In equity markets there is an old saying : "Sell in May and go away". This "myth" was created many decades ago, as the markets traditonally started the year in an optimistic fashion, only to loose steam around May. Then, they typically regain the momentum in the last few months of the year as optimism rebuilds. And according to history, markets rebound impressively in the last two months of the year, especially when a steep correction has taken place in the previous months. Another interesting statistical observation is that most steep corrections happen in the month of October (crash of 1929 and 1987, Lehman Brothers collapse etc). However, we tend not to follow these types of seasonal moves in the market, as each year is different and the only parameter that really matters is valuations as well as expectations for the economic activity and the companies' revenues and profitability. There are quite a few reasons today for investors to reduce risk, while remaining invested in high quality stocks, defensive regions and sectors and avoid expensive valuations. The ongoing banking crisis in the US is something that should not be underestimated, even if a full-blown financial crisis looks to be a very remote possibility.
The First Republic Bank looks to become the third bank in the US to fail, in about a month. At the time of writing this report, there were no final news about the fate of the bank. However, it looks like the three banks that are bidding for parts or all of the bank have made it as a prerequisite that the FIDC takes the failing bank into receivership and that some losses are born by the insurance fund, just like Silicon Valley Bank.
Despite all this, US Equities held up well, thanks to the out-performance of large technology names. The US broad indices rose by almost 1% , but Europe's performace was more on the negative side, with only Germany's DAX30 escaping with 0.3% gains. France lost 1%, the UK was down 0.6% and Swiss stocks finished 0.2% lower. In terms of sectors, it was a bad week for Financials, with the other sectors also posting small losses. Technology and Communications (thanks to Facebook) were the best performers.
Bonds moved higher, but finished off their best levels for the week. The fear about First Republic Bank's imminent failure moved bonds sharply higher (and their yields lower), but as the equity sentiment was dominated by the good news from Tech companies, bonds lost some of their profits. The US 2-year yield closed at 4.02% and the 10-year yield at 3.43%.
The ECB and the FED are meeting this week to decide the next interest rate move. The FED is going first with its decision out on Wednesday. It is widely expected to raise again by 25bp, but the big question is whether they will provide any fresh guidance that this could be the end of this cycle or at least a pause. The market has already priced that the FED will start cutting interest rates in September, in stark contrast with the FED's own projections that rates will remain at current high levels unil at least the start of 2024. The ECB is meeting on Thursday and is expected to raise interest rates by 50bp, although there are voices for a slowdown to 25bp. Given that inflation is still around 7% and core inflation has yet to find a peak, it is still too early to expect a significant change in tone. Eurozone inflation data will be published before the decision on Thursday, however.
The Eurozone grew by 0.1% in the 1st quarter of 2023, an improvement compared to zero growth which was registered in the previous quarter. Compared to last year, GDP grew at an annualized rate of 1.4%. While avoiding recession this time (i.e. negative GDP growth) is rather welcome, we should note that hovering around the zero level of economic activity cannot be grounds for celebration. What seems to have been avoided is the deep recession that was forecasted last year after the breakout of the war and the energy crisis that threatened the region which never materialized. With the ECB raising interest rates and the banks less willing to lend to households and companies after the recent events, it is highly likely that we actually dip into negative economic activity.
In the US, the 1st quarter GDP growth was announced at +1.1%, much lower than expected (+1.9%). However, looking into the details the number is not as bad as it looks. There was a large inventory adjustment that took off almost 3% from the number, as opposed to a similar adjustment that "artificially" added to the GDP growth of the last quarter of 2022 (2.6%). When taking the average of the two quarters to smooth out these adjustments we see that the economy expanded at a, roughly trend-like, 1.8% annualized. This number represents a significant slowdown vs 2022. Whether the US is going to slow down even more in the next 1-2 quarters and fall into a recession remains to be seen.
French inflation accelerated in April, Germany's slowed down, according to the preliminary data. The French CPI was announced at 5.9% on a yearly basis, up 0.60% on a monthly basis. The annual inflation rate in March was 5.7%. In Germany annual inflation slowed down to 7.6%, from 7.8% in the previous month. On Tuesday, we will learn the April Eurozone composite CPI. The current expectations are for a small increase to 7% for the headline number from 6.9% in March and a small drop to 5.6% from 5.7% for the core, but according to the already published country data, we could have a mini positive surprise.
The German government agreed with the unions a 6% wage increase for the public sector. Although this was widely anticipated, it is something that will not be taken very comfortably at the ECB level. Wage growth is one of the most critical parameters that influences inflation in the months to come as this provides support to final demand for consumer goods and services and prices can continue to move higher.
In corporate earnings news : Technology companies reported much better than expected results, boosted by the recent craze about Artificial Intelligence as well as by the measures taken in the previous months to improve their profitability , ie cost cutting/firing thousands of personnel. Most of them (Microsoft, Facebook) also provided decent guidance for the next quarter, making their shares jump 10-15% on the day of the announcement. Amazon posted higher profits than expected, thanks to higher operating margins, but guided for lower cloud growth in the next quarter. Shares fell 5% on the day of the announcement, in contrast with with other Tech names.
Chart of the Week : Central Banks are in a buying frenzy for Gold.
Gold is making one more attempt to move to a new record high, which could be around 2'300$ for this year. It has been trading close to the psychological 2'000$ level for a few weeks now, unable for the moment to break-out. The global geopolitical uncertainty after the war errupted in Ukraine last year, the meteoric rise of commodity prices and high inflation were all factors which benefited the yellow metal. But, the evolving banking crisis has really been the fuel behind its recent explosive rise. Perhaps the most characteristic example of the high demand for gold is the amount of tonnes that the central banks accumulated last year and which is more than 1.1 tonnes. Looking at the above chart, one can see that this is the highest in the last decade and almost double the amount they bought during the years of the highest demand (2013, 2014, 2018 for example). Admittedly, most of this buying was done by central banks of emerging markets (Russia, China, India etc) , in an effort to store their reserves in the solid metal, rather than their volatile currencies or in other riskier assets. Still however, we remain of the view that gold will be well supported in the coming months from buyers around the globe who see it as a protection against a possible recession or another banking crisis.
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• Sources: Chart of the Week : Société Générale