Coffee Break 1/30/2017

Over the past week, investors’ attention was focused on the first week in office of the 45th US President. Donald Trump. His first executive actions indicate that he wants to deliver on the promises made during his campaign as he moved to:

• repeal the Affordable Care Act (Obamacare),
• remove roadblocks from the Keystone XL and Dakota Access pipelines,
• impose a hiring freeze on federal employees,
• withdraw the United States from the Trans-Pacific Partnership,
• build a wall along the U.S.-Mexico border.

Meanwhile, data continues to be firm, with both leading and real-time indicators of the economy reflecting a solid momentum into the start of the year. The improvement in growth momentum has been a key driver of upward moves in equities and bond yields over the past six months but historical evidence shows that this surge is likely to calm down over the coming months amid concerns over central banks’ monetary policies, geopolitics and US protectionism.

This week, we will closely monitor the start of discussions on the “Brexit” Bill in Westminster on Tuesday and the FOMC meeting on Wednesday.

Our current investment strategy on traditional funds:

Legend
grey : no change
blue : change

EQUITIES VERSUS BONDS

We remain overweight in equities versus bonds:

• The macro news flow is still well-oriented as shown by various sentiment surveys and supported by a strongly positive market sentiment both in US and Europe. The latest flash PMIs imply a global growth momentum hitting a six-year high in January confirming the synchronised pick-up in global growth.
• Central banks are decoupling but they mostly keep a dovish stance:
  • ECB President Mario Draghi maintained a dovish tone during his last press conference and reiterated the option of stepping up the quantitative easing strategy if financial conditions tightened or outlook worsened. 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. Markets are pricing two Fed hikes in 2017 and another two in 2018, below the median Fed projection.
• Equities have an attractive relative valuation compared to credit, and their expected return should be boosted by the end of earnings recession in the US and Europe.
• Oil markets continue their rebalancing but US rigs have been re-opening, implying a greater production which could likely weigh on oil prices. Moreover, the set of executive actions from Donald Trump on energy issues could also put some pressure on oil.
• Important political risks nevertheless remain: upcoming elections in Europe (The Netherlands, France and Germany) and “Brexit” negotiations. The unpredictability of the new US president could lead to up or downside risks. The US policy mix could lead to misallocation of resources or an interest rate shock.

REGIONAL EQUITY STRATEGY

The Merrill Lynch Fund Manager survey confirmed investors’ preferences for the US, Japan and more recently for the euro zone.

• We have maintained our overweight on euro zone equities, as we expect a gradual improvement from the high discount due to political uncertainties. Recent surveys point to some acceleration in activity. The start of the Q4 earnings season should confirm the expected end of earnings recession in the US and Europe.
  • 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 overweight on US equities. Sound consumer expenditures while consumer confidence hits a 13Y high, consolidating oil prices and a post-election stimulus should support an improving US earnings outlook.
• 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 further increased our underweight in duration as we expect stronger inflation figures and US fiscal policy easing to push bond yields higher.
• We continue to diversify out of low/negative yielding government bonds:
  • We have maintained our relative value trade, long Italian yields / short Spanish yields, as Italian rates continue to tighten as too much pessimism were priced in.
  • 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 rise gradually, led by the US. In addition, upcoming fiscal easing looks likely. Coupled with potential protectionist measures, this implies a re-rating of inflation protected bonds over the course of the coming quarters.
  • We have a slight overweight in emerging market debt, both in local and in hard currency terms.
  • 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 Michigan Consumer Sentiment Index rose in January to a 13Y high at 98.5, reflecting ongoing optimism about post-election fiscal policies and their impact on economic growth.
• In Europe, the euro zone consumer confidence index rose slightly less than expected in January (+0.2 points to -4.9).
• The Markit euro zone PMI hit 54.3 in January according to the preliminary flash estimates. Although down marginally from 54.4, it is one of the highest readings seen over the past five-and-a half years.
• In Germany, the Ifo Business Climate index fell unexpectedly in January to 109.8, hitting its lowest level since September, a sign that company executives were less upbeat about the growth prospects of Europe's largest economy. 

EUROPE

Positive week for European stocks with the Stoxx Europe 600 index reaching 366, up by 1.05%.

• Cyclicals continued to benefit from positive expectations over global growth, inflation and a steeper yield curve.
• Banks shares were boosted by positive earnings reports and the strengthening of the USD.
• European investors seemed to be inspired by the pro-growth agenda of the new US administration.
• At a country level, Germany and Switzerland outperformed while Italy underperformed.

US

Positive week for US stocks with the S&P 500 at 2295, up by 1.03%.

• The major indexes reached new highs, boosted by positive earnings reports.
• The technology-heavy Nasdaq Composite Index performed best, but most of the attention was on the Dow Jones Industrial Average, which, finally reached 20,000.
• Over 100 of the S&P 500 Index companies reported Q4 results last week and better-than-expected earnings from several top firms boosted sentiment.
• Results from DuPont helped support materials stocks and strong figures from Boeing and Rockwell supported industrials and business services sectors.

EMERGING MARKETS

Positive week for Emerging Markets stocks with the main index up by 2.54%.

• Emerging markets stocks were supported last week by the rise of US shares
• Mexico weakened on Thursday after President Enrique Pena Nieto pulled out of a meeting in Washington with its US counterpart Donald Trump in a deepening spat over a border wall and trade disputes.
• The Turkish currency continued to be depreciated amid fresh concerns over its central bank policymaking and ahead of a key ratings review from Fitch.
• S&P and Fitch warned about the potential risk of a financial crisis in China due to the local authorities continuing reliance on credit-fuelled growth.

RATES

Italian spreads and US GDP were the focus of the markets last week.

• The Italian supreme court ruled that some part of the electoral law are incompatible with the constitution triggering a sharp increase in Italian spreads.
• The US GDP for Q4 2016 grew at 1.9% vs 2.2% expected by the consensus.
• 10Y US, UK, Japan and German yields stood at respectively 2.49%, 1.48%, 0.07% and 0.46%.

CREDIT

Busy week for the primary market.

• With EUR11bn of new issues, January was the best start on record since 2009.
• Spreads of cash bonds moved slightly tighter (-3bps for Investment Grade & -13 for High Yield) while synthetic indices widened slightly (+0.5bps for main and +4bps for crossover).

FOREX

The USD rose on Thursday following better data and higher bond yields but remained in the red for the week.

• The GBP rose last week thanks to the confirmation that the British Parliament will get to vote on the terms of the deal with the EU.
• The JPY weakened due to the decision by the BoJ to buy debt while markets priced a probability of tapering.

COMMODITIES

Negative week for commodities with the GSCI Light Energy down by 0.64%.

• Energy prices rose from early lows on a combination of weaker USD and reports that OPEC members have progressed much quicker toward the proposed output cuts.
• Base metals strengthened across the board on positive sentiment around overcapacity cuts.
• Precious metals mostly weakened, as bond yields rose and equities rallied.

WEEKLY MARKET OVERVIEW



UPCOMING FACTS AND FIGURES