Mutual Daily Mutterings
Quote of the day…
“War does not determine who is right – only who is left”…Bertrand Russell
“In Like A…”
Overview…”yeah, this could take a while…”
- Moves: RISK OFF…note all caps! Stocks ↓, bond yields ↓, credit spreads ↑, volatility ↑ and oil ↑….
- More bombs and more sanctions as Russia pressed forward on its invasion of Ukraine. Seven Russian banks were formally excluded from the SWIFT financial-messaging system, severely hindering their ability to finance the war. Risk markets have been shanked again by rising oil, in turn stoking fears of rampant inflation and growth headwinds, which will also complicate the Fed’s (and other central bank’s) job in getting monetary policy settings back to ‘normal.’
- The war itself raged on, with attacks on the capital, Kyiv, intensifying and reports of indiscriminate targeting of civilians and non-military targets. There are also reports that Belarus is amassing tanks on the border, preparing to formally enter the war. Ukraine President, Volodymyer Zelenskiy, made an impassioned speech before the EU (via Zoom), seeking acceptance to the bloc. China formally acknowledged the situation in Ukraine is a war, finally, perhaps stoking some hope that they’ll use their influence over Putin (if any) to mediate a cease fire….hopeful, but doubtful.
- European stocks have been belted from pillar to post overnight, with some key indices down as much as -4.0%, while US indices also fell and are in ‘correction’ territory (down more than -10% YTD). Bonds rallied strongly, none more so than in European markets with ten-year GILTS (-28 bps), OATS (-24 bps) and BUNDS (-21 bps). Brent crude hit US$105.4/bbl, up another +4.5% over the session, now at levels not seen since 2014.
- Talking heads…”we are wrestling with the news cycle, and how prolonged hostilities in Ukraine would slow economic growth…the spill-over effects on the U.S. could cause an economic slowdown. Ironically, there’s thoughts that this slowdown would be cause for less hawkish moves by the Fed, which is, for now, perceived as an encouraging sign for U.S. markets.”
- And the Fed?…”while most now expect the Fed to raise rates by just 25 basis points next month, a hotter-than-expected jobs report on Friday could increase odds for a 50-basis point move….regardless, we believe most in the Fed prefer to raise interest rates gradually.”
The Long Story….
- Offshore Stocks – Overnight, European markets were spanked from the get go, steadily heading south. The Euro Stoxx 50 sank -4.0%, while the DAX fell -3.9% and the FTSE down -1.7%. The S&P 500 had a nose hair above water for a nano-second in early trading, but then all the negative vibes overwhelmed sentiment and it was down, down, down. A smidge over 80% of the S&P 500 retreated and only one sector was able to advance. You can probably guess which one, Energy (+1.0%). Elsewhere it was a sea of crimson red, with Financials (-3.7%), Materials (-2.3%) and Tech (-2.0%) all battle scarred. Stocks will remain under pressure while Russia continues to press forward with its campaign to possess Ukraine. What could turn the tide the other way? Simple, cease fire followed by Russia putting the tanks into reverse, but that’s unlikely. I had initially thought after a couple of weeks of conflict markets would move on and the situation would become background noise….that might have been somewhat optimistic.
- Anything linked to Russia is being kicked in the soft and delicate regions. The VanEck Russia ETF I mentioned in yesterday’s note dropped another ~19%, and the iShares MSCI Russia Capped ETF puked ~30% to an all-time low. Auto manufacturers stocks have taken a beating on the back of the fact that Ukraine and Russia are key producers of components and raw materials. Russia is the world’s leading palladium producer, a key input into catalytic converters, while Ukraine produces the majority of the world’s neon gas, a key input in chips manufacturing.
- Local Stocks – another head scratching rally for local stocks yesterday, which I am struggling to understand…markets should receive a reality check today though. Local investors can’t ignore the oiffshore moves overnight, or the tragic circumstances underpinning these moves. The ASX 200 closed +0.7% higher with 69% of stocks advancing and seven out of ten sectors gaining ground. Tech (+5.7%) rose strongly, followed by Telcos (+1.5%) and Discretionary. Utilities (-2.2%), Materials (-0.3%) and REITS (-0.3%) were the worst performers on the day. The ASX 200 has outperformed most peer indices globally on a YTD basis, down -4.7% compared to the S&P 500 (-9.6%), DOW (-8.4%), NASDAQ (-13.6%) and most of the European indices (down 10% – 12%). The NIKKEI is down -6.8% and the CSI 300 is down -6.5%. Only the HANG SENG (-2.7%) has outperformed. ASX 200 futures are down -0.7%.
- Offshore credit – continued widening in offshore spreads, in US cash spreads at least. US IG +1 – 5 bps wider, taking YTD moves to +41.5 bps, or +48% wider. EU IG spreads also drifted wider, +5 – 10 bps in corporate spreads, which are now +52 bps wider YTD, or +55%. EU IG Financial spreads are +30.5 bps wider YTD, of +63%. Despite the uncertainty, and probably because of the meaningful drop in yields, six issuers came to market in US IG space, pricing almost US$12bn. Spreads still compressed despite broader uncertainties, most of the new deals priced 15 – 20 bps inside initial guidance. Issuers ranged from BBB- to AA- in credit quality. CDS prices rose also, with CDX (US) +4.2 bps and MAIN (EU) +6.5 bps. The iTtraxx Senior Financials index was +6.9 bps higher, while the iTraxx Sub Financials index rose +12 bps. The EU Crossover index, with borderline investment grade issuers, rose +34 bps to 382 bps.
- Local Credit – I keep saying local credit remains resilient in the face of some meaningful offshore widening, which remains the case, at least on the surface. This resilience is likely providing a false sense of safety given that lack of risk appetite on either side of the market, i.e. investors aren’t selling (much) because not one is buying, so spreads sit pat, unchanged…arguably stale. Traders…”the secondary market remains in a state of paralysis as investors remain sidelined. Modest two-way flow in SSA and senior fins, illiquidity prevails.” The façade of resilience will likely crumble should a meaningful sell order or two come through…particularly further out the curve. The front of the curve seems a little more liquid, less fraught with danger for now. Within this back drop, major bank senior and tier 2 closed unchanged yesterday, however should one be crazy or desperate enough to come to market with a primary deal (unlikely over the near term), I’d speculate a 5-year senior deal might have to start with guidance of +85 – 90 bps vs yesterday’s close of +73 bps. For a tier 2 deal, I’d say +175 – 200 bps vs the NAB Nov-26 call closing yesterday at +154 bps. Yes, you could drive a Ukrainian freedom fighter’s tank through that range, but prevailing market conditions are murky, and as such open to wild swings in opinions and trading ranges. I note also that AMP Bank benched its latest Progress RMBS deal given investor nerves. Hold fast, keep your nerve, and stay low….
Source: Bloomberg, Mutual Limited
- Bonds & Rates – a modest sell-off in local bonds yesterday, but that’ll be reversed and then some today given offshore leads. I’d be expecting at least as 10 bps drop in yields across the curve given the scale of offshore action. Ten-year treasury yields are -12 bps lower, while European bond yields are anywhere between 21 bps and 28 bps lower as markets stress over the potential impact of war on global growth. The March RBA monetary policy meeting was held yesterday with only modest changes to the language – and no change to policy settings, or guidance on QE or QT. Market reaction was muted on or around the statement’s release. From ANZ’s strategists… “there are a couple of changes of note in the RBA Board’s monthly statement. The tragic events in Ukraine are “a major new source of uncertainty” that will likely cause inflation to “spike higher” than forecast in February. But “uncertainties” about how persistent this will be and the continued “modest” growth in wages means the Board continues “to be patient.” It is, however, looking beyond just wages to “labour costs” more broadly…”. And, this from NAB… “the Bank still sees it as too early to conclude that inflation is sustainably within the target range (of inflation)…it repeats that there are uncertainties about how persistent the pick-up in inflation will be given ongoing supply problems and adds recent energy market developments into the mix for consideration.”
- Macro – the day ahead…”Australian Q4 GDP is out today, providing a benchmark for activity between the NSW/Victoria reopening in October and the east coast Omicron outbreak of December. NAB looks for +2.9% QoQ, effectively recovering the fall in GDP during Q3. Overnight the major even is the Bank of Canada meeting, expected to result in a 25bp tightening. We also get the US ADP payrolls (leading in to – but probably not reliably predicting – the nonfarm payrolls print on Friday), and a bevy of official speakers on both sides of the Atlantic, headlined by Fed Chair Powell testifying before Congress.” (NAB). Markets will also be listening into to President Biden’s State of the Union Address, specifically how he handles the Ukraine situation, and a raft of other domestic issuers. Recent polling indicates that ~60% of Americans believe that Putin would not have invaded Ukraine if Trump was still President…and as much as it pains me to say it, I think they’re right.
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Scott Rundell, Chief Investment Officer
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