Encouraging economic pointers from quarterly results and the FED meeting

Asset Management - 29/07/2016

In spite of mixed US data and a sharp fall in oil prices following US weekly inventories, equity markets managed to stabilize after several up weeks.
Commodities Corporate

In spite of mixed US data and a sharp fall in oil prices following US weekly inventories, equity markets managed to stabilize after several up weeks. This was due to encouraging economic pointers from quarterly results and the FED meeting.

Both in the US and in Europe, companies have proved resilient to global head winds and posted better-than-expected results with cyclicals outperforming more defensive sectors.

In addition, the FOMC statement was more optimistic. In June, the FED had postponed action on rates due to slowing job creation but it has now been reassured by a rebound in economic activity and signs that the labour market is once again picking up speed. Overall inflation is still depressed by energy prices but underlying inflation is on track and quite close to targeted levels. In fact, by referring to more or less balanced risks rather than just balanced risks previously, the FED's message is now a little close to a rate hike before the end of 2016. Elsewhere, July’s confidence indices underpinned positive macro data in the eurozone.

Over in Japan, the Bank of Japan (BoJ) adjusted its monetary policy, arguing that the UK’s decision to leave the EU had increased global economic uncertainties. Markets were disappointed that the bank failed to increase its asset purchase plan but it did raise the amount that could go on market-listed funds like ETFs and its US dollar lending programme. This news came two days after PM Shinzo Abe announced a massive stimulus programme. The bank hopes that these monetary measures, along with government initiatives, will create synergies in the economy. But there are doubts over the programme’s efficiency, especially as actual spending in coming quarters will only represent a fraction of the overall amount.

In our asset allocation, we remain slightly overweight equities. We have, however, trimmed exposure to European high yield bonds following strong performance. We have also taken profits on our US Treasury shorts following tension on sovereign bond yields.



  European equities

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A crop of earnings reports failed to extend the rally which had practically taken European markets to pre-Brexit levels.

Oil companies weighed as disappointing figures from Shell and a profit warning from Saipem offset good news from Total, which reported results 20% above expectations, and Neste Oil.

But autos gained from Michelin which reported record first half margins of 13.7% vs. 12% in the first quarter due to excellent cost control and in spite of a negative price mix. Peugeot posted spectacular margins of 6.7%, well above consensus estimates of 5.4%.

Rolls Royce also swept past expectations thanks to robust sales in its civil aviation division and faster cost reductions and deliveries. Airbus also had a good half as programme problems moved towards resolution.

Atos posted like-for-like sales up 1.8% in the first half with EBIT margins at 7.8%, up from 7.6%. The group has upped its targets for 2016.

Telecom Italia posted reassuring, better-than-expected second quarter results both as regards sales and EBITDA. The group has slightly increased its guidance on EBITDA for the full year.

Kering (luxury) beat expectations mainly thanks to Gucci which saw like-for-like sales rise 7.4% in the second quarter. LVMH posted an impressive 13% rise in Wines & Spirits in the second quarter and strong momentum in Perfumes & Cosmetics (+6%).

BASF slightly missed expectations but performance chemicals continued to improve sharply and the group has maintained the outlook for 2016.

Reckitt Benckiser’s like-for-like growth was disappointing but margins were reassuring. It was the same story at L’Oréal but sales nonetheless rose 4.3% albeit lower than consensus expectations of +4.6%.

In healthcare, Sanofi's results were in line while Bayer's EBITDA edged higher, enabling the group to raise annual guidance. In contrast, Essilor's like-for-like growth in the second quarter came in at 3%, down from 5% in the previous quarter.

Unlike Diageo which released excellent figures, Anheuser Bush InBev’s second quarter was a little soft but all eyes are now on the deal with SABMiller.



  US equities

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Indices edged higher over the last 5 trading sessions with the S&P500 0.2% better on strong performance from tech and commodity stocks. Energy slipped due to falling oil prices.

The FED opted for the status quo and left its key rate unchanged at 0.5%. It did, however, say short term risks had diminished, thus opening the way for a hike this year. It added that the US was enjoying moderate growth rates with significant job creation in June and rising household spending. June new home sales came in at 592,000 up from 572,000 and higher than the expected 560,000. This represents a 25.4% YoY rise and is the first time since February 2008 that sales have hit this level. The US property market is clearly still dynamic.

Companies in cyclical sectors like property (Masco, Owens Corning), metals (US Steel, Allegheny Technology) and capital goods (Caterpillar, United Technologies and Oshkosh) posted good quality results that were slightly better than expected. Apple beat expectations, reported reassuring margins and said that its iPhone SE had got off to an excellent start.

Deal making returned to the tech sector with Analog Devices (semiconductors) acquiring Linear Technology for USD 15bn, a 24% premium. Software giant Oracle paid USD 9bn for Netsuite.




  Japanese equities

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Amid growing speculation whether the BoJ would go for additional monetary easing at its month end meeting, the Topix ended the week 2.4% lower. Nintendo dragged the Topix top 100 stocks down with a 24.7% plunge, a contrast with the previous week’s surge on Pokemon gaming enthusiasm. Shares in Itochu were hit when a US activist fund suggested in a report that the trading company might have to make impairment losses on its coal mine in Latin America, fanning fears of a corporate accounting fraud on the scale of the Toshiba case.

Investors also shunned financial stocks, because any extension to negative rate policy would squeeze bank profits further. On a positive note, Shin-Etsu Chemical hit a year high after surging 9.9% on better-than-expected FY2015 results and upbeat prospects for FY2016.



  Emerging markets

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Emerging markets gained 0.5% in USD. In Asia, Indonesia was in focus after approving the long-awaited tax amnesty. That, and expectations of lower interest rates, kept us positive on Indonesia.

In India, 30% of the companies have now posted results with 50% beating expectations: industrials and materials reported most beats, and financials and utilities most misses. A significant outperformer was Eicher Motors which jumped 10% over the week after announcing a 68% increase in EBITDA. The Indian market was also boosted by the news that the monsoon Parliament session may vote on the long awaited Goods and Services Tax bill.

In Korea, Samsung announced the 4th and final phase of its KRW 1.8 trillion share buyback programme. The world's largest maker of smartphones and semiconductors reported its biggest quarterly operating profit in more than two years, boosted by robust sales of its latest premium smartphone and cost-cutting efforts.

Latin America had a busy week in terms of second quarter results. In Brazil, they were better than expected, especially due to lower costs and higher top lines. The only exceptions were Bradesco and GPA. Bradesco revised up its guidance on provisions. Elsewhere, Petrobras announced the sale of USD 2.5bn in assets, a move we view as positive as it will reduce debt on its balance sheet. In Mexico, results were in line with expectations. Nevertheless, airports surprised again positively on commercial revenues due to strong passenger traffic. America Movil reported weak results as tougher regulation resulted in a lower EBITDA margin.




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Oil prices fell further while gold stabilized and iron ore prices rallied.

Since briefly breaking above USD 50 at the beginning of June, Brent crude and WTI have been retreating and are now flirting with USD 40, a level last seen at the beginning of April. And yet supply and demand fundamentals have improved. In fact, two developments in the US are worrying markets over the short term, a certain revival in drilling operations and high petrol inventories. After hitting a low of 316 at the end of May, the oil rig count has risen 17% to 371. Half of this increase comes from the Permian site in East Texas where resources and profitability are superior. But it would require a minimum count of 550 to stabilize shale oil production which will, as a result, continue to fall. It is expected to hit a low around 4 million b/d in the first quarter of 2017 compared to peak levels of 5.3 million b/d in March 2015. As for high petrol stocks, over-production from refiners is responsible. But recent global auto sales, up 5.6% in June, and General Motor’s move to raise expectations due to strong sales of trucks and SUVs augur well for future demand. In our view, prices are close to lows.

Gold, meanwhile, is still range-bound between USD 1,300 and 1,350/oz. ETF flows have stabilized. Note that gold mines had a buoyant second quarter with strong cash flow generation.

After last week’s drop, iron ore moved back above USD 60/tonne. Stocks held in China’s ports are running at a very high 180m tonnes but results from US steel and ArcelorMittal reflect strong demand in Europe.



  Corporate debt

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Credit markets enjoyed a rather positive week overall with financials performing particularly well. Credit spreads tightened due to a number of factors: changing bank regulations, rumoured support for Monte Paschi and UniCredit’s increase of capital, probable Bank of Japan stimulus and upbeat earnings in the luxury, autos, aerospace and tech sectors.

Ahead of the summer break, the new issues market remained busy. Bulgarian utility Energy Holding issued a 5-year bond and Ineos sold a bond with euro and US dollar tranches for the equivalent of EUR 1.1bn to refinance its short term debt. EDF's half-yearly results were slightly above expectations and the group said it was extending the lives of its power stations with the exception of Fessenheim. It also said that Hinkley Point C was definitely going to be launched while announcing that it was in exclusive talks with CDC to sell half of RTE and was making progress in the Fessenheim compensation process. Elsewhere, S&P downgraded SGL Carbon by two notches from B to CCC+.

Accor’s results fell short of expectations due primarily to poor performance in Paris and in Brazil. Obrascon is in talks with an investment fund to launch a joint bid on OHL Mexico. Europcar had a poor second quarter and has reduced guidance for the full year. Following buoyant auto sector results, Faurecia revised its annual targets higher.

In financial debt, AT1 bonds performed well. The ECB confirmed that it was splitting Pillar 2 (Pillar 2 Requirements and Pillar Recommendations), a decision that will reduce the probability of non-payment of bond coupons.


Q2 is underway with 1/3 of companies globally having reported results: 82% of S&P companies beat EPS estimates (mostly explained by rebounding oil prices and the weaker dollar) and 58% of Eurostoxx companies. Valeo posted operating profit 3% above consensus at 647 million euros versus 538 million euros one year ago. Targets for 2016 were confirmed despite some uncertainty surrounding the Brexit vote consequences which may affect the European Auto Market. Nonetheless, management highlighted that margin should be higher in H2 due to seasonality. Outokumpu was up 10.5% after strong Q2 results with improving deliveries in its American division, cost cutting and working capital release of 117 million EUR which all contributed to further deleveraging of the balance sheet. In Japan, Sony reported a surprisingly strong net profit of 21.2 billion Yen thanks to strong PS4 games sales which offset weakness in image-sensors. It also revised downward the one-time cost of Kumamoto earthquakes (80 billion from 115 billion) and maintained its annual earnings target based on a forecast of 103 Yen to the dollar.

On the CB primary market, Citi issued a 374.2 Million Euro Exchangeable into Telekom Austria. This 0.5% coupon paper is due 2023 with 40% premium. In brief also, America Movil reduced its stake in Telekom Austria by 7.8%, complying with its engagement with Austria to increase TKA’s free float to 20%.

Written on 29/07/2016

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