The four numbers that matter to financial markets

Oilworker in Iran © Getty
Iran: a reluctant swing producer

Four prices matter more than any others to financial markets, reckon researchers Gavekal. What are they?

What if you could boil down the apparently endless complexity of financial markets to just a few key numbers to watch? Louis-Vincent Gave of research group Gavekal reckons you can. “Four prices matter more than all others, and together these determine the level of global economic activity and of investors’ risk appetite.” So what are they, and what are they telling us about markets right now?

The US dollar

The US dollar is the world’s reserve currency. Most commodities are priced in dollars, and dollars are involved in the vast majority of global currency transactions.

In short, everyone needs dollars – and so the strength or weakness of the dollar index (which measures the dollar’s value against the currencies of America’s key trading partners) has a big effect on economies everywhere. Last year, a strong dollar was a major contributor to a slide in emerging market stocks  and currencies, as investors worried that some emerging countries would be unable to repay their debts. But with Federal Reserve boss Jerome Powell now sounding a lot less likely to raise rates this year, the dollar looks likely to weaken, at least marginally, this year.

The ten-year US Treasury yield

In the long run, the outlook for US government debt is not promising as demand drops even as supply – driven by the huge deficit – grows. For now, fears about slowing growth and weak inflation should keep yields under control (see page 32), but later this year, don’t be surprised to see them edge higher (bond yields rise as prices fall).

US corporate spreads

The gap (“spread”) between the yield on corporate debt and that on government debt. When it expands, it shows investors are growing more concerned about the risk of default (and it also makes it more expensive for indebted companies to “roll over” existing debt into future loans).

The oil price

Gave believes the oil price is likely to range between $50 and $80 a barrel. Why? Because the US “has turned Iran into the world’s swing producer”. At $50, US shale firms start to hurt, and so the US imposes sanctions on Iran to cut off supply. At $80, US consumers start to hurt, so the US “stops squeezing Tehran” and allows it to export more. It’s a “bum deal for Iran. But who said life is fair?”.

So what does it all add up to? Gave reckons that a weaker dollar, low-ish oil price, and low-ish yields mean 2019 should be good for both emerging-market debt and equities (see page 24 for more ideas on this), and also for Japanese equities. As for the big risks, investors should “underweight US equities” and avoid high-yield US debt – if growth really does slow, then rising default risk could hit the latter hard.