No improvement in market visibility

Marktanalyse - 31.03.2017

There was no improvement in market visibility this week. In the US, relations between the Trump administration and Congress are turning out to be quite complicated. The bill to replace Obamacare had to be withdrawn after the Republican Party’s right wing criticised it for not being bold enough. (English version)

This does not jeopardise further attempts at reform in the US but it will fuel doubts over the administration’s ability to get all its reform programme adopted, including fiscal and infrastructure spending. Meanwhile, the UK triggered article 50, marking the beginning of 2 years of talks with the European Union over Brexit details. 

Economic data showed the upward trend was still in place. Business confidence in Germany (IFO) and consumer morale in the US continued to rise although real data were more mixed. The gap between the two has rarely been so wide. Companies also continued to enjoy favourable fundamentals. The earnings season will kick off in the middle of April. In the meantime, earnings are still riding an up wave as they are being revised higher everywhere and especially in Japan and Europe. Such a strong trend has not been seen in 10 years. 

Equity markets advanced as oil prices rallied although momentum seemed to be faltering a little, notably in the US. We believe micro and macroeconomic factors are still providing strong support but political and geopolitical issues could well weigh on markets, especially as they have performed so well since the beginning of January. As a result, we remain neutral on equity risk but still prefer the eurozone. Yields fell sharply over the week particularly on long maturities. We also remain cautious on core country bonds as markets will start to worry about the ECB’s next moves in the second half of the year and we are neutral on US bonds which have already discounted 2 further Fed rate hikes this year. We continue to prefer European subordinated financial debt and are neutral on corporate bonds. 

  European equities

The week started lower after Donald Trump’s healthcare reform bill foundered, but then recovered as oil prices rallied. Last week's economic figures pointed to an acceleration in PMI data and this week’s IFO reading in Germany continued in the same vein with the index rising from 104.3 to 105.7. 

Earnings continued to be revised higher this week for the 6th week in a row, especially for cyclicals, materials and consumer discretionary. Cyclicals subsequently gained.

In energy, Vallourec and Tullow Oil rebounded sharply. In autos, Daimler struck an optimistic note at its AGM and reaffirmed its earnings and sales growth targets for the full year. The group confirmed its commitment to electric cars and said 10 models were expected to be launched by 2022. Volkswagen said it had reached an agreement with 10 US states to settle Dieselgate court cases. 

In M&A-related news, the European Commission vetoed the Deutsche Börse-LSE merger on the grounds that the deal would have created a monopoly in fixed income clearing. 

After rebuffing two PPG bids, Akzo is to hold an investors day on April 19 to present its new strategy with a focus on its plans to spin off its specialty chemical division. Danone and the US competition watchdog have agreed in principle to finalise last year's acquisition of WhiteWave by the French group. Danone will have to sell Stonyfield, its US organic dairy product subsidiary. 

  US equities

US equity markets had another up week, advancing by 1% mainly on upbeat macro data and a rally in oil prices. Consumer confidence hit 125.6, its highest level since 2007. And home sales remained buoyant in February (+5%). Stanley Fisher, the Fed’s vice chairman, confirmed that he expected to see two more rate hikes this year. The White House withdrew its plans to reform Obamacare - due to lack of a consensus within the Republican Party - and instead announced that it was going to tackle fiscal reform. 

The European Commission gave its conditional approval to the USD 140bn Dow Chemical-DuPont merger. DuPont will first have to sell its pesticide R&D business. Schlumberger unveiled a joint venture with Weatherford in unconventional oil service products and services in the US and Canada. Vertex Pharmaceuticals said its cystic fibrosis treatment had passed clinical trials. Tesla's CEO Elon Musk announced the launch of Neuralink, a start-up specialised in brain-computer interfaces and added that the technology would eventually aim to upload/ download thoughts. 

Eleven S&P sectors ended the period higher. Energy (+2.1%), consumer discretionary (+1.8%), financials (+1.5%) and tech (1.2%) outperformed.  

  Japanese equities

The Japanese equity market fluctuated as investors struggled to find a clear direction due to the yen's moves and the muddy political situation in the US and Japan. The TOPIX dipped 0.2%. The US President’s failure to get his controversial healthcare bill through and a non-transparent donation to a Japanese nationalist school from Japan’s Prime Minister Abe and his wife clouded market sentiment. And yet, Japan’s economic data was rather strong with February’s trade surplus hitting a close to 7-year high above USD7bn thanks to a strong recovery in demand in China.

By sector, the best performer was Oil & Coal Products (+2.2%) while Securities & Commodities dropped 3%.

Kansai Electric Power Co. jumped 11.6% on expectations of a boost to profits after the Osaka High Court overruled a lower court’s injunction that the company should shut down two of its nuclear reactors. The second largest power generator announced an upbeat new profit forecast and surprised investors by saying it would start paying out a dividend again.

On a negative note, Daiwa Securities, the second largest broker in Japan, lost 4.4% on concern about decrease in fee revenue amid receding optimism in global and domestic markets. 

  Emerging markets

GEM markets had a solid run in the first quarter across all zones and domestic currencies also appreciated over the period, led by the Brazilian Real, the Mexico Peso, the Korean Won and the Taiwanese Dollar. And more positive news is expected, particularly in China where growth expectations have been revised higher. The chance of GDP accelerating to 6.8% in the first quarter of 2017 is increasing and that should translate into a further boost for earnings growth compared to the already healthy 15% seen in the last quarter of 2016.

Russia’s central bank (CBR) cut its key rate by 25bp to 9.75% as expected and there should be more to come. The expectation by year-end is 8% and possibly 7% by end 2018. In a vote of confidence, the rouble strengthened after the announcement. The oil price rebound also lent support. The CBR said the move was justified by inflation falling faster than expected, a development which reduces the risk of overshooting the 4% target by end-2017. The bank expects further recovery in the economy with GDP forecast to rise 1-1.5% in 2017 and a further 1.5-2% for both 2018 and 2019.

The assumption is based on oil falling back to USD 40 a barrel, an extremely conservative stance.

 There were several significant corporate news items in China:

- More corporate restructuring is in the air in China. There is a growing rumour of talks between China Shenhua, the coal mining giant, and Datang Power, the power generation company over a possible merger. Together, the two companies would represent around USD 250bn in assets and the new entity would be the largest power generation company in China. Shenhua Group’s power-generation capacity totalled 78.5 gigawatts in 2015 and China Datang 127.2 gigawatts. A combined company would top power behemoth China Huaneng Group’s 160.6 gigawatts. The country had 1.5 terawatts of power capacity in 2015.

- Chinese banks are showing increasing signs of stabilisation in asset quality and profitability. ICBC and CCB published decent FY16 results with upbeat guidance. ICBC said it would be possible for its net interest margin to rise in a moderate monetary policy environment, the bank’s first positive comment on the subject in ages. As for asset quality, non-performing loans mainly come from the Pearl River Delta and Bohai Rim regions. In the Yangtze River Delta, the bank sees signs of recovery. For the moment, systemic risk in China’s banking sector seems less acute. 

  Commodities

The report from the Joint Ministerial Monitoring Committee (JMMC), which checks compliance by OPEC and non-OPEC countries with oil production cuts, held no surprises. It said it was happy with progress with compliance which rose from 86% in January to 94% in February, largely due to efforts from non-OPEC countries. It went on to observe that despite this impressive rate, inventory reduction had still not had an impact because of the refinery maintenance period and increased non-OPEC production, essentially in the US. But the end of the maintenance phase and reduced stocks in tankers waiting for a destination should bring inventories down in coming weeks. The next JMMC in April will allow members to decide if production cuts should be extended for another 6 months.

The weekly inventory report in the US confirmed that inventories were starting to be cleared. The rise was limited to 0.9 million barrels, down from 4.9 million the previous week while the decline in product inventories picked up speed, falling by 6.3 million barrels compared to 4.7 million.

Meanwhile, in Libya, fresh tension showed that it would take time for the country to return to historic output capacity. Production only came to 560,000 b/d compared to 700,000 at the beginning of 2017 and an historic potential of 1.6 million. A steep drop in traders’ long positions has helped clean up the market. Crude Brent consequently bounced to USD 52-53 after hitting a low of 50.

The production stoppages in Escondida in Chile and Grasberg in Indonesia, the two largest copper mines, are being resolved even if the situation on both sites is not entirely clear. Copper prices remained relatively stable during the shutdown, trading between USD 5,800-6,000 a tonne but the stoppages nevertheless helped reduce the surplus production expected in 2017. 

  Corporate debt

 

Credit

Credit markets were reasonably stable over the week. Neither the withdrawal of the Obamacare reform bill nor the UK’s triggering of article 50 disrupted European credit markets which continued to ride on favourable technical factors and fundamentals. The Xover even tightened slightly before returning to around 294bp. The iTraxx Main also ended the week unchanged at 75bp. But the new issues market was as busy as last week with 7 big new deals ahead of expected issues from Telia and Fromageries Bel

To fund its acquisition of Lavendon, Loxam (services) issued two bonds, a Senior Secured 7NC3 for EUR 560m and a subordinated 8NC3 for EUR 250m. Nets (Ba2/BB+, payment services) raised EUR 350m with a 2024 maturity to refinance existing debt. In energy, Motor Oil Finance raised EUR 350m with a 5NC2 due 2022 and Saipem EUR 500m also due 2022 to refinance existing debt. In industrials, Nexans (BB, cables) raised EUR 200m due 2024, K+S (potassium and rock salt Ba1/BB+) EUR 400m due 2023 and Aston Martin a total of GBP 530m. In financials, there were Tier 2 bonds from Switzerland’s Helvetia (insurance, and a group new to euro-denominated issues) as well as Bankinter

Convertibles 

There was a little more breathing room in the primary market with only one deal this week. US-based company, Carbonite, which offers cloud backup and recovery solutions for small and midsize business, issued a USD 125m 5Y convertible. The proceeds will be used on share repurchases, the repayment of revolving credit facilities and potentially on M&A.

This was the last new issue in the first quarter and the conclusion is clear: 51 deals versus 41 for the same period last year (nearly two-thirds from the US) with USD 20.5bn in new supply compared with 10.6bn in the first quarter of 2016.

In the news this week, the Czech power conglomerate, CEZ, decided to tender for its 2017 exchangeable bond while in the meantime selling the underlying block of shares in MOL (the Hungarian oil and gas group). CEZ estimates that the sale of this stake could boost pre-tax profit by CzK 3.4bn in 2017. After short-seller Muddy Waters’ recent move on Casino, Gotham City this week targeted German asset manager, Aurelius, by releasing a report claiming that the shares were worth just EUR 8.6 (compared with an undisturbed price of 67) owing to understated contingent liabilities and irreconcilable earnings numbers. Aurelius shares fell almost 50% in two days with the convertible down over 30 points before Gotham City announced it had covered its short position.

In Asia, internet giant Tencent announced that it had acquired a 5% stake in electric car manufacturer, Tesla, making it the 5th largest shareholder: Tencent is part of the consortium behind the Chinese ride-sharing service, Didi Chuxing, so there is an opportunity for future cooperation with Tesla on AI technology and data mining for autonomous cars.

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