11 July 2022 - Summers are meant to be good.



This will be the last weekly review until 8th of August. I take the opportunity to wish you and your families a refreshing and enjoyable summer.


Summer time has traditionally been kind to investors. It is the period when volumes are relatively small, most market participants are on their way to a vacation destination and most retail traders prefer to sip a Mojito on a beach than look at their screens. It is also a period when markets tend to grind quietly higher. There have been, of course, cases of volatility and market turmoil during summer months, too. But coming from a first-half of disheartening performance, no one expects the summer to offer any relief to his portfolio. We could be in for a (positive) surprise.


And the first week of July has given us a good sign. Despite the weak start , especially in Europe, equity markets managed to move higher and away from the recent lows. Nasdaq was the best performer, boosted by Technology and Consumer Discretionary (e-commerce, autos, retail), while European markets under-performed, as the region is plagued by its dependence on Russial oil & gas as well as by a , falling like a stone, euro. The mess of British politics also played its role. The start of this week does not look good again, but the road higher will not be a straight line.


The minutes of the last FED meeting did not offer anything new. The members of the FOMC voting committee expressed their deep concern about inflation and appeared ready to move interest rates high enough in order to curtail demand (even if that means risking throwing the economy into recession). The 75bps increase was a decision widely shared among the members, while another 0.50% or 0.75% is coming in the July meeting (27th). One should note that just a few days before the previous meeting there was the announcement of the inflation data, which was worse than expected, yet again. Since then however, prices have started coming down and economic activity data has shown some further deterioration. Hence another 75bps in July (instead of 50) is not a "done deal" yet, but it is what the majority of analysts believe that the FED will deliver. On a separate note, the pricing of the potential peak of interest rates next year has moved significantly lower. Just two weeks ago, the market was pricing a maximum of 4% FED's rate by March 2023, but this has now fallen to 3.3%. The June inflation data, which are expected on Wednesday, will be a catalyst for the interest rate pricing going forward.


The US labor market remains strong, despite the rate hikes so far. The June non-farm payrolls were announced at +372'000 vs expectations of +275'000. There was a downward revision of about 75'000 from the previous month, so the beat vs expectations is not as big as it looks. Still however, overall it was a strong report as unemployment remained at the multi-decade low of 3.6%. Wages were higher by 5.1% vs one year ago, while on a monthly basis they moved higher by 0.3%, as expected. The labor market data is a lagging indicator, so it should be the last to show proof of an economic slowdown or a recession. Jobs could start getting lost as soon as September/October.


The Atlanta FED GDPNow latest estimate for the US economy shows -2% growth for the 2nd quarter. This is an econometric model, which tracks the US economy and is closely watched by economists and analysts, as it has proved quite accurate in the past. If this negative growth forecast in the 2nd quarter becomes true, then the US is already in recession, at least in a "technical" form, as there would be two consecutive quarters with negative growth. Of course an economy running at 3.6% unemployment is far from being felt as a "real" recession, but things this year change quickly.


The Chinese Ministry of Commerce announced the extension of the subsidies for the purchase of new and used cars. In addition to subsidies, the government will “actively support the construction of charging facilities, accelerate the construction of charging facilities in residential communities, parking lots, gas stations, expressway service areas, passenger and freight hubs, etc. and guide charging [station] operators to appropriately reduce charging service fees,” the announcement said. China continues to take measures to boost its economy, albeit in a relatively measured and targeted manner. A broader stimulus of about 220bn$ might also be on its way, according to various reports. Let's not forget the November Presidential elections are fast approaching and President Xi will not want the economy to be in a bad shape.


The EURUSD is approaching parity with the USD. The (traditional) German opposition to the ECB's plans to create a tool that effectively caps the spreads/yields of the periphery countries (Greece, Italy etc) made the EUR slump this week. Bundesbank's President, Mr. Nagel, expressed his view publicly that to disallow the market to price itself what the yield of the various Eurozone countries should be, creates conditions of "moral hazard". This means that these countries will not be motivated to proceed with necessary reforms and structural changes, something we have been hearing since the onset of the Eurozone crisis a decade ago. A tough job ahead for Mrs. Lagarde and we hope that lessons were learned in 2012.


Gold continues to move lower. The strength of the dollar, the rise in the yields and the improvement of the stock markets left no choice for Gold traders but to sell the metal. It closed the week around 1745$ and is now more than 15% down from its peak in the days that followed the Ukrainian invasion. Once again, Gold has failed to provide any meaningful protection, either for inflation nor for equity market sell-offs.


Bond yields moved higher, after the US labor market report. The 10-year US yield rose back closer to 3.10% after starting the week at 2.80%. This yield was at 3.5% just three weeks ago. The worrisome evolution of the week however was the inversion of the yield curve at the 2/10 years level (i.e. the 2year yield is higher than the 10year). Yield inversions are associated with recessions, even if this some times comes several months later. We also observe that the unless 10year yields move much higher, then the US yield curve will inverst even on the very short end. The 3month rate is now at 2.70%, just 35bps lower than the 10- year.


The 2nd quarter corporate results will start this week. As usual the major banks will be the first to announce, followed by the rest of the companies in the weeks to follow. With JPMorgan's CEO, Jamie Dimon, already having spoken about a "hurricane or a storm coming", it would be interesting to see on Thursdsay what the bank has to say with respect to its expectations for the coming quarters, when it releases its results. Morgan Stanley, Goldman Sachs and Citi among the other major companies reporting this week.


Equities: Weekly Performances




 

Charts of the Week


No, there is no uncertainty out there...

There is volatility in all financial markets since that start of the year, but there is equivalent volatility in what the average reader sees as information displayed to him by various news outlets. The image shows screenshots from Bloomberg website in the same day. Two major investment banks, Citi and JPMorgan, issued vastly different views on where the oil price might be headed in the coming months. The average reader of Bloomberg (no intention to blame the website) that day on his screen read : that oil prices could go as low as 65$ by year end but they can also go to 380$. Of course, these rather extreme outcomes are by no means the main scenarios of the abovementioned banks, but merely one of their scenarios. The 65$ price is based on a scenario of a deep recession, while the 380$ possible price is calculated in an Armagheddon scenario where Russia cuts off all supply of oil. But the issue here is that the reader/investor is totally lost within some wild predictions, absurd forecasts and potential catastrophic scenarios. We, at KSH, claim no ability to forecast where the oil price will be in a few months. However, we make adjustments for both extreme scenarios.


Commodities are entering a bear market (?)

The Bloomberg Commodity Index is now almost 20% lower from its peak just a few weeks ago, a level of drop that the markets like to characterize as entering a bear market. The index has 30% weight in Energy, 23% in grains/agricultural products, 15% in Industrial Metals, 20% in Precious Metals and 12% in products like coffee, sugar, cotton etc. Interestingly, it is now almost where it was in late February, a few days before the invasion of Ukraine. The signals are clear. Despite the case for higher commodities due to food shortages, supply chain issues and possible further implications of a war which is still going on, a recession will put downward pressure to commodity prices. This is already hapenning in anticipation of a recession. Of course, technically, this commodity index is exactly on a medium-term support line, so a bounce could be in the cards. But the rush to commodities by investors at the peak of early June is already making them bleed significantly. Now, if the 380$ oil price forecast materializes, this index will be significantly higher than today.

 

Disclaimer

• The content of this document has been produced from publicly available information as well as from internal research and rigorous efforts have been made to verify the accuracy and reasonableness of the hypotheses used. Although unlikely, omissions or errors might however happen.

• The data included in this document are based on past performances and do not constitute an indicator or a guarantee of future performances. Performances are not constant over time and can be positive or negative.

• This document is intended for informational purposes only and should not be construed as an offer or solicitation for the purchase or sale of any financial instrument and it should not be considered as investment advice. The market valuations, views, and calculations contained herein are estimates only and are subject to change without notice. Any investment decision needs to be discussed with your advisor and cannot be based only on this document.

• This document is strictly confidential and should not be distributed further without the explicit consent of Kendra Securities House SA.

• Sources: Equity performace: Factshet, Chart 1: Bloomberg, Chart 2: Factset