Coffee Break 12/5/2016

Investors remained cautious before the Italian constitutional referendum on 4 December, which ended with a convincing "no" vote and a resignation of Prime Minister Matteo Renzi. Markets had already started to price a negative referendum outcome over the past weeks, with Italian equities underperforming by 21% since the beginning of the year. Further market evolution will depend on the formation of a new government and the recapitalisation of Italian banks. In an initial reaction the EUR slightly declined.

Furthermore, it appeared from UK chancellor Philip Hammond's Autumn statement on 23 November that the "Brexit" meant lower growth, higher inflation and deteriorating public finances in the UK. We, therefore have kept a cautious positioning in UK equities and added a short position on the GBP against the EUR, as we believe the negative "Brexit" impact is not fully reflected in the exchange rate after the recent rise in the GBP.

This week, we will closely monitor the ECB meeting on 8 December and the UK Supreme Court's hearing on "Brexit".

Our current investment strategy on traditional funds:

Legend
grey : no change
blue : change

EQUITIES VERSUS BONDS

We are slightly overweight in equities versus bonds:

• The macro news flow is still well-oriented. We especially expect a stronger US growth.
  • The US should see a potential reflation through fiscal stimulus, tax cuts and regulatory easing in a robust labour market context.
• Central banks are decoupling but they mostly keep a dovish stance:
  • The Fed tightening cycle is at odds with accommodative policies in Japan, the euro zone and the UK. Markets are pricing one Fed hike by the end of this year, two in 2017 and another two in 2018.
• Oil markets continue their rebalancing. OPEC reportedly reached its first production cut deal in 8 years during its last meeting. Production will be reduced by 1.2M bpd to 32.5M bpd by January. The deal is set to be reviewed at the next meeting on 25 May 2017. However there are still issues to be sorted out as the deal is contingent of non-OPEC producer countries cutting by 600,000 bpd. A meeting will be held on 9 December with non-OPEC producers to finalise the deal. Furthermore, US oil production is likely to rise if the Trump administration acts in favour of drilling, as could be expected.
• The medium to long-term economic risks have increased due to the various political events. "Brexit" negotiations, elections in major EU countries and US election results imply high dispersion of possible outcomes.

REGIONAL EQUITY STRATEGY

• We have maintained our slight overweight on euro zone equities as we expect a gradual improvement from the high discount due to political uncertainties
  • We still have a relative value strategy in favour of the DAX against the FTSE 250.
• We have maintained our underweight in UK equities, as the uncertainties related to the "Brexit" and its impact on the economy are nowhere near resolved. In particular, we avoid domestically-oriented small and mid-caps.
• We are slightly overweight on US equities. We expect a stronger growth and a rise in corporate earnings in the prospect of post-election reflationary policies and consolidating oil prices.
• We remain positive on Japan. The country benefits from a realignment of its policy mix and is a beneficiary of the regime change in the US.
• Emerging market equities are our lowest conviction. They still have attractive relative valuations but are limited by the USD appreciation and rising interest rates. Therefore, we have maintained a neutral positioning.

BOND STRATEGY

• We now have stronger conviction on a longer-term rise in US bond yields and therefore have a short on US Treasuries.
• We continue to diversify out of low/negative yielding government bonds:
  • We have maintained an overall below-benchmark duration.
  • We currently have a relative value trade: long Italian yields / short Spanish yields:
  • We remain positive on inflation-linked bonds.
  • Although we have reduced our emerging debt exposure before the US elections, we still remain overweighed, both in local and in hard currency.
  • We are slightly positive on high yield. The significant spread tightening has reduced the potential, but the carry remains attractive. 

• In the US, the non-farm payrolls increased by 178,000 in November, but data for September and October were revised to show a net 2,000 fewer jobs created than previously reported.
• The ISM manufacturing index hit 53.2 in November, up from 51.9 in October and 1 point higher than a Thomson Reuters consensus estimates.
• The euro zone Economic Confidence Index hit 106.5 in November, up from 106.4 in October, benefiting from a weaker currency and stronger demand. This is the highest level since July 2007.
• The PMI manufacturing index for the euro zone came in at 53.7 in November, its highest reading since January 2014. 

EUROPE

Slightly negative performance for European equities with the Stoxx 600 closing at 339, down by 0.90% for the week.

• The rally that followed the US presidential elections cooled down last week.
• Italian banks were particularly a drag for the financial sector, on the back of uncertainties related to Sunday’s constitutional reform referendum vote.
• European equity funds reported severe outflows last week, according to fund tracking firm EPFR, compared with positive flows into US equities.
• At a sector level, Oil & Gas, Banks and Utilities outperformed the benchmark (2.93%, -0.04% and -0.33% respectively) while Food & Beverages (-2.25%), Retail (-2.39%) and IT (-3.62%) underperformed.

US

Negative week for US equities with the S&P 500 closing at 2192 last Friday.

• Stocks broke a series of three consecutive weeks of gains.
• The Dow Jones Industrial Average outperformed the broader market, helped by strong performance from “blue chip” stocks (bank, energy and health care).
• The technology-heavy Nasdaq Composite Index underperformed considerably, as fast-growing stocks were hammered due to their less enthusiastic future earnings prospects on the back of rising interest rates.
• Biotechnology stocks performed poorly overall and semiconductor companies sold off sharply late in the week.
• At a sector level, Energy, Financials and Materials outperformed the S&P 500 (2.64%, 0.86% and 0.69% respectively) while Telecoms (-1.68%), Consumer Discretionary (-1.99%) and IT (-2.92%) underperformed.

EMERGING MARKETS

Flattish week for Emerging markets equities with the main index losing 0.3%..

• China stepped up its efforts to curtail outflows of domestic money out of the country, a sign that local authorities are growing worried over the CNY weakness due to capital flight.
• The Brazilian market was once again under pressure due to another political turmoil. This time the corruption allegations are directed towards the current President, Michel Temer.
• OPEC’s announcement that it would cut oil production and the resulting jump in prices boosted assets in major oil exporters, such as Russia, while weighing heavily on countries importing oil, like Turkey.
• At a sector level, Energy, Telecoms and Materials outperformed the benchmark (2.11%, 0.64% and 0.25% respectively) while Health Care (-0.94%) Consumer Discretionary (-1.27%) and Consumer Staples (-1.59%) underperformed. 

RATES

Bond curves steepened on the back of rising inflation expectations, mainly due to the OPEC agreement reached last week.

• Uncertainties around the Italian referendum brought accrued volatility on none-core markets, with periphery bonds tightening versus core ones.
• Mix set of employment data in the US as the unemployment rate surprised positively (4.6% vs 4.9% expected), but at the same time, the average hourly earnings were weak while previous months payrolls data were revised downwards.
• Over the week, the 10Y US, UK, Japan and German yields stood at respectively 2.38%, 1.38%, 0.02% and 0.28%. 

CREDIT

The credit market was quite volatile last week due to uncertainties around the Italian referendum.

• Oil companies benefited from the OPEC agreement, which, aimed at reducing production.
• Three banks did not pass the BoE bank stress test: Barclays, Standard Chartered and RBS. Due to actions already taken, Barclays and Standard Chartered have been cleared, while RBS is required to submit a new capital plan.
• Active week on the primary market with ?10bn priced in before the Italian referendum.
• In this context, Cash bonds (Investment Grade +2 bps & High Yield +6 bps) underperformed synthetic indices with the Itraxx Main and Cross-over tightening by 4bps and 10 bps respectively. 

FOREX

Commodity-related currencies (AUD, NZD, NOK, CAD) were amongst last weeks' top performers following the OPEC agreement to cut production.

• The EUR slightly appreciated against the USD while the Italian referendum issue remained uncertain.
• The JPY continued to suffer against the USD, mainly due to anticipations of a rate hike by the Fed in December.
• In the EM currency space, the TRY continued to underperform, while the BRL suffered from disappointing macroeconomic figures as well as rumours concerning interest rate cuts. 

COMMODITIES

Over the past week, commodities were slightly positive, as the GSCI Light Energy gained 1.1%. The index remains positive for the year (+4.5%).

• The WTI rose by close to 9% last week, with the Brent crude, at its highest level in about 16 months, extending gains after the OPEC and Russia agreed to restrict output to reduce the global supply glut.
• Natural gas prices went up by close to 5% last week, on expectations of colder weather spreading into the US after an unusually warm fall.
• Several soft commodities such as coffee and sugar were down by about 5% last week due to a tumble in the BRL. 

WEEKLY MARKET OVERVIEW

UPCOMING FACTS AND FIGURES