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February 12, 2024 - Europe's gems are starting to shine again.

International investors are increasingly looking at European stocks, as the valuation gap with their US peers is wide , compared to the historic averages. Of course, now that retail investors have joined the party, valuations will not really matter for the US market to move higher, as they desperately want to buy a piece of the hot stocks to see them in their statement, at any cost. Turning, however, to fundamentals, we had pointed out that there were European stocks whose valuations had fallen to multi-year lows vs their own history, without necessarily their business models having been seriously affected by anything. This is just what we called "to have fallen out of favor" and can leave stocks or sectors at very attractive valuations. To name just an example, luxury names such as LVMH (owner of Louis Vuitton among others) and Richemont (owner of Cartier among others) were, until recently, abandoned by investors, which were too much focused on the short-term slowdown of their growth. However, it seems that things have suddenly changed.

Europe could have its own "Magnificent-7", although for the moment there is no universal agreement on the composition. But the stocks belonging to this theme all share similar characteristics : above average growth of sales and profits, undisputed leadership in their industry (on the borderline of a monopoly), participation in a structural long-term theme and of course market capitalizations that are similar to countries' GDPs. Some stocks that fit in this category and have rallied during the last two weeks are : ASML (the Dutch manufacturer of semiconductor equipment), Novo Nordisk (the pharmaceutical with the magical diabetes/obesity drug), LVMH-Hermes-Richemont (the luxury giants), Linde (the global leader of industrial gases and hydrogen) and Airbus (the leader in aerospace and defense equipment). We are happy that the rest of the world is waking up to discover some of Europe's gems that we already own. European equities need the participation of foreign capital if they are to improve their valuations vs their American peers.

Chinese equities rallied by 6% for the week, as the local authorities announced measures in order to stabilize the equity markets. To avoid any misunderstanding, the fact that we wrote about a potential repeat rally like in 2014 on our last weekly report can only be taken as a coincidence and not as a "look in the crystal ball". The measures include buying by state agencies ETFs of the local market as well pushing the companies to increase buying back their shares. The head of the capital markets regulator was also replaced by a hardliner, whose mandate will be to make it tough for speculators and hedge funds to manipulate the market. We cannot know if we have the seen bottom of the local market or if we are very close to that. What we do know is that it seems that the government is finally waking up to the fact the international investors need to be attracted again and only through solid measures this can be achieved slowly but steadily.

China's deflation just got deeper and calls for more action. At a time when the West is struggling to tame the "inflation beast", China has the exact opposite problem : negative inflation or falling consumer prices. January CPI was announced at -0.8% y/y, the fourth month in a row that it has been negative (deflation) and was the lowest in 15 Years. The PPI (producer price index) also declined for the 16th consecutive month. These numbers show that the Chinese consumer continues to be cautious and prefers to rather save money than spend it, which has implications on the economy. The Chinese authorities have been reluctant to engage in a large scale stimulus program, as the US and Europe did during the pandemic or as they themselves did back in 2015. This reluctance has cost them international investors who have been fleeing the markets for the last three years. Could we see something changing after the New Year celebrations are over a week from now ? Those arguing in favor of a "No" based on the fact that the president has explicitly ruled out large stimulus programs, probably forget the 180-degree turn on the zero-Covid strategy which the President performed a little more than a year ago.

The US PMI Services index for January rose to 53.4, much higher than the 52.0 expected and a jump from 50.5 in December. Similar to their European peers, Purchasing Managers in the services sector have become more optimistic at the start of the year than a few months ago, which is good for the economy. However, what is good for the economy might be inflationary at the same time and central banks find themselves in the weird position to see "good news" as potentially "bad news" for their fight against inflation. The fact that inflation has fallen to about 3% both in Eurozone and the US , with the target being at 2%, does not guarantee that this "extra mile" will be easy to accomplish. A re-acceleration of economic activity will challenge the view for a relatively quick return of inflation to 2% and below.

Overall, it was a rather light week in terms of macro-economic data, ahead of the very important US inflation data tomorrow. The January CPI is expected to have fallen further, to 3% while Core CPI is forecasted at 3.8%, a small drop from the 3.9% of the previous month. With expectations for aggressive rate cuts by the FED still flying around, it is very important that these numbers come in line with expectations. Already, several FED and ECB officials have voiced their disagreement with the market's pricing of a rate cut in March for both central banks, as it is premature to "declare victory" on the inflation front.

Another US regional bank appears to be in trouble, but there has been no contagion yet. Shares of New York Community Bank fell 60% in a matter of days, after the bank posted a much wider loss due to a sharp increase of bad loan provisions in the previous quarter. The losses were primarily related to commercial real estate, a sector which has been in severe stress since 2020, as the pandemic has permanently affected the number of employees who go daily to work reducing thus the office space needed. At the same time high interest rates have hurt leveraged developers. The "funny" thing is that NYCB is the bank that saved Signature Bank last year, when the mini banking crisis erupted in the US and now appears to be in trouble itself.

Equities had a positive overall week, with China stealing the show as already mentioned and the S&P500 closing above the 5'000 mark for the first time ever. Swiss stocks continued their underperformance as their defensive nature is out of favor. Investors are flocking again into Technology-related companies and some European "gems" as we mentioned in our cover story. We do believe that adding to existing positions of high quality large cap Swiss names makes sense, as these are offered at valuations that we have not seen in two or three years, regardless of the short-term "pain".

Bond prices slipped and yields rose slightly, as the overall news from the economies and equity markets have been on the positive side. The 10-year US yield closed the week at 4.18% while the German equivalent rose to 2.37%.

Chart of the Week : Credit card delinquencies for small banks are at the highest level in 30 years.

Given the troubles of yet another small US bank these past two weeks, in this chart we are looking at how the situation differs between large banks and small banks. The blue line is the percentage of credit card balances that are not being paid by their holders (and carry a potential total loss to the bank) for the 100 largest commercial banks, and it is currently slightly below 3%. Despite the rise since 2022, as the FED started raising rates, they are still fairly low. The average percentage of delinquent credit cards before the pandemic was in the 2-3% area. But if we look at the green line, which is the same percentage but for the other banks, we see that it has now reached 7.5%, which is the highest level of the last 30 years. Even at the depth of the 2008 financial crisis the credit card delinquencies at small banks did not surpass the 7% level. One can say that it is actually a miracle that we did not have more bank accidents in the US other than the SVB, First Republic and Signature bank in March of last year. Is New York Community Bank's issues the beginning of another round of failing small banks ? The future will tell.


• 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.

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