Coffee Break 12/19/2016

Over the past week, investors closely watched Janet Yellen's news conference after the FOMC meeting last Thursday. As expected, the Federal Reserve raised its interest rate by 25bps. It also signalled a faster pace of increases, with three rate hikes in 2017 instead of the two foreseen initially. As an immediate reaction, yields on shorter-dated Treasuries hit their highest levels in more than five years, while the USD rose notably to a 14-year high. US equities were also slightly under pressure, while gold hit its lowest level in more than 10 months.

Oil prices hit an 18-month high last Monday, as both OPEC and non-OPEC producing countries reached their first deal since 2001 to jointly reduce output. This agreement followed OPEC's November deal to cut output by 1.2 million bpd for 6 months starting on 1^st January.

In the coming days, we will closely monitor the BoJ meeting on Tuesday.

Our current investment strategy on traditional funds:

Legend
grey : no change
blue : change

EQUITIES VERSUS BONDS

We are overweighed in equities versus bonds:

• US elections have shifted flows out of bonds into equities and this asset rotation continued according to the latest BofA Merrill Lynch's fund manager survey. However, the wide range of possible outcomes of the upcoming Trump presidency includes the risk of policy errors. Misallocation of resources, potential protectionist measures or an interest rate shock would significantly tighten monetary and financial conditions, potentially impacting stock markets.
• The macro news flow is still well-oriented as shown by various sentiment surveys (consumers, manufacturing producers, homebuilders) and supported by a strongly positive market sentiment both in US and Europe. We expect a stronger US growth and believe in a potential US reflation.
• Central banks are decoupling but they mostly keep a dovish stance:
  • The ECB will keep a steady hand given political uncertainties as it decided to extend its quantitative easing at least until December 2017.
  • The Fed tightening cycle is at odds with accommodative policies in Japan, the euro zone and the UK. The Fed increased rates by 25 bps and surprised markets by becoming more hawkish. It forecasted three interest rate hikes next year.
• Oil markets continue their rebalancing after the last OPEC agreement. But, greater producer response in the US and the strength of the USD could likely weigh on oil prices later on next year.
• The medium to long-term economic risks have increased due to the various political events, such as the "Brexit" negotiations and elections in major EU countries.

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. A deterioration in domestic UK macro indicators should hit the FTSE250 with significant domestic exposure. We avoid domestically-oriented small and mid-caps and still have a relative value strategy long FTSE 100 against a short FTSE 250.
• 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 are positive on Japan. The country benefits from an aggressive domestic policy mix, stronger US growth and a weaker currency.
• We have maintained a neutral positioning in emerging markets.

BOND STRATEGY

• We have maintained our short duration on US Treasuries.
• We continue to diversify out of low/negative yielding government bonds:
  • We have maintained an overall below-benchmark duration as we expect stronger inflation figures (oil prices, wages) and US fiscal policy easing to push bond yields higher.
  • We still have a relative value trade: long Italian yields / short Spanish yields.
  • We remain positive on inflation-linked bonds. We expect the recent rise in inflation expectations to be sustained as wages and consumer price inflation data could rise gradually (The USA should be the first to be impacted). In addition, upcoming fiscal easing looks likely. This implies a re-rating of inflation protected bonds over the course of the coming quarters.
  • We still hold a slight overweight in emerging debt, both in local and in hard currencies.
  • We are slightly positive on high yield, even as the significant spread tightening has reduced the potential, the carry remains attractive.

• In the US, the imports price index decreased by 0.3% MoM in November, following a downwardly revised 0.4% rise in October but above market consensus of a 0.4% fall. It was the largest drop since February.
• The US Consumer Price Index increased by 1.7%, the biggest YoY gain since October 2014.
• In the euro zone, economic activity continues to be well-oriented with the Markit's preliminary PMI composite remaining unchanged at 53.9 despite political uncertainties.
• The euro zone industrial production dropped by 0.1% for the second consecutive month in October, against expectations of a slight rise. 

EUROPE

Slightly positive performance for European equities with the Stoxx 600 closing at 360, up by 1.31% for the week.

• The latest interest rate rise in the US and the strengthening of the USD provided some tailwind for European exporters given the low EUR and the accommodative ECB.
• Energy stocks were boosted by the oil price. And telecom and health care shares were boosted by several M&A announcements.
• Italy was one of the big winners with the appointment of a new prime minister which should stabilise the political landscape and ease concerns over the financial sector.
• At a sector level, Oil & Gas, Technology and Telecoms outperformed the benchmark (3.87%, 3.22% and 2.52% respectively) while Real Estate (-0.35%), Retail (-1.25%) and Basic Resources (-4.52%) underperformed.

US

Flat week for US equities with the S&P 500 closing at 2258 last Friday.

• Most indexes ended mixed for the week. Large caps were roughly flat and small caps fell back.
• Technology stocks regained some traction at midweek and the energy sector was boosted by the production cuts announcement by OPEC and non-OPEC producers.
• Stocks gave up their gains in reaction to the Fed's two-day policy meeting. While the decision to raise rates was widely anticipated, investors appeared to react negatively to the news that three rate hikes were now expected in 2017.
• At a sector level, Telecoms, Utilities and Health Care outperformed the S&P 500 (2.27%, 1.85% and 1.49% respectively) while Consumer Discretionary (-1.33%), Materials (-1.52%) and Industrials (-1.60%) underperformed.

EMERGING MARKETS

Negative week for Emerging markets equities with the main index losing 2.4%.

• Chinese assets hit multi-year lows last week over worries over financial stability as Beijing's central bank administered a larger-than-expected liquidity injection to counter signs of stress in the interbank markets after the seven-day Shanghai interbank offered rate hit a 19-month high.
• In the Philippines, local stocks endured a difficult week as lofty valuations and the anti-US outbursts of President Rodrigo Duterte amplified a broader emerging-market selloff.
• Latin America stocks weakened last week due to the Fed's comments signalling a faster pace of rates increase in 2017.
• In Brazil, growing confidence that the government would manage to pass austerity measures boosted investors.
• In Greece, the local market plummeted as the government irritated European authorities by proposing a one-time December payment to pensioners.
• At a sector level, Energy, IT and Health Care outperformed the index (-0.04%, -1.65% and -2.28% respectively) while Real Estate (-2.99%), Consumer Discretionary (-3.75%) and Materials (-4.51%) underperformed.

RATES

Macroeconomic publication in the euro zone and the last Fed meeting impacted markets last week.

• Manufacturing, services, and composite PMI were positive last week in the euro zone but in the US, publications were more mitigated with the manufacturing PMI in line with forecasts.
• As expected, the Fed raised interest rates by 25bps, but the three rate hikes announced for 2017 (vs. two expected) brought some volatility and pushed euro zone rates upward temporarily.
• Over the week, 10Y US, UK, Japan and German yields stood at respectively 2.58%, 1.32%, 0.08% and 0.31%

CREDIT

Credit markets performed well last week.

• The decrease of political risk in Italy, rising oil prices and the interest rates hike in the US boosted credit markets.
• The strong performance in the early part of the week was mainly due to the financial sector rebound following the announcement of a capital increase by Unicredit and a new plan to raise capital by Monte Paschi.
• The week was slow in terms of new issue. But Crédit Agricole and SocGen priced their new bond format of Non-Prefered Senior Debt.
• In this context, Cash bonds (Investment Grade -1 bps and High Yield by -16 bps) underperformed synthetic indices with Itraxx Main and Cross-over tightening by 1bp and 18 bps respectively. 

FOREX

The USD was the top performer last week.

• As expected, the widening of US-Japan rate differential kept the JPY under pressure, with a USD/JPY exceeding 118.
• The EUR also suffered last week, as the EUR/USD dipped to fresh lows, reaching levels below 1.04 for the first time since end-2002.
• In the EM currencies space, the MXN held well despite the Fed rate hike with the USD/MXN posting a moderate 0.08% on one week. 

COMMODITIES

Over the past week, commodities were slightly negative, as the GSCI Light Energy lost 0.1%. The index remains positive for the year (+5.6%).

• Oil prices ended the week on a positive note with the Brent up by 1.6% and the WTI up by 0.3%. Investors were encouraged by signs that major oil producers would adhere to the pledge to curb output.
• The decision by the Fed to hike interest rates has had little effect on the metals sector. Iron and copper traded only modestly off from the previous week's levels.

WEEKLY MARKET OVERVIEW

UPCOMING FACTS AND FIGURES