Coffee Break 24.10.2016

The third-quarter earnings season has started on 11 October with disappointing earnings coming from Alcoa. However, earnings surprises are currently heading into the right direction. According to Factset and with 7% of the companies in the S&P 500 that have already reported earnings for Q3 2016, 76% have reported earnings above the mean estimate.

The market expects earnings in the US to become positive again, ending the earnings recession that had started five quarters ago. Q3 earnings per share of the S&P 500 ex-energy are expected to come in at 2.2%.

We expect the Q3 earnings season to be widely comparable to the second quarter, with positive surprises at earnings level in combination with weaker revenues. Growth, without taking into account the energy sector, should become positive.

Our current investment strategy on traditional funds:

Legend
grey : no change
blue : new change

EQUITIES VERSUS BONDS

We have slightly increased our equity exposure and we now hold a slight overweight in equities vs. bonds:

• The macro news flow is in line with low but positive growth.
  • In the US, we expect accommodative monetary policy to prevail while Chinese authorities will continue to offer a supportive policy mix.
  • Europe is showing resilience following the "Brexit" referendum.
  • The stabilisation in commodity prices mitigates downside risks on a global scale.
• The medium to long-term economic risks have increased due to the various political events:
• Global growth indicators seem little affected by the "Brexit".
• The UK appears to be quite resilient in the immediate aftermath.
• Economic policy uncertainties have come down, but remain historically high with several political risks looming by the end of the year (US presidential elections, Italian constitutional referendum, possible new elections in Spain and "Brexit" negotiations).
  • The two-year "Brexit" negotiations should start by the end of Q1 2017.
  • US presidential elections have been perceived as the n°1 tail risk for investors over the past three months.
• Central banks keep a dovish stance, providing ample liquidity to the markets.Oil markets continue their rebalancing, and recent agreement expectations have led the way to higher prices. This is supportive for risky assets, particularly emerging debt, high yield and inflation-linked bonds. We expect a gradual increase in inflationary pressures and are confident in our inflation-linked exposure.
  • In the US, solid PMI's and labour market data strengthen the case of a Fed rate hike by the end of the year.
  • The Bank of Japan innovated by yield curve targeting, while the ECB is expected to clarify its intentions.
• Oil markets continue their rebalancing, and recent agreement expectations have led the way to higher prices. This is supportive for risky assets, particularly emerging debt, high yield and inflation-linked bonds. We expect a gradual increase in inflationary pressures and are confident in our inflation-linked exposure. 
• Emerging markets face fewer headwinds, thanks to a stabilisation of commodity prices, a working Chinese stimulus and a cautious Fed that alleviates fears of USD strength.

REGIONAL EQUITY STRATEGY

• We are slightly overweight on euro zone equities to benefit from a better momentum. We do not observe any material spill over from the "Brexit" for the moment but a catalyst to step up our exposure is still lacking.
  • We currently have a relative value strategy in favour of the DAX against the FTSE 250. We anticipate a struggling domestic UK economy following "Brexit".
• We have maintained our underweight in UK equities. The government's perceived hard "Brexit" stance weighs on UK assets, pushing the GBP to new lows, bond yields significantly higher and leading to a substantial equity markets underperformance in common currency terms.
• We have a neutral stance on US equities and Japan.
• Although emerging markets have now become a consensus trade, investors' positioning keeps rising. Emerging markets remain our main conviction for the time being thanks to an improving economic and earnings momentum, the bottoming-out of oil and commodity markets, and attractive relative valuations. The region is more at risk should the USD appreciate too much or when US bond yields increase more than expected, which is not our base scenario.
• We prefer India: economic fundamentals (expected economic growth at 7.8% with an inflation under control) are improving, both structurally and cyclically and the resilience of the Indian economy is supported by a domestic reform agenda, which makes the country less vulnerable to external influences.

BOND STRATEGY

• We continue to diversify out of low/negative yielding government bonds:
  • We remain overall slightly short in duration.
  • We are particularly positive on emerging debt, both in local and hard currency. Emerging bonds are benefiting from inflows, as they provide an attractive yield compared to developed markets.
  • We are moderately positive on high yield. The significant spread tightening this summer has reduced the potential, but the carry remains attractive.
  • We are positive on inflation-linked bonds.
    • Base effects, mainly related to the oil price rebound, have a positive effect on headline inflation. US headline CPI should come in above 2% in December for the first time since mid-2014 and should peak at levels close to 3% during Q1 2017.
    • Euro zone headline CPI should rise towards 1.5% early next year, a level not seen in the region since end-2013.
    • External price pressures on inflation are starting to rise. For instance, China's producer price index has just become positive YoY, after four negative years. China is thus no longer exporting deflation.
    • Inflation expectations are starting to bottom-out from extremely low levels.
• Regarding currencies, our main strategies are:
• Emerging market currencies, based on our conviction that the USK peak and the low in commodity prices are behind us.
• Commodity currencies, via NOK against CHF, to benefit from rising oil prices and an overvalued CHF that upsets the Swiss National Bank. 

• In the US, existing home sales figures bounced back in September; with a rise of 3.2% compared with August, beating market expectations.
• In the euro zone, the ECB kept interest rates on hold last Thursday. The attention was nonetheless drawn on the outlook for the QE as Mario Draghi gave no indication that he was considering "tapering" the level of asset purchases. Markets took this as a signal of potential additional stimulus for growth and inflation. As a consequence, the EUR hit a seven-month low versus the USD to $1.0902.
• In China, GDP grew at an annual rate of 6.7% in the third quarter, matching forecasts. 

EUROPE

Positive performance for European equities with the Stoxx 600 closing at 344 up by only 1.28% for the week.

• European stocks were supported last week by better-than-expected earnings updates from some major companies, notably SAP, Europe's largest software firm.
• Banks and cyclicals stocks outperformed following the evolution of oil prices.
• Even though banks are outperforming on a 3-month view, the sector remains the worst performing one in 2016.
• At a country level, high beta peripheral markets outperformed while defensive indices such as the FTSE100 and SMI underperformed.
• At a sector level, Banks, Basic resources and Retail outperformed the benchmark (5.08%, 4.07% and 2.18% respectively) while HPC (-0.33%), Food & Beverages (-0.40%) and Media (-0.80%) underperformed.

US

Positive week for US equities with the S&P 500 closing at 2141 last Friday.

• US stocks experienced minimal volatility and ended with modest gains even with the earnings season in full throttle.
• The technology-heavy Nasdaq Composite Index outperformed other benchmarks, helped by solid gains in both Netflix and Microsoft following earnings reports.
• The US market seems to remain broadly range bound and driven by technical factors.
• Reassuring signals on the Chinese economy seemed to boost energy and materials shares.
• At a sector level, Materials, Financials and Consumer Discretionary outperformed the S&P 500 (1.5%, 1.19% and 0.92% respectively) while Industrials (-0.39%), Consumer Staples (-0.44%) and Telecoms (-3.80%) underperformed.

EMERGING MARKETS

Positive week for Emerging equities with the index closing up by 1.6% last Friday.

• Emerging equities gained on the early part of the week after Chinese economic growth met estimates, boosting demand for riskier assets.
• China reported a 6.7% expansion in the third quarter, the same as in the previous two periods.
• The Philippine stocks market performed the best among Asian peers as the President Rodrigo Duterte announced a strategic shift toward China away from the U.S.
• In Latin America, markets such as Brazil, Mexico and Chile also showed some strength as oil price closed in on the highs for the years in response to a surprise draw to crude inventories.
• At a sector level, Materials, Energy and Utilities outperformed the benchmark (3.62%, 2.20% and 2.20% respectively) while Health Care (0.98%), Consumer Staples (0.65%) and Telecoms (-0.33%) underperformed.

RATES

Global sovereign markets performed well over the week with a more pronounced movement following Thursday ECB meeting.

• The ECB Governing Council assured the markets that monetary policy support would remain "very substantial". No extension of the QE nor a tapering of purchases were announced, leaving key decisions open for the December meeting.
• Portugal outperformed non-core peers recently on the back of the announcement by the Canadian rating agency DBRS that it maintained the country's BBB (low) rating with a "stable" outlook.
• Over the week core sovereign rates turned lower with the 10Y US, UK, Japan and German yields standing at respectively 1.75%, 1.09%, -0.07% and 0% while most non-core markets lagged (Italy and Spain).

CREDIT

Credit markets were quite well oriented.

• Credit markets were not influenced by the ECB meeting last week and were driven by good macroeconomic figures from China and a continuing positive trend of financial sector in the continuity of past week.
• The earning season was positive in the US with 66% of firms beating sales estimates and 82% beating earnings estimates. The picture was more mixed in Europe with a 50% results in both areas.
• In this context, Itraxx Main (-4.1bps) and Cross-over( -18bps) performed well, as did Cash bonds (Inv. Grade at -2.7bps, High yield at -17.5bps)
• The week was active on the primary market with €12bn priced, half of which came from financials.

FOREX

The EUR was the main underperformer last week.

• As the ECB maintained its policies unchanged and the risk-on environment favoured higher-yielding currencies, the EUR underperformed.
• EM Currencies delivered the highest returns as Hillary Clinton increased her advance against Donald Trump in the lead-up to the US Presidential elections.
• NZD, AUD and NOK continued to benefit from the evolution of oil prices.
• The CAD was negatively impacted through a very dovish statement from the BoC and after the release of disappointing CPI figures. 

COMMODITIES

Over the past week, commodities rose, as the GSCI Light Energy increased by 0.8%. Year-to-date performance is positive at 2.4%.

• Both crude oil and Brent prices rose as Saudi Arabia announced it would be prepared to take any possible action to stabilise the global crude oil market.
• Natural gas prices lost close to 5% last week as a weekly inventory report showed stockpiles grew more than expected.
• Arabica coffee lost over 3% last week and reached its lowest price of the last five weeks as the Brazilian currency eased.

WEEKLY MARKET OVERVIEW

UPCOMING FACTS AND FIGURES