25 April 2022 - Time to pause and reflect




Equity markets struggled for a third straight week, led by the US and Nasdaq. Perversely, in a week of a, seemingly, risk-off environment, Europe managed to do better with the help of the “riskiest” sectors such as banks and autos, while the previous rally of defensives and Swiss stocks’ outperformance was met with selling. Healthcare was among the worst performers together with Technology and Communications (due to Netflix).


It is very possible that all the above action could reverse soon again (hence, US and defensives to out-perform again), as markets are increasingly coming to the realization that the fast and furious monetary tightening of the central banks in the US and in Europe will be a major drag on economic activity, as the only way to tame inflation. Lest we forget, there is a war still going on in Europe with unpredictable outcomes, especially if it decides to activate its last option, that of a ban on Russian oil and gas. It is time to reflect on the storm of events of 2022 and its potential effects on financial markets for the next 6-9 months. A defensive stance is warranted.


The Chinese Central Bank did not cut its benchmark rate, disappointing the markets. It opted for a small cut in the Reserve Ratio Requirement for banks by 0.25%, to boost liquidity in the system. Struggling with the Covid19 outbreak, China is the only major country to be able to boost its economy by cutting rates as inflation is low. It seems to be one year ahead in the global economic cycle, by engineering its own soft-landing of the economy already last year.


The IMF cut its global GDP growth forecast for 2002 and 2023. It now expects 3.6% growth for both years, down from 4.4% and 3.8% respectively.


Several ECB officials voiced their views that the central bank could raise interest rates as soon as July, faster than anticipated up to now. This contrasted with the ECB meeting ten days ago which was rather ambiguous. Mrs. Lagarde said that the QE program will end “in Q3” but did not specify whether this means July or September. She also said that the bank will raise rates after the QE ends and went on to “clarify” that this means either weeks or months. The market chose to believe the officials and has already priced in three rate increases by the end of the year, to mark the end of negative interest rates in the Eurozone.


Mr. Powell also voiced the FED’s growing consensus that rates will rise by 0.50% in May. The debate is now whether the FED will bring interest rates to 2.5% by the end of the year or will chose to go “allin” to 3.5%, as the voting member Mr. Bullard has publicly suggested.


President Macron was re-elected with a wider than expected margin. This could help French government bonds’ big spread vs the Germans to shrink again, offering gains to the pan-European government bond indices.


Government bond yields fell from the recent highs (prices rose), as the market could probably start discounting that the potential damage to the economies could warrant lower rates again in 2023, as it happened in 2019. The 10-year US Treasury yield fell to 2.85% from 2.95%.


A big week ahead in terms of corporate earnings in the US. All big Tech names (Apple, Microsoft, Google and Amazon) are set to report in the following days, potentially offering some relief to Nasdaq with good results and guidance for 2022.



Charts of the Week


This is the chart of the Swiss SMI Index which includes primarily the larger companies, such as Nestlé, Roche, Novartis. Although it is still down about 5% for the year, it had a very good rally in the last four weeks which brought the index back above its 200-day moving average (green line). But the positive technical picture is not the only reason to entrust the large capitalization Swiss stocks at this juncture. As the ECB is about to embark in a series of interest rate increases while at the same time economic activity is already slowing down due to the military conflict and the supply chain issues, the risk of an outright recession in the Eurozone has increased significantly. In an environment where we would want to be reducing risk, a position in Swiss stocks offers equity upside participation, but with some peace of mind at the same time. We would be buying on any weakness, after the recent rally.



The chart shows the interest rate of a 30-year fixed mortgage loan, for the last 15 years. It now stands at 5.25%, the highest in this period and up from 3%, just a few months ago. As we all know, mortgage loans are vital for the housing market. We estimate that this huge jump in interest rates will have a significant impact on the demand for new housing purchases. The housing market comprises about 10% of the US economy, so it is not something that should pass unnoticed. Taking this further, we also assume that the significant increase in the floating-rate monthly payments for the mortgage holders will: a) reduce the spending power of many consumers and b) lead to a potential rise in defaults. On the positive side, all this is happening while the average consumer has still a lot of savings in their bank accounts, due to the pandemic extreme measures. The housing market will be key to gauge the size of the economic slowdown in the US , in the coming months.




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