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4 July 2022 - The worst first-half since 1970 , what comes next.



The S&P500 had its worst first-half since 1970, dropping more than 20%. The Nasdaq fell almost 30% in the same period, while Europe did not escape the massacre with 15-20% drops on average. The best performing regions during these first six months are to be found in Asia. The Japanese Nikkei fell by 8%, while Chinese equities fell on average by 10%, half of that of their American peers. In terms of sector performance, Energy was the only sector with large gains of about 25%, albeit much lower than the highs it reached during early June. Healthcare and Consumer Staples (such as food&drinks) fell by only 5% on average, proving their defensive characteristics. At this stage, we still like Healthcare, but the valuations of the beaten down sectors such as Consumer Discretionary (apparel, shoes, autos etc) look extremely suppressed and attractive in the longer term. Going forward, if one looks at history things might turn out to be brighter for investors. On of our "charts of the week" below has an interesting analysis of all similar cases since 1920.


On the positive side, inflation data out of the US and Europe were announced better than expected. Germany's CPI for June fell by 0.1% vs. expectations for a rise of 0.4%, and the annual change was registered at 8.2% vs 8.8% anticipated. For the Eurozone as a whole, the headline CPI number was a little worse than expected, at 8.6%, but the Core CPI (which excludes the food and energy items) rose by 3.7% vs 3.8% in May. In the US, the Personal Consumption Expenditure (PCE) deflator was announced with a 6.3% annual change vs expectations for 6.5%. The Core PCE deflator rose by 4.7% vs 4.9% in May. The PCE Deflator numbers are closely watched by the FED, in order to make their monetary policy decisions, together of course with the most well know CPI (inflation) numbers. Given the recent fall in commodity prices and the slowdown of demand for various expenditures, one could probably claim with high probability that we might have seen the worst for inflation.


Continuing with positive news, Beijing and Shanghai announced a zero-Covid status this week. Of course the situation remains fluid, as the Chinese authorities will again lockdown parts or whole cities if there are again cases. But for now a normalization of life is underway, and even Disneyland opened its doors again to the public. On the economic front, the June PMI numbers in China were announced much better than expected. Manufacturing returned above 50, which signals expansion, while the Services index jumped to 54.3 from 47 in May. As we have mentioned several times, the Chinese economy is ahead in the economic cycle, compared to the rest of the world. The authorities have chosen to provide the economy with "just enough" support through monetary and fiscal stimulus and not go with a "bazooka", as in previous years. The recovery is slow, but visible.


The final reading of the US GDP number for the 1st quarter was revised downwards. It fell by 1.6% vs the previous estimate of -1.5%. The more worrisome detail within the report was the fact that consumption was revised significantly down, to 1.8% from 3.1% previously. Inventories were also revised higher, in a sign that demand is finally getting hit by high prices (good for inflation, bad for economy). Moreover, US consumer confidence dropped further in June, while the future expectations component of the survey fell to the lowest level since 2013.


Government (and high quality corporate) bond prices rallied, as the "recession fear" theme is still playing out in markets. The 10-year US yield fell to a low of 2.90%, while the 2-year yield fell to below 2.90%. As a reminder, these yields were about 50-60bps higher two weeks ago. The market has now started discounting interest rate cuts in 2023, in response to a potential recession, only two weeks after it had discounted that rates could reach 4% in early next year. Uncertainty and volatility is at extreme highs.


News about the ECB buying bonds of Italy, Spain and Greece circulated, through an unconfirmed Reuters report. Central banks have the habit to leak information in order to test the market reaction and this might well be it. According to this report, the ECB is planning to use the cash from the maturing bonds it has bought during the pandemic to buy bonds only of those countries mentioned above (and perhaps some other few with problems) in its effort to avoid a rise in their spreads vs Germany and essentially put a "cap" on their yields. Details about the overall plan for this are still expected, but as mentioned in other of our publications, the markets move also by words and not just with actions. Bond prices of these peripheral countries are moving higher, as no wise person would want to bet against the ECB. The plan is working for now.


In corporate news, US banks announced an increase in dividends and/or of buybacks, after the announcement of the successful stress tests. Morgan Stanley, Goldman Sachs and Bank of America were among them. JPMorgan and Citi chose to leave the dividends the same, as they have taken a more conservative approach towards an upcoming economic slowdown. Novartis announced that it is laying off 8'000 people, of which 1'400 in Switzerland, in a sign that even pharmaceuticals have not remained untouched this year.

Equities: Weekly Performances



 

Charts of the Week


After a horrible first half, things could be better until year-end.

As the first half of 2022 came to a close, it is interesting to see how this awful year compares to similar bad starts since the 1930s. The table on the right from Pictet shows the year on the first column and the performance of the S&P500 in the first six months. One can see that the almost 20% drop of the index is the 5th worst since 1929 and quite close to the 2-4th ones. The 45% drop of 1932 is far the worst. Even more interestingly, on can see on the last column, what the index did for the rest of that year. 70% of the time the index posted a positive performance and especially when the drop was closed to 20%, then almost 100% of the time there was a positive return for the six months that followed. Even in 1932, after the 45% drop, the index rallied by 55% until the end of that year. We can only hope that tradition will be on our side again this year.


Looking back at the 1970s.

This is a very interesting chart which illustrates the evolution of the price of the

Commodity Index during the 1970s decade. The biggest weight in this index is oil prices, but it also contains industrial and precious metals, as well as agricultural products. A lot of discussion is taking place today about a potential repeat of the 1970s, when it comes to inflation, caused primarily by the meteoric rise of commodities and raw materials. However, if one takes a closer look at that period, one would see that the rise happened in the first two years, and then for the rest of the decade, commodities were moving rather wildly up and down but they did not rise any further. Similarly in our current episode of the commodities' "explosion", prices have been moving aggressively higher for almost two years now, in the same manner as in the 1971-1973 period of the above chart. Given the fact that very high commodity prices always lead to a slowdown of demand, one could conclude that a similar pattern will be seen during the current decade. Inflation will be volatile, with periods of high inflation and periods of calm, but with a big probability that we have seen the most of the rise of commodity prices.

 

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: Pictet, Chart 2: Kepler Chevreux

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