Investment Viewpoint: Earnings strength power markets higher

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Markets and macro insights with Bernard Swords, Chief Investment Officer

Key takeaways:

1. Bond and equity markets delivered gains last week, supported by strong earnings, encouraging economic data and stable interest rate expectations.
2. Euro-denominated bonds returned approximately 0.5%, with markets continuing to monitor developments in the Middle East.
3. Equities rose more than 2% in euro terms as company earnings in both the US and Europe exceeded expectations.
4. US economic data remained broadly supportive, while weaker employment figures reduced the likelihood that the US Federal Reserve would need to raise interest rates further.
5. We remain overweight equities, supported by strong corporate earnings, resilient consumer spending and healthy business investment.

Financial markets made a positive start to August – what drove this?

• Both bond and equity markets delivered gains last week. Investor sentiment was supported by another strong earnings season, encouraging economic data and growing expectations that interest rates may remain stable. Geopolitical developments in the Middle East continued to influence markets, but investors remained optimistic that a resolution can eventually be achieved.
• Bond markets performed well last week, with euro-denominated bonds returning approximately 0.5%. Market developments continued to be influenced by the situation in the Middle East, where fluctuating hopes of a ceasefire or broader settlement contributed to volatility in oil prices. Although progress has been slower than expected, our view remains that a settlement is likely over time, which would be supportive for bond markets.
• Equity markets also enjoyed a strong week, rising by more than 2% in euro terms. A key driver was another impressive corporate earnings season. In the US, company profits are currently running around 25% higher than a year ago, significantly above expectations. European companies have also delivered strong results, with earnings growth of approximately 17% year-on-year, again ahead of forecasts. These results demonstrate that many companies continue to grow despite a backdrop of higher interest rates and geopolitical uncertainty.
• The strong earnings season has also renewed enthusiasm for the artificial intelligence theme. Technology companies and industrial firms that benefit from investment in AI infrastructure were among the strongest performers during the week. After a period of consolidation earlier in the summer, investors have once again focused on the long-term growth opportunities created by advances in artificial intelligence and digital infrastructure.

What key economic indicators were released last week?

• In the US, Services and Manufacturing ISM surveys surprised positively, with readings of around 55. A reading above 50 indicates that the economy is expanding, and these figures suggest that both manufacturing businesses and service companies remain confident about future activity. The data supports the view that the US economy continues to grow at a healthy pace.
• However, the most closely watched release of the week was the US employment report. Non-farm payrolls showed a decline of more than 20,000 jobs during July, while employment figures from previous months were also revised lower. On the surface, this suggested some weakness in the labour market.
• Despite this, markets reacted positively to the report. Investors interpreted the weaker employment data as reducing the likelihood that the US Federal Reserve would need to raise interest rates further. Expectations for future interest rate increases declined, and both bond and equity markets benefited. The US dollar also weakened modestly as markets priced in a more accommodative interest rate outlook.
• Importantly, the employment figures appear at odds with many other economic indicators. Consumer spending remains robust, and corporate investment continues to accelerate. Given these conflicting signals, we believe it is too early to conclude that the US economy is weakening significantly. Labour market data can be volatile and has been revised substantially in the past. We will therefore look closely at future releases before drawing firmer conclusions.

What does this mean for our positioning?

• We continue to maintain an overweight position in equities. Strong corporate earnings, resilient consumer spending and healthy levels of business investment continue to support our positive outlook for global equity markets.

The week ahead: what to watch out for

This week will be mainly about inflation with both Consumer Price and Producer Price data being released. In the US we will also get the latest news on Retail Sales, another gauge of the strength of the economy.