Macrocast

Stubborn Second Wave

Key points

  • The Brexit noises are deafening but the key news flow remains the pandemic.
  • The current wave is relentless in the US.
  • Most of Europe is past the peak, but restrictive measures in Germany and France are toughened or prolonged. More policy support is needed, and recently the Euro area has been making progress, finally clearing the Recovery and Resilience Fund and getting a more than decent additional package from the ECB.

The news flow continues to be dominated by the post-Brexit talks. Even in the face of amped up rhetoric we continue to think a deal is the most plausible outcome, focusing as always on what we think should be the rational calculation by the British Prime Minister in the political realm: in case of “no deal” he would trade a few months of popularity with the most extreme members of his parliamentary group against a mountain of hurdles to electoral victory in four years.

Still, even in Europe the fate of the post-Brexit negotiations will only have a marginal impact on the economic trajectory for 2021 when compared to the pandemic. In the US the current wave remains relentless, making it more likely that the bulk of the impact may be seen in Q1 2021. This makes the continuation of fiscal support necessary to avoid more significant economic scarring before collective immunity is reached. The news flow on this remains inconclusive, even if we still think a compromise will be found between the two main parties. Meanwhile, Europe has cleared a major institutional hurdle on fiscal policy thanks to the deal on “rule of law” implementation struck with Hungary and Poland. The second wave’s damage continues to be concerning though. Most European countries seem to be past peak now, but it is taking more time than during the first wave to normalize sanitary conditions. Germany is about to implement a stricter lockdown from Wednesday onward. The economic impact – already significant in Q4 – is already spilling over Q1 2021.

In these conditions, the ECB had to offer more protection and we think the package announced last week will buy a lot of “peace and quiet” next year on the bond market. Market expectations had gone too far in the days ahead of the Governing Council meeting, but the central bank is still doing the maximum it can within its own constraints. The real question now is on the quantum of monetary support on offer once PEPP stops in March 2022 (at the earliest). Given the ECB’s inflation forecasts, which remain significantly below its target at the end of 2023, the logical conclusion is that the “ordinary” quantitative easing programme will be stepped up. This will be the toughest test on Christine Lagarde in our view. Of course, this sequencing would be jeopardized if inflation surprises on the upside. We take a hard look at this. While fading exogenous shocks should mechanically lift headline inflation next year, we expect little will come from the endogenous sources of price pressure – in particular the state of the labour market.

This communication is intended for professional adviser use only and should not be relied upon by retail clients. Circulation must be restricted accordingly.

Issued by AXA Investment Managers UK Limited which is authorised and regulated by the Financial Conduct Authority. Registered in England and Wales No: 01431068 Registered Office is 7 Newgate Street, London, EC1A 7NX. A member of the Investment Management Association. Telephone calls may be recorded or monitored for quality.

Information relating to investments may have been based on research and analysis undertaken or procured by AXA Investment Managers UK Limited for its own purposes and may have been made available to other members of the AXA Investment Managers Group who in turn may have acted upon it. This material should not be regarded as an offer, solicitation, invitation or recommendation to subscribe for any AXA investment service or product and is provided to you for information purposes only. The views expressed do not constitute investment advice and do not necessarily represent the views of any company within the AXA Investment Managers Group and may be subject to change without notice. No representation or warranty (including liability towards third parties), express or implied, is made as to the accuracy, reliability or completeness of the information contained herein.

Past performance is not a guide to future performance. The value of investments and the income from them can fluctuate and investors may not get back the amount originally invested. Changes in exchange rates will affect the value of investments made overseas. Investments in newer markets and smaller companies offer the possibility of higher returns but may also involve a higher degree of risk.