The shift back to normal monetary policy is once again centre stage

Market analysis - 9/2/2016

The shift back to normal monetary policy is once again centre stage. Janet Yellen’s Jackson Hole speech struck a positive tone on the state of the US economy. Her reminder that the Fed’s inflation and full employment targets were getting nearer is, in our view, confirmation that rates will rise gradually by December. Markets are now factoring in a 35% chance of a hike in September, rising to 60% for December.
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Ultimately, the best way to discern the real signal from the surrounding noise is to focus on the Fed’s three top officials. Following pro-hike statements from William Dudley and Stanley Fischer, Janet Yellen has now added her voice to preparations for fresh action. The reaction on fixed income markets has been a little tension on short bond yields but the long end has remained particularly stable.

In economic news, the UK has proved rather resilient in spite of the prophets of doom predicting a brutal drop in post-Brexit activity. After upbeat jobs and household confidence data, UK manufacturing and construction surveys are still trending higher. On currency markets, sterling reacted by rebounding sharply. In the US, economic data continues to beat expectations, but enthusiasm waned a little after manufacturing came in much lower than expected, and under the 50 threshold, with the jobs component hitting a year-to-date low.

As for asset allocation choices, we remain upbeat on markets up to the end of 2016, and particularly on eurozone equities and high yield bonds. We believe the ECB has sufficient leeway to extend its asset purchasing programme beyond March 2017.


  European equities

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European markets eventually shrugged off Janet Yellen’s long-awaited speech and ended the week flat. Nor were there any significant moves on disappointing retail sales in Germany, poor consumer spending in France in July or rising unemployment in the eurozone in the same month.

Telecoms hogged the news headlines. Bouygues’ results beat expectations thanks to strong sales. The group’s construction order book stood at a high level and profitability in the sector is improving. Management left the profitability outlook for 2016 unchanged and surprised observers by appointing two deputy CEO's, Bouygues Telecom’s head Olivier Roussat and CFO Philippe Marien, to assist Martin Bouygues.

Iliad had a good second quarter and added 180,000 subscribers, a little below estimates but better than rivals Orange (+152,000), Bouygues (+171,000) and especially SFR which lost 254,000 subscribers. The group also saw strong performance in Broadband with 45,000 new subscribers. Despite pricing pressure, growth was a solid 2.9% in the quarter. The EBITDA margin continued to improve in the first half, rising to 35.2% vs. 33.6% in the same period in 2015 and 33.6% in the second half of 2015.

The European Commission gave the green light to the tie-up between Hutchison’s H3G (or 3 Italia) and Wind’s VimpelCom, respectively number two and three in the telecoms sector. Hutchison will be selling some radio frequencies and will share or transfer several thousand mobile base stations while a transitional agreement will give Iliad access to 2G, 3G and 4G frequencies as well as new technologies. Orange, meanwhile, is in talks with Iran's leading operator, Mobile Telecommunication Company of Iran (MCI), over cooperation in several areas.

Elsewhere, an Alstom subsidiary won a EUR 1.8bn contract to supply 28 high speed trains to US operator Amtrak 28 and provide long term maintenance.


  US equities

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Economic data was mixed this week. The US created fewer jobs than expected in August, 151,000 non-farm jobs according to the Labor Department, whereas economists had been expecting 180,000 on average.

Manufacturing ISM came in at 49.4 vs. an estimated 52 and compared to 52.6 previously. And annualised car sales fell below 17 million units. However, the property market remained buoyant with existing home sales rising 1.3% vs. an estimated 0.7% and up from 0.2% previously.

Limited Brands (apparel) said like-for-life sales had risen 2% in July or better than expectations of a +0.4% rise. It’s Victoria’s Secret business reported flat like-for-like sales - they were in fact expected to fall 1.2% - while Bath & Body Works saw sales rise 7% against expectations of a +2.9% rise. Software company reported sales in line but fell when its growth forecasts fell short of consensus expectations.

Chocolate manufacture Hershey dipped when it rebuffed the bid from Mondelez.

Over the last 5 trading sessions financials outperformed a flat index by rising 1.5% on hopes for a Fed rate hike after statements at last week’s Jackson Hole meeting. Defensive sectors like utilities and telecoms shed 1.5% and 0.5% respectively.


  Japanese equities

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The TOPIX gained 2.5% as the yen weakened on growing expectations for a US rate hike after the Federal Reserve Chair’s speech. The lower yen, down 3.1% and 1.8% against the US dollar and euro respectively, provided support for exporters. Elsewhere, undervalued large caps like financials enjoyed a jump this week, boosting the market index. Some market participants kept their eyes on investments by Japan’s Government Pension Investment Fund, the world’s largest pension fund, and BoJ buying of ETFs.

Banks and Securities & Commodity sectors soared 8.3% and 5.7% respectively. Iron & Steel (+8.1%) and Nonferrous Metals (+6%) sectors also posted positive performances after stronger-than-projected manufacturing PMI in China. Only five sectors ended slightly lower.

Sumitomo Mitsui Trust Holdings climbed 11% on a 4-day winning streak. Mitsubishi UFJ Financial Group, trading at low P/E and P/B valuations, gained 9.5%.

H.I.S., a major travel agency in Japan, lost 4% on lower-than-expected operating income after releasing disappointing consolidated results for the period from November 2015 to July 2016.


  Emerging markets

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Emerging-market stocks fell this week, trimming their third consecutive monthly gain, as declining commodity prices weighed on stock markets in exporting nations from Russia to South Africa and Brazil. China’s official factory gauge rose last month to its highest level in almost two years. The manufacturing PMI rose to 50.4 in August from July’s 49.9. The non-manufacturing PMI stood at 53.5 compared with 53.9 in July.

India's economy grew at its slowest pace in 15 months in the April to June quarter. GDP growth in the first quarter of the current fiscal year was 7.1%, down from 7.9 percent in the preceding quarter. The Indian government is trying to attract more foreign entrepreneurs by offering residence in return for investment. Foreigners investing INR 100m (USD 1.5m) over 18 months, or INR 250m over three years, would be eligible to live in India for 10 years, New Delhi announced in a statement this week.

The Philippine Stock Exchange Index, which soared to a 15-month high after Rodrigo Duterte won the presidency in May, has erased all of its rally since he took office. Investors are losing confidence and the slide was accelerated by foreign fund managers withdrawing some USD 250m from the country since the middle of August.

South Korea’s Hanjin Shipping vessels have been seized at Chinese ports in the wake of the firm's collapse. In an attempt to minimize the fallout, a South Korean court said it would soon begin proceedings to rehabilitate the carrier - which would allow Hanjin to take legal action in other countries to keep its ships and other assets from being seized.

Making a comeback from a recession, Russia showed a pickup in manufacturing activity in August as new orders and output pushed the PMI to 50.8 - just above the 50.0 level that marks expansion. In the meantime, Moscow has been slowly but surely lifting sanctions against Turkey, including resuming charter flights and lifting bans on food imports. These are positive moves for a hampered Turkish economy and will help Russia to bring down food inflation. In Turkey, the Markit purchasing managers' index (PMI) which represents a third of the country's economy - shrank for the sixth consecutive time in August.

In Brazil, the former president Dilma Rousseff was impeached and Michel Temer was officially empowered as president. Brazil’s 2Q GDP (-0.6% QoQ) came in a bit weaker than expected, but the industrial part was stronger and investments finally rebounded. On the negative side, exports decelerated and imports resumed their expansion.

We remain positive on emerging markets, especially India, Indonesia and Brazil.



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Oil prices popped over US 50 recently but suffered an 8% correction this week as Brent crude fell back to around USD 46. Following declarations from the Saudi oil minister, markets now think action from OPEC, when it meets on September 26, is not very likely. Prices also fell after weekly data pointed to rising crude inventories as imports hit a high not seen since 2012. The long Labor Day weekend in the US marks the end of the driving season, the summer period which generally sees strong petrol consumption. Demand in coming months will be weaker, especially as we will be entering the traditional refinery maintenance period. But it is not all doom and gloom as US output has continued to fall, a drop of 50,000 b/d in estimations based on weekly data and 193,000 b/d in June as reported by the Department of Energy. That took the fall to 619,000 b/d since the beginning of 2016. The Hermine hurricane has also hampered production over the short term in the Gulf of Mexico. But there are no supports for the oil price trend over the short term.

Gold dipped slightly over the week on US dollar strength following Janet Yellen’s address to the Jackson Hole symposium which confirmed that a rate hike was probable in coming months. The gold ounce nevertheless stuck above USD 1,300, a level which it had breached on June 24 after the Brexit referendum vote. Immediate price trends will depend heavily on US jobs data.

Elsewhere, iron ore is trading at USD 59/tonne, up 35% year to date but the price could be hit by rising Australian output and exports. In August, leading producers like BHP, Rio Tinto, Fortescue and Roy Hill exported 69.4 million tonnes, a 9% rise on the previous month. This would take annualised production to a record 818 million tonnes.


  Corporate debt

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It was a very busy week for new investment grade issues. Bureau Veritas, Delphi, Cofiroute, Evonik, Coca Cola and KPN were among a long list to issue in euros. Due to the ECB’s ongoing asset purchasing programme, yields were relatively tight. The ECB has so far bought approximately 600 bonds worth close to EUR 20bn.

Italy’s Saipem (construction and drilling) opened the euro high yield new issues market by raising EUR 1bn via two deals, a 2021 maturity at 3% and a 2023 at 3.75%. British financial services group Arrow Global raised GBP 220m at 5.125%.

In company news, second quarter results remained in line with expectations. High yield fund inflows came to EUR 60m or close to EUR 1.3bn year to date. Trading was quiet on the financial bonds market with only one new deal of note, a PNC5.5 Tier 2 3.875% from Allianz for USD 1.5bn.


The convertible primary market reopened with great force with 4 new deals on the week. French spirits producer Rémy Cointreau came to market with a EUR 275m 0.125% bond. UK satellite operator Inmarsat issued a USD 650m 3.875% convertible and simultaneously bought back the old 2017 bond. German metals distributor Kloeckner issued a EUR 150m 2% convertible.

In Asia, Malaysian sovereign fund Khazanah issued a 0% USD 400m bond exchangeable into Beijing Enterprises Water shares. Salesforce reported quite strong Q2 numbers, but disappointed investors with its full-year guidance as bookings growth slowed to 15%; its high delta convertible was 6 points lower on the day. Nasdaq-listed Chinese online travel services company, Ctrip, reported solid Q2 results with 75% YoY revenue growth; the operating margin beat expectations as synergies were achieved following the Qunar acquisition. Elsewhere, DP World was upgraded by Moody’s to Baa2 with a stable outlook on the back of improved credit metrics. Tesla was in focus this week with some controversial details coming from its proposed all-stock takeover of the troubled SolarCity: Tesla had considered making a merger offer to SolarCity before the carmaker’s USD 1.4bn capital increase in May. Due to substantial annual cash burn in both companies, Tesla fell 5% and SolarCity was down 9% on the news.

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