Catalonia sets the pace

Analyse de marché - 20/10/2017

The tussle between Madrid and Catalonia dominated news this week. Following various ultimatums, both sides seemed to be moving towards a conflict. Carles Puigdemont refused to clearly declare independence but said he would if Madrid withdrew the region’s autonomous status and imposed direct rule. Mariano Rajoy’s response seemed to favour triggering article 155 of the Spanish constitution. But the impact on markets was less marked mainly because such a move had already been discounted and was seen as a non-systemic event for the eurozone.

Government bond yields were relatively stable and Spanish bond yields only edged higher. However volatility could rise on Spanish spreads pending a solution to the deadlock. Spanish equities drifted lower but no more so than the rest of the eurozone. The move lower was almost certainly the result of profit taking and a batch of disappointing results, especially in the consumer sector. 

Meanwhile, in the US, hopes for an agreement on tax reform before the end of the year rose after an agreement on healthcare reform and the Senate’s approval of the budget. However, ALENA seems doomed. The area where Donald Trump has the most say, and the most vehemently expressed opinions, is foreign trade and especially renegotiations on existing free trade agreements. As a result of the president sticking to his determination for more protectionism, the deadline on ALENA renegotiations has been extended to the end of March 2018. 

But all these developments failed to disrupt the new earnings season. So far so good: no accidents and major US banks even managed to beat estimates. However, the recent hurricanes have left a trace and expectations have been revised lower. EPS growth is now seen at +4.1%, a level which strikes us as more reasonable. In Europe, expectations are higher, with +8% pencilled in for the third quarter (compared to the previous year). 

We remain upbeat on equities, especially in the eurozone and in Japan. We have also been slightly increasing exposure to Spain. 

  European equities

European equities were largely unchanged over the week. Prices moved in line with third quarter results and news on political procrastination over Catalonia from Madrid and Barcelona. 

In the consumer sector, there was a marked contrast between robust results from luxury companies (sales at LVMH jumped 13% in the third quarter) and wines and spirits (Pernod Ricard and Rémy Cointreau) on the one hand, and lethargic trading among consumer discretionary groups on the other.

Both Unilever and Reckitt Benckiser, for example, missed expectations. Danone failed to reassure investors on growth prospects in dairy products, and recently acquired WhiteWave, even though an 18% surge in specialist nutrition fuelled like-for-like growth. Carrefour’s growth momentum is still fragile in France where hypermarkets and supermarkets are losing their appeal and it is deteriorating in Spain due to fresh competitive pressure from rival Mercadona. And in Brazil, growth has stalled due to food deflation. The stock, however, reacted positively, no doubt due to some investors gearing up for an end-2017 investors’ day during which the new CEO Alexandre Bompard will detail his recovery strategy. In comparison, Casino’s results looked more solid, especially in its French supermarkets, in Brazil and in online shopping. 

In the media sector, Publicis missed expectations for like-for-like growth in sales. Growth returned in North America, up 3% after a 2.4% dip in the first half, but lost steam in Europe, dropping 1.5% after +3.2% in the first quarter and +5.5% in the second. Conditions remained soft in Latin America and Asia. The punishment the stock suffered looks severe but reflects investor doubts over (i) the short term outlook (the figures make the company's annual targets now look more ambitious), (ii) organisational aspects (the impact of reorganisation on business) and (iii) structural factors like the emergence of new rivals. Elsewhere, AkzoNobel (chemicals) and Kion (forklift trucks) issued profit warnings while unfavourable currency effects started to weigh on companies like SAP

In M&A news, Airbus unveiled a partnership with Bombardier to acquire a majority in the CSeries programme without cash changing hands and Prysmian’s bid on General Cable was another sign of cable sector consolidation in Europe. Nexans logically rose on the news. 

  US equities

The S&P rose 0.4% on upbeat macroeconomic figures and encouraging third quarter earnings. Industrial production rose 0.3%, the Philly Fed came in at 28, or well above the 22 expected, while weekly jobless claims were lower than estimated. To cap it all, the Senate adopted a budgetary resolution which should speed up Congress’s discussion of tax reform. 

In company news, Adobe soared 12% after raising guidance due to the success of its artificial intelligence solutions. IBM jumped 10% on excellent results which saw its strategic imperatives business grow 10%, up from +7% in the previous quarter. Apple came under attack after a newspaper report claimed that orders to its supply chain had fallen. After their quarterly results, Alcoa fell 2.5%, Philip Morris dropped 4% and United Continental slumped 12%. The Bombardier saga continued with Airbus taking a stake in the CSeries programme, a move that will help reinforce its sales appeal and improve cost structures. 

Over the last 5 trading sessions, healthcare and tech led advances while energy and consumer staples lost ground. 

  Japanese equities

Over the week, the TOPIX gained 1.25%, rising for nine days in a row while the Nikkei 225 advanced for thirteen straight sessions on Thursday, marking its longest period of gains since the 1988 bubble period. Markets were spurred by Wall Street hitting new record highs and further Yen weakness against the US Dollar. Upbeat market sentiment continued from last week on brisk domestic company earnings. The weaker Yen boosted exporters and large caps were strong. The market also liked the fact that, ahead of Lower House elections, PM Shinzo Abe’s LDP Party continued to lead other parties such as Tokyo Metropolitan Governor Yuriko Koike’s Party of Hope in the opinion polls.

By sector, the best performers for the week were Iron & Steel (+3.91%), Insurance (+3.41%), and Land Transportation (+2.44%). Steel makers Sumitomo Metal Mining (+7.49%), JFE Holdings (+4.90%) and Nippon Steel & Sumitomo Metal (+4.71%) rebounded after falling in the previous week. Insurance companies such as Tokio Marine Holdings (+4.79%) and T&D Holdings (+4.16%) gained ground on rising US long term yields.

On the other hand, Marine Transportation (-1.18%) and Services (-0.79%) fell over the period. Unicharm, domestic leader in baby and child care products, fell 1.45% and game maker Nintendo slipped 1.40%. 

  Emerging markets

In emerging markets, the highlight was the much-awaited 19th Congress of the Chinese Communist Party. In his opening speech, President Xi outlined his vision for his next term of office. The focus was not on GDP growth, but on the quality of growth, well-balanced development, supply reform, anti-pollution measures and innovation. In our view, it was a positive speech.

In India, asset quality reality checks by the Reserve Bank of India are still proving painful for Indian banks: Axis Bank’s results declined by 68% due to NPLs increasing by 25% QoQ to 5.9% and with a lower coverage ratio (49%).

We should expect similar trends for others Indian banks as the RBI is forcing them to recognize fully their actual NPLs. Indian cement companies reported a good set of results: +51% EBITDA growth for ACC and +17% for Ultratech (with synergies starting to kick in from the Jaiprakash acquisition). Even if Wipro released a better-than-expected 6% rise YoY sales, demand for IT services remained soft with revenue growth still running at a modest 5.1%.

In Taiwan, TSMC reported good results, in line with expectations.

In Brazil, federal tax revenues surprised on the upside, increasing by 8.7% YoY thanks to the autos sector.

In Mexico, round 4 of the NAFTA renegotiations ended with mixed feelings. We continue to believe that the talks will try to keep the trade agreement in place but with some updates. Elsewhere, Banorte reported solid, above consensus results thanks to strong sales. Earnings surged 25% and ROE hit 22%. Walmex and Asur also posted upbeat results.

We remain positive on emerging markets. 

  Commodities

Recent tensions between Donald trump and Kim Jong-un may not have impacted oil prices but developments in Iraqi Kurdistan certainly have. The September 25 referendum on the region’s independence triggered a muscled response from Baghdad which mobilised its army, particularly in Kirkuk which also happens to be the biggest Iraqi oil field (600,000 b/d).More than half of output has been idled since the beginning of the Iraqi offensive. The oil is despatched by pipeline from northern Iraq to the port of Ceyhan via Turkey. But although the Iraqi army has retaken Kirkuk and its oil field, exports have not resumed as it does not control the pipeline. 

Meanwhile, US crude inventories have now fallen 15% since the March 2017 peak. This is due to rising exports helped by WTI trading at a 10% discount, or close to $6, compared to Brent crude. The DoE’s monthly Drilling Productivity Report confirmed that shale oil growth was slackening due to natural decline rates for existing production gradually increasing and lower productivity in new wells. Oil price normalisation is now ongoing which is why Brent crude has been trading at higher levels of $56-58 since the Kurdish referendum. However, caution is the watchword and OPEC countries seem to be moving more and more towards an extension of the output cut which is due to run out at the end of March 2018. 

Elsewhere, copper moved back above $7,000/tonne -for the first time since September 2014- but then saw slight profit taking. The Chinese Communist Party’s 19th Congress decided on no major changes. As far as commodities are concerned, the Chinese focus is still on reforms to reduce overcapacity and efforts to reinforce infrastructure. Any subsequent increase in utilisation rates is generally good for commodity prices. 

  Corporate debt

 

Credit

The Xover tightened by 2bp over the week. On a rather active new issues market, CMA CGM (B1/B+), one of the world’s biggest shipping companies, issued a 7-year senior bond for €300m. Europcar (B1/B+), a European car rental company, did the same but for €600m. Salini (BB+/BB), a leading Italian construction company, followed suit with a €500m issue and a 1.75% coupon. Wind Tre (BB-/B+), an Italian mobile phone company, said it intended to issue senior debt in several euro and US dollar tranches with maturities between 5 and 8 years and for a total of about €7.3bn. 

In company news, Casino (BB+) saw like-for-like sales at its Cdiscount shops jump 18% in the third quarter. Rémy Cointreau (Baa3/ BB+) released very satisfactory half-year results for 2017/18. Like-for-like sales rose 7% and Maison Rémy Martin jumped 15.4%. 

After the partnership between Bombardier (B2/B-) and Airbus (A2/A+), some production could shift to Airbus sites in Alabama with the hope that the US might ease its antidumping investigations. 

Spanish construction company OHL (Caa1) intends to sell its entire stake in OHL Concesiones to Australian infrastructure fund IFM for €2.23bn. That will allow OHL to repay all its gross debt (€1.38bn as of June 30). T-Mobile US and Sprint, which are controlled by Deutsche Telekom (Baa1/BBB+) and Softbank (Ba1/BB+) respectively, are to announce a merger which will initially incur no asset sales.  

Convertibles 

The beginning of the earnings season led to a pause in new convertible issuance. Severstal reported solid third quarter results with FCF up 40% QoQ thanks to a working capital release. As a result, net leverage fell to just 0.3 times.

In Japan, Terumo revised up its first half guidance, lifting its EBIT target by 21% to JPY 47bn on strong performance in its catheter business. Aroundtown raised €450m of new capital to fund its growth strategy.

Ctrip.com shares plummeted 8.5% after Priceline contributed $450m to a round of financing for Meituan-Dianping, its Chinese e-commerce competitor. Air France’s 2023 convertible was called by the company as trigger conditions were met.

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