Weekly Financial Review #22

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Hard Politicking

Some of the political machinations that swayed markets recently came to a head last week, led by US midterm elections.

 

Recap

  • Last month, Italy’s high spending plans sent investors running for cover. > Read our story

  • In October, the UK presented its budget but Brexit could still throw a spanner in the works. > Read our story

  • Stress tests of European banks showed UK banks looking shaky in the face of Brexit. > Read our story

  • Last week, US midterm elections boosted stocks but sunk the dollar. > Read our story

 

Connecting The Dots

Seats in one branch of the US government were up for grabs. Congress, which is responsible for making laws, is comprised of the Senate and the House of Representatives. The Democratic Party wrested control of the House from the Republican Party, while the Republicans increased their majority in the Senate. Previously, both were Republican-held – so lawmaking’s likely to become a slower, more arduous process for the US government.

The UK’s exit from the European Union (EU) isn’t sorted yet, with negotiations still ongoing. Last month, the Bank of England (BoE) said Brexit could mean all bets are off. Depending on the eventual terms of a deal (or no deal at all), the BoE’s hard-pressed to say what will happen to the value of the country’s currency or whether demand for its products and services will fall.

After weeks of debate, the EU released a report laying out exactly why it’s not buying into Italy’s optimism regarding its high spending plans. While Italy believes more spending would help its economy to grow 1.5% next year, the EU thinks it’ll only manage 1.2% growth. If the EU’s right, Italy’s debt will rise, not fall – breaching EU rules designed to stop countries falling into a black hole of debt. There’ll be more politicking ahead…

 

Takeaways

  1. Investors voted some stocks up and the dollar down.

    Investors in pharma companies cheered the US midterm election results as those companies’ stocks rose. Democrats and Republicans notoriously can’t agree on anything – so they probably won’t meet in the middle on the president’s proposed caps on the prices of prescription drugs. They’re also unlikely to come together to approve further tax cuts or higher spending plans – both of which would boost economic growth, albeit temporarily. The dollar’s value dropped as a result but it wasn’t all bad news: it made the emerging markets’ US dollar debt a little cheaper.

  2. Italy might be in a lose-lose-lose situation.

    Investors sold off Italian government bonds last week, perhaps worried that the country might press ahead with its spending plans, increasing the risk it won’t be able to pay the money back. The alternative – bowing to political pressure to curb its spending – would result in lower growth, which investors wouldn’t want to see either. And rising interest rates pose yet another risk: the European Central Bank plans to increase eurozone interest rates in 2019. So as Italy’s government issues new bonds to replace existing ones when their repayment is due, it’ll likely face higher interest payments – which will divert money from other spending and make reducing its total debt even tougher.

 

Also On Our Radar

US-based Yelp – the online reviews site – offered up a disappointing update last week. Investors gave its stock one star as its shares fell 30%. The company’s changing how it sells ads (from long-term contracts to more flexible ones), which it hopes will attract more customers – but that didn’t happen last quarter. Google’s doing battle with Amazon, and Facebook’s doing battle for ad dollars with... well everyone. So smaller ad-based businesses may be caught in the fallout.

 

Reading For The Weekend

  1. Use this interactive guide by the BBC to navigate the US government’s structure: Read more
  2. Deloitte digs into the economic implications of the US midterm elections: Read more

  3. Should the European Union be thinking about debt differently? Reuters discusses: Read more

 

 

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