The FED and the ECB provide some visibility

Market analysis - 6/15/2018

Smooth central bank communication ensured trading was calmer than in previous weeks. The Fed and the ECB provided investors with some visibility.

As the US is ahead in the cycle, the Fed will continue to raise rates while the ECB will not start tightening before September 2019. The ECB's announcement immediately sent bond yields lower while the euro lost ground against the US dollar. European equities, and especially export stocks, rebounded sharply. 

But although the threat of oil price rises accelerating seems to have abated, investors are still fully aware of persistent problems like trade tensions, the unpredictability of US policy, political risk in several European countries, disruption in a number of emerging countries and the possibility that the US economy might overheat. We remain slightly overweight European equities as they should gain from more favourable financial conditions in the US. 

  European equities

The big news in Europe was the ECB’s announcement that it was to reduce asset purchases to €15bn a month from October to December before stopping them altogether if inflation continued to trend higher. The bank also sent an accommodating message on interest rates saying they would not rise before mid-2019 and then only if the 2% inflation target had been hit. 

The news sent the euro lower against the US dollar while long bond yields eased. European equity markets jumped. Quite logically US dollar sectors (autos, healthcare and defence) and export stocks outperformed (Airbus, Ferrari and Fresenius). Utilities like E.ON, RWE, Enel and Snam were also strong.

Tech stocks moved even higher. On its first day of trading in Amsterdam, Adyen (online payment services) soared 90% from its listing price of €240, a move that boosted the entire tech sector, particularly Ingenico, Wirecard, STM and even Dassault Systèmes. Infineon raised its guidance on capex due to expectations for rising demand.

Unilever’s second quarter sales were hit by strikes in Brazil, suggesting that more companies with significant exposure to the country will also suffer.

Michelin revised guidance for 2018 due to commodity inflation and in spite of a more favourable currency effect. HeidelbergCement is aiming at 5% growth in EBITDA by 2020 and FCF over 3 years of €6bn while divesting up to €1.5bn in assets to keep leverage below 2 times.

HSBC, Europe’s largest bank will continue to focus on high-growth Asia and reinforce its technological clout in a new 2020 plan which will see $15-20bn in investments.

In company transformation news, the French government’s upcoming “Company growth pact” will open the door to sales of state holdings in Aéroports de Paris, FDJ and Engie. Casino is to sell €1.5bn in assets in 2018-19 and expects to reduce net debt by €1bn this year. Carrefour has teamed up with Google to allow the retailer’s customers to order  products from 2019 using via Google’s intelligent voice assistant, smartphones and its Google Home speaker. Siemens is mulling the sale of its Power & Gas division’s large gas turbines (15% of the group’s first half industrial profits in 2018). Teleperformance got the go-head to buy Intelenet.

  US equities

The Nasdaq (+1.6 %) and the Russell 2000 hit new record highs while the S&P edged 0.4% higher. Central banks dominated the week with statements that were generally as expected although the Fed was slightly more hawkish and the ECB a little more dovish. CPI rose by an annualised 2.8% in May, its strongest progression since 2012. Ex food and energy, prices increased by 2.2%. Retail sales rose 0.8% MoM, or more than the +0.4% expected. 

After several months of twists and turns, the courts approved AT&T’s acquisition of Time Warner, ruling against the Justice Department and, indirectly, Donald Trump who had criticised the deal. This vertical integration agreement rekindled speculation on possible tie-ups involving CBS, Viacom and Charter. It also triggered a bid from Comcast on Fox group assets which had been conditional on the AT&T/Time Warner deal being approved. Private equity giant KKR made a $5.5bn offer for Envision Healthcare Corp. Elsewhere in healthcare, Stryker vehemently denied it was about to tie up with Boston Scientific.  

Consumption, healthcare and technology posted the biggest rebounds while financials, energy and telecoms retreated. 

  Japanese equities

In the week which saw the one-on-one between Donald Trump and Kim Jong Un, Japanese stocks remained upbeat as concerns over nuclear threats receded and April’s machinery orders rose 10.1% MoM or better than expected. However, gains were reduced by profit-taking as the Nikkei approached its short-term target of 23,000 with Nikkei 225/TOPIX or NT ratio remaining at a relatively high level. During the week, the TOPIX edged up 0.14%. 

In sectors, Fishery, Agriculture & Forestry (+3.29%), Oil & Coal Products (+3.23%) and Services (+2.90%) were the top three best performing sectors. Internet service providers Rakuten and Recruit Holdings rose 5.67% and 5.45% respectively. Tobacco producer JT advanced 4.87% and oil refiner JXTG Holdings rose 4.19%. 

On the other hand, Other Products (-5.19%) was the worst performing sector, hit by further selling of game producer Nintendo (-10.72%). 

  Emerging markets

Markets fell on weaker macro data in China and the Fed’s relatively hawkish tone, with two more rate hikes to come in 2018. US-China trade talks are still a mid-term overhang with the US reportedly about to slap a further $50bn in tariffs on Chinese imports. 

The latest macroeconomic data out of China were slightly soft with industrial production up 6.8% (+6.9% expected) down from April’s 7%, fixed asset investment at 6.1% YTD YoY vs. consensus estimates of 7%, down from 7% in April and retail sales rising 8.4% YoY (9.4% in April) when analysts were expecting +9.6%. 

Tighter local government financing was reflected in May’s local government budgetary spending which was down 1.2% as new asset management regulations and increased bond defaults made it more difficult for local governments to find new financing. Weak social financing data together with unchanged rates on open market operations (OMO) after the FED rate hike (unlike the previous 2 FED hikes) are building expectations that the PBoC will soon ease via an RRR cut. On the positive side, the property market remained stable with new home prices up 5.35% YoY in May versus +5.31% in April according to the National Bureau of Statistics. China is also slowly but steadily making room for more capital flow swings with this week's loosening on QFII/RQFII regulations, a token of its strong confidence in renminbi stabilisation. 

It was also an eventful week for Chinese companies listed overseas: Muddy Waters, the short-seller research firm, published a report on TAL, China’s afterschool tutoring leader, questioning two of its previous acquisitions and raising doubts over its accounting and reporting. GMT research published a short report querying the financials of sportswear companies Anta, Xtep and 361 based in China’s Fujian Province. All four companies denied the allegations and reserved the right to take legal action. 

In India, a rebound in food inflation and a jump in fuel prices in May led to wholesale inflation rising from 3.18% in April to 4.43% in May, a 14-month high. 

Brazil’s lower House approved quickly passed a bill that allows the sale of up to 70% of so-called ‘Transfer of Rights’ blocks. The Central Bank continued to intervene on the currency market. 

Argentina’s currency lost a further 10% despite the Government pledging to sell $7.5bn of the IMF's $15bn loan to cover budgetary expenses. The central bank kept rates unchanged at 40% and its governor was replaced by the finance minister.  

  Commodities

Ahead of the June 21-22 OPEC summit in Vienna, Brent crude stabilised around $75 while WTI edged higher to $66-67. 

Several sources suggested Saudi Arabia and Russia would argue for increasing production at the meeting. But Venezuela, Iraq and Iran are vehemently opposed to any increase which they fear will cause prices to fall; they are defending their own pitch as they are not in a position to increase output but are afraid of losing market share to Saudi Arabia and Russia. 

Donald Trump resorted to Twitter, his preferred weapon, to accuse the cartel of wanting prices to rise. His outburst only had a fleeting impact on oil trading and was largely offset by US weekly inventories which showed that crude and oil product stocks had fallen significantly in the preceding week whereas analysts had all pencilled in a rise. 

The IEA’s monthly report slightly cut its demand growth forecasts for 2018 to 1.4 million b/d due to non-OECD demand slowing due to price elasticity.

The agency also revised up its estimates on non-OPEC supply to +2 million b/d (+0.1 million b/d) with the US accounting for 90% of the increase. Its first estimates for 2019 see demand rising by 1.4 million b/d and non-OPEC supply up 1.7 million b/d mainly because of 400,000 b/d coming on stream in Brazil. Note that demand growth is seen rising at the same pace as in 2018 (+1.4%) and remains above the average 1.2% rise seen over the last 10 years.

The gold ounce gained ground over the week although the Fed raised its benchmark rate for the 7th time since it first started moving towards monetary normalisation at the end of 2015. Having flirted with $1,360 in mid-April, the ounce has now stabilised at $1,300, reinforcing a trading pattern which consists of falling before any rate hike announcement only to rebound once the increase has occurred. 

At its Capital Market Day in Seoul, Umicore said it expected the auto catalyst market to double in size by 2025 due to tougher emissions standards, especially in Europe and China. Demand for platinum should logically rise. The group, a major player in electric mobility parts (lithium ion batteries and fuel cells for catalysts), is upbeat on its prospects. This is good news for energy transition metals like lithium and cobalt. 

  Corporate debt

 

Credit

The week started quietly and slightly bullish ahead of central bank meetings, with Italian bonds rallying after the prime minister's reassuring statements over the weekend. The US/North Korea summit had little impact on spreads. The Fed's statement was more hawkish than expected with 2 more rate hikes announced. The ECB was rather dovish and said QE would be extended until the end of the year. Spreads tightened sharply on the news with the Xover down 10bp between Wednesday and Thursday. 

Casino (Ba1/BB+) is to sell €1.5bn in French-only assets and property in 2018 and 2019 to cut its French debt. The news helped the group’s bonds recuperate some of the ground lost in previous weeks. 

France’s Schneider (Baa1 /A-,energy management and automation ) raised €750m with a 1.375% bond due 2027. In financial services, Groupe Bruxelles Lambert (NR), raised €500m with a 7-year maturity at 1.875%. Dutch insurance group Vivat (BBB), sold a Restricted Tier 1 (RT1), non-call 7 years, at 7%, raising €300m. The financials new issues market will soon be busy with upcoming issues from insurance groups CCR Re and CNP, a Senior Non-preferred (SNP) deal from Nordea and a Tier 2 bond from Portugal’s Caixa Geral

Convertibles 

It was another active week for new convertible issues, especially in the US where satellite services company Intelsat issued a $350m 7-year convertible at 4.5% coupon and with a 22.5% conversion premium. Proceeds will be used to pay back the existing 2021 Intelsat senior note, as well as general corporate purposes. Serial Issuer, RH (Home furnishing products) is coming to market with $300m zero-coupon convertible due 2023, and with a 25% conversion premium for general corporate purposes.

Sea limited (digital entertainment, ecommerce and financial services, mainly for South-East Asia) raised $500m with a 2.25% convertible due 2023 with a 32.5% conversion premium. The net proceeds will cover business expansion and general corporate purposes. GCI Liberty (communication business) priced $415m in 1.75% bonds exchangeable into Charter Communication, and with a 30% premium. 

Canada’s Canopy Growth (medical marijuana), raised C$400m (with a C$60m Greenshoe) in 5-year convertibles at 4.5% and with a 22.5% premium. The proceeds will be used on expansion initiatives and general corporate purposes.

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