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16 January 2023 - Lower inflation brings joy.



Global food prices are dropping to levels below the end of 2021. According to the FAO (Food and Agriculture Organization of the United Nations), the food price index is now below the level of December 2021, and down about 20% from the March highs, a spike which was then caused by the start of the war in Ukraine. Of course today's levels are still about 15% higher than in 2019 and a falling index does not automatically translate to lower prices in the super-markets for every consumer in the world. But at least we can conclude that we have seen the worst of price inflation in this sensitive category. Food, a thorny item for the inflation calculation as well as the pockets of millions consumers around the world, is finally becoming more affordable.


Equity markets cheered the good news on inflation last week. The Nasdaq index was the clear winner among the major indices, with an almost 5% jump, after a not so good start for the year. European bourses followed through with Germany and France posting gains of about 3% while Chinese markets continued their ascent adding 2% to this year's gains. In terms of sectors, defensives (healthcare, food, retailers) were not not being sought after rising by only 0.5% on average. However, consumer discretionary (autos, luxury, e-commerce) posted strong gains of 5%, followed by Materials.


Speaking further of inflation, the US CPI fell to the lowest level since October 2021. As expected, the December CPI index posted an annual change of 6.5%, down from 7.1% in November. This was the smallest increase since October of 2021, while the Core CPI, which excludes food and energy also fell to 5.7%, the lowest since January 2022. On the positive side, energy contributed negatively to inflation, as oil and gas prices have fallen below last year's levels. Food, as measured by the CPI calculation, also showed the slowest monthly increase in two years. On a slight negative side, rents moved higher in December, disappointing those who were expecting a further decrease, after similar decreases in the previous two months. But the truth is that real rents have continued to move slightly lower, a fact which is expected to show when the new contracts are included in the calculation of the inflation index, with the already lower rents.


And the FED is probably going to hike by just 25bp in early February. Knowing how central banks operate, ie. having various senior officials saying things publicly, expressing their "own" opinions in order to test and prepare the market for the next move, we can conclude that the FED is poised to slowdown the pace of interest rate increases, to the traditional 0.25%. Philadelphia Fed's Harker (voter) was the latest Fed official to offer support for a 25bp rate hike in the February FOMC meeting. Harker said he wants to be cautious to avoid causing unnecessary harm to the labor market, though said he still sees rates hitting 5% before a pause. This comes after other Fed officials this week signaled support for shift down to 25 bp, including Boston's Collins (non-voter) and San Francisco's Daly (non-voter).


The news out of China continue to surprise positively. The relationship of China with the Technology/internet platform companies seems to have entered a new positive period. Chinese central bank senior officials announced that internet/platform companies will be supported as they play an important role for the economy and the local communities, while Alibaba signed a cooperation agreement with the province of Hangzhou (where its HQ are). The chinese central bank also announced that new measures to help the property market will be taken, as the first ones seem to have worked well. As we are entering the Chinese new year of the rabbit, the region should find again prosperity, peace and hope.


In the Foreign Exchange world, the dollar's weakness gained steam. The move continued to be more dramatic against the Japanese Yen, as it has been since the start of the year. The EURUSD reached a high of 1.0870 before settling closer to the 1.0850 handle. The USD index, which is a basket of currencies including EUR, CHF, JPY, GBP and SEK is now down about 2% in 2023.


Bonds had a positive week. Data concerning inflation and consumer prices primarily influence the bond market, which spills over into equities. The good news of the week on this front hence, made bond prices move higher and yields lower. The US 10-year finished the week at 3.45% and the German equivalent at 2.15%.


In corporate results, the first bank results in the US for Q4 were mixed. On average, the US largest banks revealed better than expected profitability, but which was based on low-quality items (better tax, higher trading revenues etc), while their core business (net interest income, NII) disappointed. Details show that banks had to offer higher rates than expected to clients to avoid losing them, which dented their revenues. The big issue seems to be the need for 2023 NII estimates to come down, with both JPMorgan and Wells Fargo guiding below, though Citi was a bit better. While takeaways noted a still benign credit backdrop, provisions tended to come in higher than expected. Shares of most banks fell by 2-3% initially, but recovered strongly and ended the day up by about 2-3%.


According to Gartner, global PC shipments fell 28.5% y/y in Q4, marking the largest quarterly decline since it began tracking the market in the mid-1990s. Gartner cited anticipation of a global recession, increased inflation and higher interest rates as headwinds on PC demand. Also pointed out many consumers have relatively new PCs that were purchased during the pandemic, while enterprise demand, which began deteriorating in Q3, is being impacted by a slowing economy. One should expect to see perhaps weak growth in company revenues that are linked to the PC industry such as Microsoft, Logitech, Dell etc.


 

Chart of the Week :

Another confirmation that price increases are slowing down.


The US December inflation report showed a negative monthly increase of 0.10%. The chart above illustrates the monthly changes of US inflation since last year. We can easily see that the monthly changes of inflation have slowed down in the second half of last year, giving rise to the argument that the worst of inflation is over for now. At the beginning of last year, inflation was increasing by more than 0.6% on average with March and June seeing monthly spikes of more than 1%. But the second half of the year the monthly increases have averaged less than 0.10%. If we assume that the monthly increases remain around 0.10% on average for the next six months, it is very likely that annual inflation in the US could fall below 3% and closer to 2% by early summer. This should be a game-changer for the FED's policy and of course for financial markets.


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: Chart of the Week : KSH, Facset

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