The S&P 500 reached new highs, fuelled by renewed U.S. tax reform discussions. Brent oil rose 8.9% during the month and the trade-weighted U.S. dollar (USD) rebounded, as markets start to price in more Federal Reserve (Fed) hikes (our Morgan Stanley economists expect three more hikes in 2018).1
German elections ended in a victory for Mrs. Merkel, but her CDU/CSU alliance lost seats, leaving her weaker. Meanwhile, anti-immigration populist party Alternative for Germany (AfD) won 12.6% and their first seats in the Bundestag. The most likely scenario is now a CDU, Free Democratic Party (FDP) and Green party coalition. In France, thousands marched against proposed labour reforms in a month where Macron made a high-profile speech calling for further European Union (EU) integration, including the appointment of a EU finance minister.2
Rating agency Moody’s downgraded the U.K. debt to Aa2 on grounds that the Brexit process could bring fiscal pressures, while the British pound surged versus the USD to $1.36 mid-month, its highest level since Brexit. August inflation was 2.9%, while average earnings increased only 2.1%, bringing pressure on the U.K. government to lift the 1% public sector salary increase cap.
European economic data continue to be robust, with eurozone PMI having just reached new cycle highs.
Earnings expectations for 2017 have stabilised, and the more important question for the rest of the year is whether or not earnings per share (EPS) momentum can last into 2018. Our Morgan Stanley strategists forecast 7% EPS growth for 2018: a stronger euro, fading commodity price rises and slower gross domestic product (GDP) growth will likely dampen earnings for next year compared to 2017.