The earnings season provides support

Market analysis - 4/20/2018

Geopolitical risk threatened at the start of the week due to air strikes on Syrian facilities, but markets were largely unaffected when tension failed to escalate, especially with Russia.

Equity markets trended higher on upbeat company results, led by Netflix which sent most of the tech sector up. In a good week for commodities, oil prices returned to 2014 levels, helping oil stocks gain around 3% in the US and in Europe. After a particularly calm start to the week on bond markets, US and European sovereign yields surged on Thursday. Long rates increased by more than short rates, causing the yield curve to steepen.

The IMF raised its 2018 growth forecasts for the US and Europe by 20bp and confirmed that developed countries would grow above their potential this year and next. However, it added that there was a chance the outlook would subsequently be revised lower. The Fed’s Beige Book also pointed to buoyant economic conditions thanks to tax reform and in spite of worries over protectionism. The final eurozone inflation reading for March was unchanged at 1% and investors are not expecting much from the upcoming ECB meeting.

China’s central bank unexpectedly cut its required reserves ratio for its major banks by 1%. This is not at odds with its financial clean-up efforts but rather shows the PBoC has the means to steer monetary policy so as to avoid any brutal growth accidents. China's first quarter GDP growth had previously come in at an annualised 6.8%, or as expected.

We are sticking with our asset allocation choices and still prefer equities amid a positive start to the earnings season. We remain cautious on 10-year government bonds.

  European equities

Commodities rose further due to international tension, and long bond yields rebounded sharply. Energy, materials and financials benefited but more defensive, interest-rate sensitive stocks came under pressure.

The first quarter earnings season kicked off with generally upbeat results. Currency effects were damaging but confirmation of a jump in like-for-like growth at companies like Schneider, Accor and Edenred generally offset this, and sometimes did more than compensate.

Publicis rose on short covering when internal growth improved to 1.6% in the first quarter.The advertising and media sectors were also lifted by much stronger European sales at Omnicom. WPP, which sacked its CEO over the previous weekend, was the exception.

Sweden’s Ericsson (telecom equipment) surged after first quarter figures blew past expectations, a sign that the group's cost restructuring efforts were starting to bear fruit. Gross margins bounced back to 35.9%, up from 18.7% last year.

Continental revised its annual EBIT target lower by €150m due to currency effects and stock write-downs. The semiconductor sector retreated after Taiwan’s TSMC warned on softness in the mobile market.

At Vivendi's AGM, the group once again talked about a possible IPO for UMG which saw streaming grow by over 30% in the first quarter. There was also some talk of Vincent Bolloré being replaced by his son. After selling some of its international radio division, Lagardère started exclusive talks with Czech Media on a sale of part of its newspaper and magazine division. FNAC-Darty’s first-quarter sales beat estimates and the group unveiled an agreement with Google to develop sales outlets and an alliance with French e-commerce companies to create “French Days”, a French version of Black Friday.

Total is to acquire Direct Energie, France’s largest alternative energy provider, for €2.5bn. Sanofi is in exclusive talks to sell Zentiva to Advent for €1.9bn while Shire has sold its oncology interests to Servier for $2.4bn. According to Bloomberg, Bouygues and a financial partner would like to buy SFR from Altice, but Bouygues denied the rumour. Whitbread jumped after the activist Elliott fund became its biggest shareholder.

  US equities

The S&P gained 1.4% and the Nasdaq 1.8%, extending the YTD performance gap between the two, with the first up less than 1% and the second 5% better. Thanks to a lull in controversial tweets from Donald Trump, markets were able to focus on quarterly results. At the macro level, March retail sales rose 0.6% on the previous month, or better than the 0.4% expected. Industrial production was up 0.5% and housing starts 1.9%.

The results season was in full swing. Major banks like Citi, JP Morgan, Bank of America, Goldman Sachs and Morgan Stanley mostly beat expectations on strong equity division performance. But their shares then underperformed as investors refused to extrapolate these upbeat figures over the rest of the year. Goldman came in for particularly strong selling after suspending its share buyback programme. Amex reported an impressive 10% rise in its US business and a 14% surge in lending. Cyclicals reported excellent figures, whether in transport (CSX, CP, United Airlines), media (Netflix) or commodities (Alcoa). But some defensives disappointed. IBM sank 7% due to persistently tepid like-for-like growth, Procter and Gamble lost 4% and Philip Morris tumbled 15% when its electronic cigarette division reported sales of $9bn, or much less than the $13bn expected.

Over the last 5 trading sessions, energy and utilities were the best performing sectors. Consumer staples and financials ended the period lower.

  Japanese equities

The TOPIX advanced 1.20% on improved market sentiment as worries over North Korea receded and the Japan-US summit ended with no serious problems between the two countries.

With the yen stable at 107 to the US dollar, economic-sensitive sectors such as Oil & Coal Products (+4.08%), Nonferrous Metals (+3.50%) and Precision Instruments (+2.79%) outperformed the TOPIX. Sumitomo Metal & Mining gained 8.05% and chemical company Asahi-Kasei rose 4.34%. Nitto Denko put on 4.06%.

At the same time, due to uncertainty in the external investment environment, Electric Power & Gas (+3.64%) also outperformed; risk-averse investors focused on domestic demand-oriented defensive stocks relatively immune to external risks and stocks with high dividend yields. Chubu Electric Power climbed 7.55%. Kansai Electric Power and Osaka Gas gained 4.33% and 4.32%, respectively.

On a negative note, Ono Pharmaceutical remained very weak (-9.56%) and auto stocks such as Honda Motor (-2.17%) and Suzuki Motor (-1.81%) fell.

Investors are now mostly focusing on earnings announcements from companies with a financial year ending March 31 2018. They are expected to start pouring in next week.

  Emerging markets

In China, the PBoC cut its required reserves ratio by 1% to improve liquidity and alleviate the impact of deleveraging. China’s first quarter GDP grew 6.8%, underpinned by domestic consumption. The NDRC is to withdraw the 50% stake ceiling for non-Chinese auto companies in joint ventures. It will be effective in 2018 for electrical and hybrid cars, in 2020 for commercial vehicles, and in 2022 for individual cars.

The US has introduced sanctions against China's ZTE, the second largest telecom equipment maker in the world, for flouting the Iran embargo. US semiconductor companies will be banned from providing ZTE with chips for 7 years. 25-30% of ZTE’s smartphone components are made by US companies and are difficult to replace.

Despite quarterly results that were in line, TSMC struck a more pessimistic note than expected for the second quarter, citing less vigorous growth in smartphone and crypto-currency demand. The group expects revenues to fall 7-8% vs. the first quarter with gross margins of 47-49%, down from 50.8% in the second quarter of 2017.

As expected, India’s Tata Consultancy reported a 7.5% increase in results. The digital division jumped 38% and now accounts for 23.8% of sales. IndusInd Bank reported a robust 26.9% surge in annualised growth. Vedanta's acquisition of Electrosteel will help banks, and state-owned banks in particular, recoup around 40% of the value of their loans. Indonesia's central bank left its interest rates unchanged.

In Brazil, Petrobras detailed its refinery asset disposal programme. The possible arrival of new refinery players could reduce the risk of changing Petrobras’ current pricing policy. Most of the companies at the BTG LatAm conference were upbeat. First-quarter growth among Brazilian companies was less strong than expected but sales picked up, helped by real wages, and profitability improved thanks to lower interest rates. In Colombia, retail sales rose 5% in February after a 2.5% increase in January driven by food and drink. In Mexico, Kimberly Clark and Nemak both managed to beat earnings expectations.


Despite some stabilisation in Middle Eastern tensions, oil prices defied gravity and flirted with $75 for Brent crude and traded at a little under $70 for WTI. Brent had not seen such levels since November 2014. The move was underpinned by improving fundamentals: US weekly inventories (crude and products) fell sharply, especially petrol and distillates as imports declined and demand remained strong. Global demand is still rising, especially as the IMF has maintained its global growth forecasts at +3.9% for both 2018 and 2019. The weekend OPEC/non-OPEC summit was not expected to decide on prolonging the production agreement but should shine some light on future strategy. Global inventories are about to hit the targeted fall to the 5-year mean and the OPEC+ extension could, for example, involve getting them down to the 7-year mean. We are not expecting any major decisions from the summit; the current strategy is working so it would be inadvisable at this stage to announce an extension beyond 2018.

Speculation is another reason for the oil price surge. Several sources have suggested Saudi Arabia wants to get the barrel up to between $80-100. We think this is not very likely. Riyadh is struggling to convince investors to go for the Aramco IPO and any such price surge would inevitably trigger much higher US shale oil production, depressing demand and ultimately prices.

Base metal prices rose sharply over the week as the first effects of the trade war and sanctions against Russia began to bite. Aluminium, for example, has jumped more than 20% over a month now that Rusal (6% of global production) cannot sell its output. Nickel prices have also surged due to investor worries than Norilsk Nickel (12% of global production) might in turn be hit by sanctions.

  Corporate debt


The Xover tightened by 8bp between Monday and Tuesday despite macroeconomic uncertainties, developments in Syria and US sanctions against Russia. But spreads widened on Wednesday, partly due to profit taking after the rally. Financials were particularly hard hit by the reversal.

It was a very active week on the primary market. SoftBank (Ba1/BB+) sold a 5 and a 7-year maturity in two tranches, one raising €1.45bn at 4% and 4.5% and the other $750m. Piaggio (B1/BB-) raised €250m with a 7-year maturity at 3.625%. French telecoms group Iliad raised €1.1bn with 3 and 7-year maturities at 0.625% and 1.875%. Samsonite (Ba2/BB+) raised €350m with an 8-year maturity at 3.5%. Belgium’s KBC bank raised €1bn with an AT1 at 4.25%.

French retailer Casino (Ba1/BB+) reported slightly better-than-expected first quarter results. Overall sales dipped 3.8% but like-for-like growth was 3.1% and sales in France rose 1.5%. Rémy Cointreau (Baa3/BB+) reported upbeat 2017 figures with sales up 2.9%, or 7.2% at constant currency and perimeter. All brands contributed, led by Rémy Martin.

Eramet (mining and metallurgy) saw like-for-like sales jump 14% in the first quarter of 2018. Management said the group was well-placed on its markets but stressed that metal prices were currently very volatile.

Intesa Sanpaolo (Baa1/BBB) and debt collection company Intrum Justitia have signed an agreement under which the bank will sell €10.8bn in NPLs to Intrum. At the same time, an NPL servicing platform will be set up with Intrum holding 51% and Intesa 49%. The deal will help Intesa reduce its NPL ratio to 9.6%.


It was another busy week on the new issues market. No Va Land Investment Group Corporation in Vietnam raised $160m with 5-year convertibles at 5.5% and a 15% premium (to acquire certain project development companies).

In the US, Paratek Pharmaceuticals priced $140 million of convertibles due 2024 paying a 4.75% coupon with a 20% conversion premium to fund its ongoing and future clinical studies of omadacycline. Clovis Oncology (commercialisation of anti-cancer agents) raised $300m (+a $45m greenshoe) with 7Y convertibles at 1.25% and a 40% premium. The proceeds will be used for general corporate purposes including sales and marketing expenses associated with its main product, Rubraca.

Deutsche Bank issued $225m in cash settled equity linked notes into JP Morgan with a 1% coupon and 16% premium. Ship Finance International (marine shipping) priced $140m in 6Y convertibles at 4.75% and a 20% premium for working capital purposes.

South Jersey Industry (Energy Services) raised $250m with 3Y mandatory convertibles for the acquisition of Southern Co’s natural-gas utility assets.

The earnings season has kicked off. Severstal (Russian steel company) reported below-consensus estimates for its first quarter EBITDA numbers but revenues in line. It also lowered its outlook for 2018 demand growth in Russia to 2.6% (versus 3-4% previously).

Elsewhere, Foncière des Régions is in talks to buy up to 60% of Beni Stabili (an Italian real estate company).

In the US, NXP Semi was down more than 5% over the week as Qualcomm reapplied for acquisition approval from China’s Ministry of Commerce which said, “the proposed acquisition… may have negative effects on the markets”.

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