com/content/0edd1e5c-d386-11e8-a9f2-7574db66bcd5
Currency Manipulation:
https://www.economist.com/finance-and-economics/2017/03/02/china-and-currency-manipulation
Corporate Earnings:
https://www.ft.com/content/146c1f12-d147-11e8-a9f2-7574db66bcd5