Bond and equities rally on the outlook for interest rates
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Global equities stormed into the New Year, following the reversal seen in 2018, with all regions and most major markets recording robust gains. Unusually, given that equities and bonds seldom move in tandem, global bond markets also had a good month. The Federal Reserve's decision to keep interest rates on hold in January supported sentiment towards financial assets. Slowing economic growth around the world also suggests monetary policy may not tighten as much as had been feared during the remainder of this year.
Strong earnings bolstered sentiment towards equities, despite growing signs that the global economy is slowing. Positive comments by US secretary Wilbur Ross on the prospects of China and the US resolving their differences allayed concerns about the possible impact of a trade dispute between the world’s largest two economies.
The MSCI World Index of global equities returned 7.27 per cent in local currency terms, which equated to a 4.38 per cent return in sterling. By contrast, the index lost 7.34 per cent in local currencies in 2018, and 3.02 per cent in sterling terms. All of the major regions gained ground in January, with the US among the best performers.
The S&P 500 Index returned 8.01 per cent in US dollar terms. Better-than-expected corporate earnings and dovish comments by the Federal Reserve on the outlook for interest rates supported US equities, which enjoyed their best month in three years. Technology stocks, such as Facebook and Apple, which had endured a torrid final quarter in 2018, were among the best performers.
Emerging markets were the other outstanding performer, with the MSCI Emerging Markets Index gaining 7.17 per cent in local terms and rebounding from a 9.69 per cent decline in
2018. The asset class benefited from the more dovish outlook for US interest rates, which could curb upward pressure on the dollar. That, in turn, would relieve some of the strain on emerging economies that must pay higher prices on imports priced in dollars when the greenback is strong.
China was the world’s worst-performing market of 2018, reflecting trade tensions with the US and domestic economic concerns, but rallied in January. This was despite the publication of data showing the economy grew by 6.6 per cent in 2018, its slowest pace since 1990. India was one of the few global markets to suffer negative returns, reflecting concern over the earnings outlook, a deteriorating economic backdrop and the political outlook.
European equities rode the global rally, with the MSCI Europe index rising by 5.63 per cent over the month despite data showing economic activity in the euro zone remains subdued. Growth in the euro area remained at 0.2 per cent in the final quarter of 2018, the same as the previous quarter, with Italy falling into recession.
Bond markets, both sovereign and corporate, also delivered positive returns, taking heart from the prospect that interest rates may not rise as high or as quickly as had been expected. In particular, emerging market bonds rallied strongly. The yield on 10-year US treasury bonds ended the month at 2.63 per cent, having finished 2018 at a 10-month low of 2.68 per cent.