Mutual Daily Mutterings
Quote of the day…
“Performance enhancing drugs are banned in the Olympics. OK, we can swing with that. But performance debilitating drugs should not be banned. Smoke a joint and win the hundred meters, fair play for you. That’s pretty damn good. Unless someone’s dangling a Mars bar off in the distance”– Eddie Izzard
Chart of the day…offshore credit spreads drifting further, local spreads resilient…
Overview…”range bound, as you were …”
- No change to the overriding narrative or recent trends with most markets range trading. For the time being inflation and central bank policy action remain the dominating influences on market sentiment. Risk of conflict in Ukraine is out there in the aether, but is having minimal impact. Nevertheless, it represents a tail risk. By day’s end modest gains were recorded across Northern Hemisphere markets…is what I originally wrote when I initially sat down at my desk this morning. European markets were up, yes, but not US stocks with a sharp drop across the S&P 500 and NASDAQ in the last 30 minutes of trading. Volumes were lower than normal in one of the quietest sessions this year, and the tone was generally cautious ahead of this week’s US CPI print.
- Offshore credit spreads continue to drift wider. EUR denominated investment grade credit spreads are +14 – 16 bps wider on average over the past week, which is a +15% move. US spreads have fared a little better, +3 bps wider, or +3%. AUD credit has shown considerable resilience to remain largely unchanged to even slightly tighter in the fixed space.
- Central bank speak…the ECB’s Christine Lagarde tried to ease bond concerns, but to no avail, yields still rose on the day: “there is a defined sequencing between the end of our net asset purchases and the lift-off date. A rate hike will not occur before our net asset purchases finish. Moreover, there are three conditions that will have to be met before the Governing Council feels sufficiently confident that a tilt in our policy rate is appropriate. All the three conditions are meant as safeguards against a premature increase in interest rates. Finally, any adjustment to our policy will be gradual.” Treasuries did little on the day.
- Some interesting commentary on commodities from Goldman Sachs…they’ve “never seen the markets pricing in the commodity shortages the way they are right now. He noted the market is out of most raw materials, and that futures curves in several markets are trading in super-backwardation, indicating traders are paying bumper premiums for immediate supply. “I don’t care if it’s oil, gas, coal, copper, aluminium, you name it, we’re out of it.” Nevertheless, oil (Brent) fell -0.5% overnight, while the Bloomberg commodities index fell -0.2%. Iron ore on the other hand remains on a tear, up +4.2% overnight and +42.4% over the past 90 days.
The Long Story….
- Offshore Stocks – European markets opened firmer and stayed that way through their trading day, +0.8% on average. US stocks followed the European lead initially, but then stumbled mid-session, only to regain its feet and close in the green…except the NASDAQ, it stumbled again into the close. The key narrative in the market is around the Fed and its tightening agenda and what this means for markets. A snippet of insight I lifted from Bloomberg provides for some food for thought here…”optimists expecting the stock market to weather the rate-hike cycle are missing an important detail, according to Bank of America. While US equities saw positive returns during previous periods of rate increases, the key risk this time around is that the Fed will be “tightening into an overvalued market”. “The S&P 500 is more expensive ahead of the first-rate hike than any other cycle besides 1999-00,” they said”
- Local Stocks – it was a case of the little engine that tried yesterday. The ASX 200 dropped to -1.1% in the red within the first hour of trading and then spent much of the day clawing its way out of the hole. While briefly tasting fresh air, up +0.1% at one stage, the index succumbed to some late selling and popped back below the hard deck, closing down -0.1%. More stocks retreated (54%) than advanced (42%), with the balance unchanged. Energy (+1.6%) advanced most in a straight-line sense, however it was Materials (+0.8%) that had the most meaningful impact on the broader index. Tech was the only other sector to advance, with all others soiling the linen to a greater or lesser extent. Healthcare (-1.3%), REITS (-1.3%) and Telcos (-0.9%) did most of the damage.
- Since January’s YTD lows the index has clawed back some +4.0% of recent losses, but remains -6.3% shy of its early January highs and -6.8% below all-time highs (set mid-August last year at 7,629 (closed at 7,110). Forward EPS expectations have increased YTD (+7.4%), but remain flat to pre-FY’21 reporting season (August) levels. Concerns around Omicron and resulting social restrictions saw forecast earnings fall -7.5%, but YTD much of that has been clawed back as analysts adjust for a post Omicron world…whatever that may be. Forward PE’s are back to 16.6x, half a turn above pre-pandemic averages (5-year, 16.1x), and well below prevailing forward PE’s on the eve of the pandemic (19.1x). Markets are finely priced relative to historical averages. A -2.2% drop in the index would see valuations return to pre-pandemic ‘averages’ or alternatively +2.0% – 3.0% improvement in EPS estimates would justify prevailing multiples. Futures are pointing to modest falls.
- Local Credit – holding firm for now, but we’re expecting some widening to come down the line over the near term. Traders…”a natural lack of interest in secondary yesterday as the market braces for primary supply. In terms of themes, long end senior spreads remain well bid by the offshore community whilst Tier 2 remains weak with little in the way of natural buy cares.” In the majors, 5Y senior dropped a basis point to +65 bps, while elsewhere across the curve spreads were unchanged. In the tier 2 space, a basis point wider in the 2026’s (to +140 – 144 bps), which is less than I would have thought given some of the commentary coming across the chat lines yesterday. We see scope for further widening here, with our interest potentially piqued around the +150 bps and above mark (all other things being equal). Having said that, there is a sizeable volume of maturities this week ($15.4bn), including $4.1bn in major bank senior yesterday, which will be contributing significantly to prevailing resilience.
- Offshore credit – the narrative and rhetoric across the wires on US credit is getting more bearish by the day, and it’s not much better for European credit either. Short of a fundamental shift, eventually the bad ju-ju from offshore will filter through to local spreads. Nonetheless, thus far resilience has been firm. From the wires…”credit losses are deepening in the US after European central bankers rubbed salt in Fed-inflicted wounds. Spreads are low enough to draw issuers to any window of calm, while the return of yield to other parts of the world may further dent demand. For years, the demand/supply dynamic has been firmly in high-grade issuers’ favour, supported by foreign buyers chasing yield. But bonds are getting much cheaper everywhere, reducing the need to travel, even though hedging costs are still quite low. After the worst January slump since 1980 and elevated risk for better-rated debt, given their higher-duration, some investors may be looking to cut their losses. All eyes are on fund flows, which have been mostly negative since December and vulnerable to steeper declines.”
- Bonds & Rates – bonds spanked yesterday as markets continued to adjust to the evolving central bank dynamic – i.e. rising hawkishness. ECB President Christine Lagarde tried to calm bond market nerves overnight, by espousing a gradual policy normalisation process, but no one was buying it. Recent widening persisted, albeit at a more moderate pace: 10-year yields rose +2 – 5 bps higher. US treasuries did little in the end, a very modest rally in the first half of the trading day, only to give in back in the second half.
- Offshore Macro – meh, nothing to really worry about.
- Local Macro – Retail sales data out yesterday, with the final print knocking it out the park…and given my credit card bill, pretty sure my wife may have been a key contributing factor to the beat. As for the details…pilfering from NAB “quarterly retail volumes bounced back from their largest fall on record in Q3 with their largest increase on record in Q4, rising +8.2% QoQ (consensus +7.8% QoQ) to be some +3.4% above Q2 2021 levels. The strength in the quarter was driven by a rebound in discretionary spending in NSW (+15.3%), VIC (+10.2%) and the ACT (+12.4%) following the impact of lockdowns in the previous quarter. The result was no doubt supported by some catch up consumption following lockdowns, but is indicative of strong underlying strength in consumption. All jurisdictions except Tasmania recording an increase in the quarter, despite still elevated levels of goods consumption and minimal virus impacts in many states.” GDP impact, yesterday’s ”data suggest a strong bounce in GDP in Q4. Retail sales are estimated to contribute around 1.4ppt to GDP growth in the quarter and indicate a sharp rebound in consumption will drive activity back above Q2 2021 pre-lockdown levels. NAB currently pencils in a Q4 GDP print of +2.8% q/q – GDP figures are released on 2 March. Note retail sales is heavily weighted towards goods and comprise around 1/3 of total consumption. Looking forward, Omicron is likely to weigh on growth in Q1, though high frequency indicators suggest a much more muted and short-lived disruption than previous virus impacts.”
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Scott Rundell, Chief Investment Officer
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