New investment year starts briskly – downward interest rate trend ends in euro zone

Global economic growth forecasts are being raised as we speak. The currently synchronised global GDP growth is expected to rise to +3.7%, which is the best rate in years. The economic growth envi-ronment is strong and interest rates have begun to rise also in Europe, where a rise in inflation linked to growth is being factored in. Companies’ earnings perfor-mance appears to be strong and the US tax reform is reinforcing it even more. January’s stock price surge (MSCI World +4.1%) was the strongest start to the year in living memory. Our allocation products are still positioned in neutral in terms of equity weight (read more in our Allocation insight).

Interest rates took off immediately at the start of the year. The interest rate of Germany’s 10-year Bund rose from +0.44% at the start of the year to +0.68%, which is still a very low level. In January, in the euro zone, the gov-ernment bond index resulted in a loss of –0.4% for investors and the fixed interest rate risk corporate bond index in a loss of –0.7%. This clearly shows the short-term impact of interest rate risk when credit risk premiums them-selves are so low that they cannot compensate for the negative market impacts arising from growing interest rates in corporate bonds with higher credit ratings. The euro zone’s GDP grew +0.6% in Q4, summing up the growth for 2017 at a good +2.4% lev-el. Inflation has not yet begun to rise significantly, but due to a low underly-ing effect, this summer may show clear, headline-worthy inflation figures of more than 2%. The ECB will thus have to justify later this year why the key interest rate is still so clearly be-low zero, when, at the same time, the downward trend in long-term rates has ended in the euro zone.

The year began at a historically strong level on the equity markets. The United States’ S&P 500 index rose by +5,7% in dollars in January and the European Stoxx 600 index +1.6%. The earnings season thus took off with a good market momen-tum and the first glimpses of earnings have been strong. When approximately half of S&P 500 companies have reported their earnings for last year, US earnings growth will have risen to as high as 15%, which is clearly stronger than expected (+11.5%).

This year’s earnings growth forecasts were quickly revised up-wards in the US, to +15.7%. During January, driven by the US, earnings growth forecasts were also raised globally, by more than 2 percentage points, with the earnings season look-ing successful elsewhere as well. Still, at the start of February, the equi-ty markets showed some decline, fol-lowing an upward trend in January. This is natural considering the strength of the upward trend.

Juhani Lehtonen, Head of Fixed Income & Market Strategy Investment Solutions

Market Outlook of August (PDF)