Market Analysis

MARKETS & ECONOMY | 18/12/2020


Small caps outperform as investors await stimulus resolution

The major benchmarks ended mixed as investors absorbed conflicting signals about fiscal stimulus and progress in fighting the coronavirus. The technology-heavy Nasdaq Composite Index and the smaller-cap benchmarks reached new intraday highs, while the large-cap benchmarks lagged. Technology stocks outperformed within the S&P 500 Index, helped by further gains in Apple, while communication services, consumer discretionary, and energy shares lagged. Markets closed early Thursday and were shuttered on Friday in observance of the Christmas holiday. 

News of a new and apparently more transmissible coronavirus strain in the UK (see below) started the trading week off on a decidedly down note, with stock futures lower by over 3% on Monday morning. The market shrugged off its losses as trading began, however, with investors seemingly calmed by reassurances from U.S. health officials that the new strain did not appear more deadly and would likely be treatable by the vaccines. Indeed, signs that the latest wave of the pandemic might be peaking in much of the country, along with news that the U.S. government had contracted for another 100 million doses of the Pfizer-BioNTech vaccine, seemed to bolster sentiment as the week progressed. Distribution of the first doses of the Moderna vaccine also began on Monday. 

Last-minute complications in stimulus deal

The passage of new stimulus legislation also supported sentiment. On Monday evening, both the House and the Senate passed a compromise USD 900 billion coronavirus relief package by wide margins, alongside an omnibus spending bill to fund the government through next September. Together with support for small businesses and extended unemployment benefits, the bill included USD 600 direct payments to individuals, half the amount provided in the first relief package last spring. 

On Tuesday evening, President Donald Trump surprised many by echoing complaints from Democrats that the amount was too small, proposing instead direct payments of USD 2,000. On Thursday, House Republicans blocked efforts to increase the level of payments through an unanimous consent motion. Investors took the last-minute complication in stride, appearing to conclude that the president would sign the bill regardless—particularly since current extended unemployment assistance was set to expire on December 26. On Wednesday, the president also carried through on a threat to veto a USD 741 billion military spending bill that did not include new regulations for social media companies, but many expected that the veto would be overridden. 

Household spending falls for first time since April

Waning levels of government assistance appeared partly responsible for a 1.1% decline in household incomes in November, reported on Wednesday by the Commerce Department. Household spending also dropped by 0.4%, the first decline since April. Relatedly, the Conference Board reported that its measure of consumer confidence fell to a four-month low, while weekly jobless claims declined more than expected but remained elevated at 805,000. The robust housing sector showed continued signs of cooling, with existing home sales falling more than expected (2.5%) in November. Durable goods orders increased by 0.9% in November, above consensus, but core capital goods orders—excluding aircraft and defense orders—missed expectations and rose only 0.4%. Previous months’ gains were revised higher, however. 

The yield on the benchmark 10-year Treasury note fell slightly for the week as investors weighed the mixed economic data, news on the coronavirus, and reports that a Brexit trade agreement was in sight. Amid limited deal activity and light trading volume, municipal bonds posted modest gains through midweek. T. Rowe Price traders noted that market conditions remain firm, aided by positive cash flows. 

Investment-grade corporate bond spreads—the extra yield offered over Treasuries and an inverse measure of the sector’s relative appeal—widened on Monday as headlines regarding a new variant of the coronavirus weakened sentiment. Despite subdued overnight demand and decreasing trading volumes, spreads tightened as the week progressed, led inward by healthy levels of buying across all maturities. As expected, there were no new deals during the week. Meanwhile, the high yield market saw light trade volumes, and credit spreads moved marginally wider as several merger and acquisition transactions were announced.


Shares in Europe were roughly flat for the week ended Thursday, as hopes for a UK-European Union (EU) trade deal helped reverse sharp losses caused by the emergence of a new variant of the coronavirus. 

UK and EU agree on post-Brexit trade deal

The UK and the EU finally agreed on a post-Brexit trade deal, with the announcement coming after UK markets closed. The accord still must be approved by all EU member states. The agreement’s terms would represent a significant change in the relationship with the UK’s major trading partner and, some say, amounts to a “hard” Brexit in all but name. The Office for Budget Responsibility has forecast that Brexit will cost the UK 4% of its gross domestic product (GDP) over 15 years. 

Surge in coronavirus infections prompt tighter restrictions; EU approves vaccine

UK Prime Minister Boris Johnson imposed the toughest level of restrictions on London and then on southeastern and parts of eastern England to prevent a surge in coronavirus cases stemming, in part, from the emergence of a mutated strain that appears to be highly infectious. News of the variant ground movement to a halt between the port of Dover and France, which temporarily closed its border with the UK. Other nations also banned travel from the UK. High infection rates prompted other European countries—including Germany, France, Italy, Greece, and Belgium—to introduce severe restrictions to minimize personal contact and mobility during the end-of-year celebrations. 

The EU approved the Pfizer-BioNTech vaccine for COVID-19, the disease caused by the coronavirus. The companies said they would supply 12.5 million doses to the EU by the end of the year, Reuters reported. The EU Commission also doubled its orders for Moderna’s vaccine to 160 million doses, with delivery expected to start in early 2021. 

Efforts to control spread of coronavirus expected to weigh on economic activity

The UK’s official statistics agency’s revised estimate of third-quarter GDP showed the economy shrinking 8.6% from year-ago levels—an improvement from the earlier estimate of a 9.7% contraction. However, economists expect the recession to deepen due to the renewed lockdowns implemented in the fourth quarter. 

In Germany, business confidence rose unexpectedly in December, according to the Ifo Institute, although economists warned not to read too much into the uptick because an extension of lockdown restrictions beyond the January 10 deadline could cause a further economic contraction in the first three months of 2021. 


Japanese stocks declined for the week through Thursday. The Nikkei 225 Stock Average fell 0.4% (95 points) and closed at 26,668.35. For the year-to-date period, the benchmark is ahead 12.7%. The large-cap TOPIX Index and the TOPIX Small Index, broader measures of Japanese stock market performance, also recorded modest losses. The yen was little changed versus the U.S. dollar and traded in a narrow range between JPY 103 and JPY 104 on Thursday. 

Yen strengthening could prompt dollar buying

The yen has strengthened versus the U.S. dollar since March. According to The Nikkei, shortly after Joe Biden was elected president, Prime Minister Yoshihide Suga told the Finance Ministry that he does not want the yen to appreciate beyond 100 per U.S. dollar—implying that the Ministry should intervene if necessary to weaken the yen and support Japanese exporters. Prior Democratic administrations have voiced concern about the exchange rate. Japan has not intervened in the currency market since 2011, thanks in part to bond-buying programs and easing measures, which have boosted corporate profits. 

BoJ leaves rates unchanged at the December meeting

As expected, the Bank of Japan (BoJ) made no changes to its monetary policy stance at the December meeting. However, it did extend the corporate finance support measures through to September 2021 and announced a review of its monetary policy with the results expected in March 2021. The BoJ’s communication indicates that it will not change the current policy framework, including the policy rate and yield curve control, and, therefore, the focus is likely to be on the sustainability of monetary policy. 

Although the details remain unclear, Aadish Kumar, a T. Rowe Price international economist, thinks that there may be a shift toward more flexibility in the bank’s purchasing of exchange-traded funds (ETFs) and real estate investment trusts given the BoJ’s already substantial holdings in these markets. The BoJ is currently committed to increasing its ETF holdings at an annual pace with an upper limit of JPY 12 trillion but is on track to add JPY 7 trillion this year. 

Coronavirus vaccinations to commence in February

The Ministry of Health, Labor and Welfare intends to implement a three-tier coronavirus vaccine plan in February, which will prioritize health care workers, the elderly, and people afflicted with diseases. Of these three categories, medical staff, totalling approximately 4 million, will receive the highest priority. The next tier, the elderly (65 years and older), totalling about 36 million, will be given the second-highest priority.


Chinese Stocks Drop on Renewed U.S. Tensions

China’s benchmark stock index fell for the week ended Thursday as a flareup in Sino-U.S. tensions weighed on sentiment. The Shanghai Stock Exchange (SSE) Composite Index shed 1.0% over the four days ended Thursday, while the large-cap CSI 300 Index was nearly flat. On Monday, the Trump administration published a list of Chinese and Russian companies that it alleged had ties to their countries’ militaries. The list of 58 Chinese and 45 Russian companies requires a license for anyone seeking to sell them items that could be used for military purposes, according to a Commerce Department statement. The SSE Index recorded its biggest one-day percentage drop since September after the list was published, which marked the latest instance of U.S. actions targeting Chinese companies as President Trump prepares to leave office.

Beijing Targets Alibaba in Monopoly Probe

In corporate news, Alibaba Group made headlines after China’s top antitrust regulator announced Thursday that it started an investigation into the e-commerce giant. Separately, Chinese regulators said that they have summoned Ant Group, the world’s largest financial technology company and Alibaba affiliate, to a high-level meeting regarding financial regulations. The coordinated actions show that Beijing is ramping up efforts to rein in the domestic tech companies that it sees as a threat to political and economic stability as the companies have grown larger and more powerful in just a few years. 


Turkey’s central bank hikes rates more than expected

The central bank of Turkey surprised investors by raising its benchmark interest rates by 200 basis points at its monetary policy meeting on Thursday (a basis point is 0.01 percentage points). Consensus expectations had been for a 150 basis point hike, so the larger move may be a signal that the central bank plans to aggressively combat inflation under its new governor. Recep Tayyip Erdogan, Turkey’s president, replaced the central bank chief in November. Turkish government debt had declined before the policy meeting in anticipation of the rate increase. Turkish stocks moved higher on the rate hike news, and the Turkish lira strengthened more than 1% against the U.S. dollar. The lira has been one of the worst-performing currencies versus the dollar in 2020. 

Oil decline weighs on Russian assets

Russian stocks declined early in the week amid worsening sentiment toward riskier asset classes and on news that the U.S. Department of Commerce would move to block trade in goods and services with Russian companies that have links to the Russian military. The steep decline in oil prices on worries about weakening demand as the pandemic worsens also weighed on Russian stocks and the ruble. Russia is a major oil producer. Russian assets recovered to some degree later in the week as oil prices stabilized.