US-China tariffs upstage Central Banks

Market analysis - 8/2/2019

It was a difficult week on equity markets although investors should have been reassured by the Fed which cut its rates by 0.25%. Instead, they were thrown off balance by Jerome Powell’s accompanying comments which failed to provide a clear endorsement of a series of cuts in the months ahead.

The mood was also darkened by the increasing likelihood of a hard Brexit and a worrying fall in sterling. And then Donald Trump decided to add an extra 10% in import duties to $300bn of Chinese imports.

All this occurred alongside rather reassuring company results, albeit on mediocre expectations, but the evidence elsewhere pointed to a deterioration. Industrial ISM in the US fell while manufacturing data in Germany slipped to 43.2, and in France to below 50.

Consumer spending may be holding up and activity is being bolstered by central banks and budget policies, but the risk that things might deteriorate has led us to maintain a defensive bias by reducing European equity weightings. 

  European equities

The US-China trade conflict resurfaced, overshadowing the Fed’s rate cut. Markets turned lower after Donald Trump said he would slap an additional 10% on $300bn of Chinese imports from September 1st. Long bond yields continued to fall with the 10-year Bund moving towards minus 0.5%.

Disappointing manufacturing data had previously made few waves amid generally satisfactory company results. 54.8% of EPS data were positive surprises vs. an average of 50% since 2011 while 58% of sales beat expectations vs. an average of 42% since the same year. However, results from German cyclicals were generally poor. Siemens, for example, saw margins fall at its Digital Factory division. Bayer also said the outlook for its Crop-Science unit had deteriorated and warned on guidance for 2019. Banks recovered over the week after Société Générale reported reassuring figures on solvency ratios and its capacity to pay a cash dividend. In contrast, L’Oréal missed expectations as sales fell in the US. Oil services stood out amid a wave of new contract wins. Adidas rose after Puma’s CEO said its key US and Chinese markets were enjoying strong demand. Sanofi surprised investors by raising its annual forecasts.

LSE is buying Refinitiv. Deutsche Telekom continued to be rerated after the approval of the Sprint/T-Mobile merger highlighted to what extent its historic operator role was undervalued. EssilorLuxottica recovered after reiterating its full-year guidance and unveiling its €7.2bn acquisition of GrandVision. 

  US equities

The period ended with big shifts. The S&P 500 lost 2.4% and the Nasdaq was off 2.7% as of 01 August close.

Volatility rebounded and, for the first time this year, the S&P500 moved from +1% to minus 1% intraday. Markets had already largely discounted the Fed’s 25bp cut and chose instead to focus on the press conference. They reacted badly when Jerome Powell dismissed the idea that this move was the beginning of a monetary easing cycle. And then Donald Trump’s decision to slap an extra 10% in tariffs on $300bn-worth of Chinese imports from September 1st triggered a sell-off.

Sector performance dispersion remained high. Cyclicals like financials, industrials and energy fell sharply while momentum and defensives plays like software, utilities and consumer staples were in demand. Over the week, listed property stocks and gold mines outperformed while consumer discretionary, industrials and energy underperformed.

WTI closed at $53.7, down 4.5% over the week due to fresh trade tensions and their possible impact on global growth.

In company news, 76% of second quarter earnings reports already in have beaten expectations while only 58% have beaten expectations of sales growth. Downward revisions for the third quarter continued to rise, suggesting that expected earnings for the fourth quarter and 2020 are too high. General Electric missed consensus expectations due to lower margins in its industrial and renewable energy divisions but the group revised its guidance for 2019 higher. Telecoms giant Verizon posted mixed results: revenues and EBITDA were lower than expected but its mobile phone subscriber base increased by a notable 450,000.  

  Japanese equities

The Bank of Japan maintained large-scale easing at its end of July monetary policy meeting. However, Governor Kuroda hinted at further easing by adding a reference to further action “without hesitation” should momentum towards its CPI target dampen. This was interpreted as keeping options open.

Japanese equity markets were cautious on investor concerns over April-June earnings and the risk of yen appreciation against the US dollar. The TOPIX declined 0.27% for the week. Lingering US-China trade worries and worsening relations between Japan and South Korea added negative pressure.

Pharmaceuticals outperformed the market. Daiichi Sankyo surged 9.16% on strong earnings. But consumer stocks, previously resilient, lost ground. Kao Corporation and Shiseido shed 6.25% and 4.53% on fears of lower sales in China. Yamato Holdings (land transformation) also tumbled on disappointing earnings. 

  Emerging markets

Emerging markets fell on fresh concerns over US-China trade tensions and the Fed’s hawkish cut. Donald Trump announced an additional 10% in tariffs on $300 billion-worth of Chinese imports, while describing trade talks in Shanghai as “constructive”. China has pledged to retaliate while negotiators from both sides plan to meet again in early September in Washington.

In China, the Politburo meeting appeared to turn more cautious about the economic outlook after acknowledging new downward pressure on growth and a refocusing on stabilisation measures to tackle challenges from trade frictions. Nevertheless, it reiterated its stricter stance on the property sector: the housing market would not be part of a short-term policy stimulus package. Official PMI came in at 49.7 vs consensus expectations of 49.6 and 49.4 previously. On the corporate front, Huawei said it had already recovered 80% of overseas mobile phone sales lost since the ban. The group posted a 23.2% increase in revenue for the first half. Its consumer division now represents over 40% of sales.

Indian auto maker Maruti's earlier expectations of 4% growth in the industry are off the table as local press reports have been vocal about job losses and dealership shutdowns due to a slowdown. In the financial sector, ICICI Bank’s results showed improvements on both growth and asset quality while Axis Bank’s results were hit by bigger provisions and higher NPL write-offs.

South Korea has been taken off Japan’s preferential trading partner list as escalating tensions between the two US allies threaten to damage security ties and global supply lines. Opinion polling shows that both Moon and Abe have won support at home for taking a tough stand on the matter. Samsung SDI reported better-than-expected second-quarter results and management said it was confident for the second half, citing energy storage business normalization and a pick-up in EV batteries. Samsung Electronics reported encouraging second quarter results and said data center clients had resumed placing memory orders on normalised inventory. However, the update on its shareholder return policy to early 2020 has been put back due to poor visibility.

Russia’s central bank cut its benchmark rate to 7.25% from 7.5%, or in line with expectations. Referring to its 6-7% target, it signaled more easing to come as inflation slowed.

In Brazil, the Selic (interbank interest rate) was cut by 50bp vs consensus expectations of 25bp. The equity market rallied while the Brazilian Real weakened on expectations of more easing. The market is now waiting to see how the economy reacts to pension reform approval. On the corporate front, Brazilian retailer Lojas Renner missed expectations while Cielo reacted positively to media reports that Brazil’s state-controlled bank Banco do Brasil was mulling the sale of its stake to Bradesco.

In Argentina, Mauricio Macri led the primary election campaign while Alberto Fernandez said his government would stop paying interest on central bank notes if he won this year's elections. He also said he would raise pensions by 20%. 

  Corporate debt



The Fed’s message was deemed less accommodating than expected and markets retreated. Jerome Powell cut rates by 0.25% but doused hopes of a prolonged rate-cutting cycle in the US. Brexit uncertainty and fresh US-China tensions also put pressure on spreads. The Xover widened by 13bp and the Main by 4bp between Monday and Thursday.

Refinitiv's bonds outperformed after the London Stock Exchange Group launched a $27bn bid on the financial data company. Teva's bonds rose after Pfizer said it was going to merge its non-patented drugs business with Mylan. Thomas Cook also performed well after Turkish tour operator suite Neset Kockar bought a 6.7% stake. Wind Tre’s bonds jumped around 4 points after CK Hutchison said it would refinance them via a new investment grade vehicle.

Elsewhere, Schaeffler issued a profit warning for 2019 and is now expecting overall auto production to fall by 4% vs. minus 1% previously. The figures dragged down the entire car suppliers sector. Altice’s bonds rose after EBIDTA growth picked up speed in the second quarter and 2019 objectives were revised higher, particularly operating cash flow. Smurfit Kappa posted an upbeat 17% rise in EBITDA and Recordati maintained momentum with a 5% rise in sales across all geographical zones.

In financials, Credit Suisse reported a surprising 26% increase in net results for the year. Particularly strong performance came from its Global Markets and International Wealth Management divisions with net inflows for the latter of CHF9.5bn. BNP Paribas also beat expectations: corporate and investment banking recovered and the cost cutting programme continued.

The new issues market was slow. Ardagh raised the equivalent of $1.8bn in 3 tranches over 7 and 8 years to refinance its 7.25% 2024 maturity which is to be repaid early. Swissport (airports) is to refinance part of its debt with a new line of credit and a bond issue including €280m in unsecured debt (CCC rating). 


There were two new issues this week. LG Display (digital LCD for mobile phones and OLEDs) raised $688m at 1.5% and with a 26% premium. JP Morgan’s much-awaited exchangeable bond into Tencent shares raised $400m over 3 years with a 25% premium. The issue saw very heavy demand.

In results, Akamai (infrastructure software) posted better-than-expected sales and earnings. Nuvasive (medical equipment) also released excellent figures, particularly in spine surgery, an area which accounts for 54% of sales and where management sees growth of 3.8-5.8%. Air France also reported an upbeat 6% YoY rise in EBIT to €400m.

Disappointments included Ence (paper pulp) which once again fell short and worried convertible holders with indications that legal work over the loss of a concession could last up to 4 years. Glencore was hit by cobalt price falls, missed copper output targets in Africa and production difficulties at its Katanga zinc and nickel mine.

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