MARKET ANALYSIS-04/09/2020
US markets remained focused on the US where indices reacted to the Fed’s new inflation and employment objectives as well as developments in the tech sector.
By targeting 2% inflation on average over time and saying it would not necessarily tighten monetary policy if unemployment figures fell, the Fed cemented its accommodating bias while striving to convince investors it should not be viewed as being behind the curve if the economy were to recover.
Meanwhile, in the first part of the week, the Nasdaq benefited from renewed risk appetite to hit new highs The move was underpinned by sector fundamentals like higher earnings and cash flow generation as well as operating margins of 30% on average, markedly higher than the 9% of the S&P ex financials and tech.
But the Nasdaq fell sharply on Thursday due to heavy profit taking and the unwinding of derivative positions. The sell-off spread to global markets amid rotation out of secular growth, momentum and quality (the winning themes in the last 12 months) into value.
To complicate matters, non-manufacturing ISM data fell short due to sanitary measures and the Congressional stalemate. With one month to go before the budget goes to the vote, the failure of Republicans and Democrats to reach an agreement is looking increasingly risky.
Elsewhere, retail sales in the eurozone rose by an annualized 0.6% in July, or less than June’s 1.5%. This is confirmation that the post-lockdown rebound has started to lose steam. Catch-up buying by households seems to be slowing while governments are gradually winding down urgency measures like part-time work and financial aid. At the same time, August’s services and composite PMI showcased increasing disparities between northern and southern Europe, due essentially to varying approaches to epidemic management and a big difference in budgetary leeway. Data moved into contractionary territory in Italy and Spain which have both been hit by constraints on tourism. In contrast, Germany continued to perform well, and its PMI indices were even revised higher.
In China, the recovery continued. Official PMI data confirmed a rebound in activity in August, led by services which rose to 55.2 from 54.2 in July. The sanitary situation looks to be under control. As a result, household confidence has been gradually recovering. People are going to cinemas again and road traffic has almost returned to pre-crisis levels, including during the weekend. However, industrial activity has been flat for the last 4 months (51 in August vs. 51.1 in July) due to persistently soft global demand.
As for the epidemic, the number of rising cases in India and in Spain has become worrying. The current wave in Spain has even gone above last March’s peak levels. However, the situation in the US is improving after the early August peak.
The good news is that optimism on a vaccine is still intact. Progress is expected to be announced in the coming weeks from companies like Pfizer, AstraZeneca and Moderna which are in the most advanced stages.
Against this backdrop, we remain somewhat cautious over equity allocations. We have, however, seized opportunities to top up bond positions, especially in US dollar-denominated emerging country debt which benefits from attractive valuations, dollar weakness and fresh inflows.
EUROPEAN EQUITIES
In a volatile week, European indices first moved higher on hopes for Covid treatments but then fell last Thursday when US markets succumbed to heavy profit taking amid sector rotation out of tech stocks. Signs of economic weakness both in the US and Europe only exacerbated the sell-off. Governments continued to parade their determination to underpin economies as long as necessary. France unveiled its €100 billion stimulus package. It will be rolled out over 2 years and seeks to boost investment in strategic areas like innovation and ecological transition. Meanwhile, as the euro briefly hit $1.20, Philip Lane, the ECB’s chief economist, said monetary policy should reflect euro strength. The euro promptly fell back after his comments.
In a revival of merger and acquisition deals, Nestlé launched a bid on Aimmune Therapeutics. This is another indication of the group’s determination to shift its portfolio of activities, even in today’s complicated environment. Aimmune Therapeutics will provide the group with its third medical nutrition pillar, food allergies. Elsewhere, Veolia made a bid for Engie’s 29.9% stake in Suez with a view to making an offer for the rest of the shares if successful. Caixabank and Bankia confirmed they were in merger talks. The deal would create Spain’s biggest banks with €650bn in assets and around 25% in market share for customer loans. The banking sector rose on the news.
US EQUITIES
US indices hit fresh highs but ended the period lower with the Dow down 0.70%, the S&P500 0.85% lower and the Nasdaq falling 1.44%.
Last Thursday saw the biggest drop since March amid a sizeable rotation out of the tech sector. Profit-taking accelerated when ISM new orders fell to 56.8 from 67.7 in July with a significant rise in prices paid to 64.2 from 57.6, the highest level since 2017/18.
Elsewhere, industrial orders rose by a sequential 6.4% in July (vs. expectations of 6%), or the same progression as in June.
Previously, the Dow and S&P500 had racked up gains of 7.6% and 7% in August, their best monthly returns since 1984 and 1986 respectively. Sentiment had been bolstered by the Fed’s persistently accommodating stance, a fall in new coronavirus cases and some upbeat economic data.
The Center for Disease Control informed state governors that a Covid vaccine would be available from November 1st.
The U.S. economy created 1.371 million jobs in August. The unemployment rate stood at 8.4% compared to 9.8% expected and 10.2% in July. Wednesday, ADP’s private sector job creation data came in at 428,000, or much less than the 1.2 million expected.
Elsewhere, the EIA said weekly oil inventories had fallen by 9.4 million barrels, compared to a drop of 4.7 million in the previous week. Analysts had penciled in a drop of 1.9 million.
Zoom soared 20% after big earnings beat and an upward revision in guidance. In stark contrast, Microsoft fell on signs that China was tightening its tech export conditions. The new rules could complicate the group’s acquisition of TikTok ahead of the September 15 deadline set by Donald Trump.
JAPANESE EQUITIES
Japanese stocks fell on news Prime Minister Shinzo Abe was resigning but rallied over the week when Chief Cabinet Secretary Toshida Suga, a key member of his team, emerged as a possible leader to succeed him. The other candidates are Policy Research Council Chairman, Fumio Kishida, and Former Secretary-General of the Liberal Democratic Party, Shigeru Ishiba but Suga is currently leading the race and is most likely to be elected as the leader of the ruling LDP on 14 September and to be appointed as new Prime Minister by an official decision of the Diet on 16 September. The market rose on relief that ‘Abenomics’ would be maintained with the TOPIX gaining 1.64% for the week. The NIKKEI 225 advanced 2.55% to 23,465, returning to levels seen just before the Covid crisis struck.
Wholesale Trade surged on encouraging news that value investor Warren Buffet’s Berkshire Hathaway had invested $6 billion in Mitsubishi Corporation, Mitsui, Sumitomo Corporation, Marubeni Corporation and Itochu Corporation, Japan’s top five general trading companies. Four of them registered double-digit gains over the period. Sumitomo Metal & Mining, Uniqlo (fast fashion retailing) and game producer Nintendo also made strong gains.
In contrast, telecom stocks like KDDI, NTT Docomo, Nippon Telegraph & Telephone and Softbank Corp declined. Toshida Suga has campaigned in the past against expensive phone charges and reportedly thinks they are still too high.
EMERGING MARKET
The MSCI Emerging Markets Index had retreated by 1.14% as at Thursday’s close, with Korea and Taiwan ending in positive territory while China, India and Brazil underperformed. In a sign that the economic recovery was solid, manufacturing PMI in the segment hit a nine year high at 52.5 in August, up from 51.4 in July,
In China, the National Bureau of Statistics’ manufacturing PMI edged lower to 51.0, while non-manufacturing rose to 55.2, its highest level since January 2018. Caixin PMI manufacturing was 53.1 in August, or better than expected, and with a sequential improvement vs. the previous month. On the corporate front, Li Auto’s August sales were in line with expectations at 2,711, confirming growing demand in the premium car segment. Yum China filed for a secondary listing in HK, while car manufacturing group Geely will be listed on Shanghai’s STAR board.
India’s economy continued to suffer the collateral effects of the coronavirus pandemic. Second-quarter GDP contracted by 24%, its sharpest decline since 1996 when India first started providing quarterly data. August manufacturing PMI rose to 52.0 from 46.0 in July, driven by strong domestic orders. After tensions reignited at the China-India border, the Indian government retaliated by banning another 118 Chinese mobile apps.
India’s auto industry saw a significant pick up in wholesale volumes in August: personal vehicle sales rose 15-17% YoY, 2-wheelers were up 2-4% and tractors jumped 70%. Sales at Maruti Suzuki and Hero Motocorp rose 17% and 8%. Reliance announced the acquisition of Future Enterprise ‘s retail, wholesale and supply chain operations for Rs274 billion ($3.2 billion). The deal will allow Reliance to increase its store count by 15% and almost double its retail area. The Supreme Court gave telecom operators 10 years to pay Adjusted Gross Revenue-related dues, a positive outcome for Bharti Airtel.
Brazil’s 2021 budget was presented during the week and seemed in line with expectations. Given the lack of room to maneuver, markets remained worried about potential fiscal slippage. Emergency income extension was confirmed until December but at R$300 per month (down from R$600). August PMI rose to an all-time high of 64.7 from 58.2. Industrial production rebounded by 8% YoY in July versus market expectations of 6%. Jair Bolsonaro’s government presented the first phase of its administrative reform earlier than expected, a positive development. In the Fintech sector, Stone sweetened its bid on its competitor Linx. Public prosecutors asked for Vale’s management to be changed and the dividend payout to be suspended. The final court decision is expected in 15 days.
CORPORATE DEBT
CREDIT
Markets were rather resilient over the week thanks to fresh optimism on an economic recovery and reassuring macroeconomic indicators. The Xover and Main indices tightened by 2bp between Monday and Thursday.
In company results, Picard had a good first quarter in its 2020/21 financial year. Thanks to lockdown and good cost controls, sales jumped 24.5% and EBITDA 45.6%. Rubis Terminal’s first half was more or less stable with sales up 3.8% and EBITDA 2% better. Storage capacity utilization rose from 83.4% to 86.9% due to lockdown measures.
Stena’s second-quarter results were mixed. Sales fell 13% and EBITDA 33% over a year due to the crisis.
Elsewhere, Paprec’s liquidity was reinforced after it obtained a loan, 80% backed by the government. SoftBank Group is to sell up to 21.7% of its Japanese subsidiary SoftBank Corp. With its JPY 4.5 trillion asset disposal plan almost completed, the group said it needed to raise cash reserves due to market uncertainties. As Vallourec’s scheduled increase of capital has become complicated, the group wants to extend talks with key shareholders and banks to all its creditor banks and bondholders to agree a financial restructuring. The group is handicapped by its leverage and is facing a €1.7 billion repayment of credit lines in February 2021. S&P reacted by downgrading the credit rating to CCC-.
In financials, Finma, the Swiss Financial Market Supervisory Authority, started proceedings after an enquiry into espionage at Crédit Suisse. The bank’s bonds were not much affected by the news as any fine would have only a small impact on its capital ratios. Danske Bank is being investigated by Denmark’s supervisory authority for alleged client overbilling. Note that the amount in question is only DKK 400 million and that the bank has provisioned the same amount as in 2019 for a data quality issue of the same magnitude.
In a very quiet week on the primary market, Erste Bank and Monte Dei Paschi raised €500 million and €300 million with Tier 2 debt at 1.625% and 8.5%. Both issues went off well. Bawag raised €175 million with an AT1 at 5.125%. convertibles.
CONVERTIBLES
New issuance paused for breath after a spate of deals since the year began. £113 billion has already been raised in 2020, most of it (83%) between March and August.
In news on convertible issuers, Okta (identity and access management) beat consensus expectations with a 43% rise in second-quarter sales to $200.4 million and EPS of 7 cents compared to a 5-cent loss in the same period in 2019. In Europe, Total and Peugeot formed a joint venture to create a global leader in batteries for the autos sector.