Mutual Daily Mutterings
Quote of the day…
”That was a great time, the summer of ’71 – I can’t remember it, but I’ll never forget it!”…Lemmy Kilmister
“Challenging To Watch…”
Overview…”signs of potential compromise…from one side”
- Moves: Risk on … Stocks ↑, bond yields ↑, credit spreads ↓, volatility ↓ and oil ↓….
- The ever so slightest whiff of compromise between Russia and Ukraine on the war stuff and markets lost themselves. Dip buyers crawled out from their basements and loaded up on risk as investors speculate war risk, and resulting inflationary consequences, have been sufficiently priced in. Stocks partied like its 1999, while bond yields rose. Oil dropped some 13% and CDS is between -4.5 bps and -7.5 bps lower across core indices. Cash spreads are 3 – 5 bps tighter in offshore markets.
- The catalyst? It’s pretty thin, but according to the narrative floating through the financial market’s ether, the rally followed a “top” foreign policy aide to Ukrainian President Zelenskiy stating the country is open to discussing Russia’s demand of neutrality as long as it’s given security guarantees. I read elsewhere that they wouldn’t, however, relinquish any territory, not a “single inch”, which is one of Putin’s three demands to end the war. It’s a step in the right direction, but hardly a binding ceasefire. The bombs are still falling and Russian sanctions remain in place (and rightly so), and suggestion of compromise has so far come from only one side of the conflict.
- Oil tanked as key OPEC members signalled a willingness to raise output, which is something we’ve discussed around the desk – and to my comments earlier in the week after talking to one of the water polo dads (an energy trader). Markets will adapt and within 6 months (give or take) supply vs demand will normalise somewhat. Even OPEC understands that if oil goes too high, it stunts growth, which in turn damages future oil demand. Goldman Sachs estimated Russian oil disruptions to be among the largest in history, at around 3 million barrels a day (5th largest). The Iranian revolution in 1978 was the largest at 5.6 million barrels a day.
- Talking heads…”risk markets are higher today, suggesting traders are no longer in flight mode and are starting to think about value again…that doesn’t mean volatility is over. Economic consequences, macro and micro, are still in flux. The West is still working on sanctions for Russian energy, and the duration and outcome of the war is still a big unknown.” There are signs of hope, but hope is not an effective strategy in markets, and buying here on speculation is either brave or the height of stupidity. Possibly both.
The Long Story….
- The war impact so far….
Source: Bloomberg, Mutual Limited
Source: Bloomberg, Mutual Limited
Source: Bloomberg, Mutual Limited
- Offshore Stocks –-punters piled into stocks overnight with European indices particularly euphoric, up anywhere between +3.3% and 7.9%, clawing back a fraction of their YTD losses, which are still in the -10% – 13% area. US markets got in on the act also, hot to trot from the get go with the DOW (+2.0%), S&P 500 (+2.6%) and NASDAQ (+3.6%) all putting in good performance. YTD losses here also are still meaningful, down -8.4% for the DOW and as much as -15.3% for the NASDAQ. The S&P 500 is in between, down -10.4%. Volumes on the day were up a touch, but nothing too outlandish. Within the S&P 500, some 83% of stocks advanced, and only two sectors retreated, Energy (-3.2%) and Utilities (-0.8%), which was not surprising. Tech (+4.0%), Financials (+3.6%) and Telcos (+3.5%) led from the front.
- Local Stocks – a solid up day yesterday in local markets. Only 14% of the ASX 200 failed to get out of bed on the day, but no sector let team-bull down, all advancing. Volumes were a touch elevated against recent averages. Tech (+3.2%) took line honours, followed by Telcos (+2.4%) and Discretionary (+1.8%). On a handicap basis, Financials (+1.5%) did around half of the heavy lifting in the broader index. With hopes and dreams of peace in Ukraine, futures are in the green, indicating a positive day.
- Offshore credit – “credit markets are cracking under the pressures of war, rates, QT and fears of economic slowdown. That isn’t stopping issuers. Borrowers are rushing to fund before it gets even worse, compounding pressure on spreads. High-grade spreads are +20 bps wider this month, the steepest leap since March 2020, and 50% more than where they started 2022. The yield jumped to 3.36%, highest since April 2020, and above the five-year average of about 3.0%.” (Bloomberg). Over the session last night, CDS pricing rallied in-line with stocks, while cash spreads squeezed in a bit. Traders…”AT&T printed the 4th largest IG deal in history (US$30bn) – while conditions in Financials remain challenged but it is encouraging to see positive fund flows in Corporates. Credit markets repair off the back of constructive primary deals; the focus now back on a product which has had its worst start to the year since ’08.”
- Local Credit – it’s all about liquidity at the moment, so straight to the trader’s tapes…” Only modest turnover in local financials – domestic accounts were better sellers of the mid curve and Asian based investors better buyers of the long end. This stopped any further steepening on the day, but we do close spreads wider across the curve with the street seemingly happy to see marks drift. We also note better buying of fixed paper from offshore accounts.” Major bank senior 5Y closed another +2 bps wider at +84 bps, which is honing in on the long run average – see chart below, something I’ve mentioned a bit lately. An overshoot is possible if the risk backdrop remains strained, but if the signs of potential compromise and cessation of Russian hostilities have legs, then we may have seen the wides for this part of the cycle. The rest of the senior curve also widened a couple of basis points with 3Y at +57 bps.
- Some pain in the tier 2 space yesterday…traders “spreads hit with a decent nudge wider yesterday on some very ‘gappy’ price action. Sell flow from one ETF type account was the catalyst – the volume of said interest was relatively small, but given the liquidity backdrop tickets cleared at wide levels, triggering a broader remark of dealer’s books. One local real money investor took this as an opportunity to add (a view we sympathise with) and lifted bonds out of the street late in the session.” The 2026 calls closed 6 – 8 bps wider yesterday, out to +166 – 169 bps. The 2025’s are 5 – 6 bps wider at +151 – 152 bps. I’m tempted to say, back the truck up and load up, but that would be reckless…but fun. As with senior paper, if the nascent signs of peace have follow-through, tier 2 will benefit most.
- In late news, just before I was about to send, WBC announced an A$ 3-year deal with guidance of +72 bps, which is +15 bps to where the generic 3-year curve closed yesterday. At guided levels, the deal is priced at +2 bps wide of where CBA priced their 5-year deal in January, and bang on the same margin that NAB priced their last 5-year senior deal at in mid-February. On the eve of the Russian invasion of Ukraine, 30year major bank senior was trading at +47 bps. I’d suggest the deal will priced, maybe around +70 bps.
- Bonds & Rates – the closer we get to peace, whatever it may look like, and as elusive as it may look, the more inflation and monetary policy settings will take centre stage, at least for bonds. And, with the FOMC next week, we’re probably at that stage of proceedings. Yesterday we saw a meaningful sell-off in ACGB’s with 10-year yields hitting three-year highs, 2.32% (+8.5 bps), levels not seen since well before the pandemic, at the beginning of 2019. Same for 3-year bonds, with yields hitting 1.74% (+8.0 bps). Fixed rate bond indices (Bloomberg AusBond) lost another 34 – 49 bps yesterday, while the FRN index lost only 5 bps, mainly on the aforementioned spread widening. On a month to date basis, fixed rate indices have coughed up -1.0% to -1.2% in returns vs just 0.1% for FRN’s. There’ll be no let up for fixed rate investors today given offshore leads. US 10-year yields closed +10 bps higher, while OATS, BUNDS, and GILTS are +8 – 10 bps higher also.
- I found this observation from NAB this morning interesting, something I’d missed. “The aggressive tightening path priced for the Fed amid an uncertain backdrop for economic growth has seen the market start to price in an inverted US curve within a year. In the past week the US 2y10y curve 1y forward has traded below zero as has the 3mth10y 1y forward curve. Given where spot 3mth 10y forward is currently trading (ie 158bps), expectations for curve flattening over the year ahead is massive.” So what? Historically, inverted curves have implied very high probability of a recession shortly thereafter.
Market pricing of RBA cash hikes…
- Macro – “commodity costs underline the inflation challenge and growth dilemma facing central banks. The European Central Bank meeting Thursday may reflect caution as the war on Ukraine has upended the continent’s economic outlook, while bets on a Federal Reserve rate hike have been scaled back over the past few weeks, with a quarter point now widely expected. Still, with US inflation data due Thursday set to capture pre-war prices, economists are now saying it could peak somewhere in the 8% – 9% range this month or next.” (Bloomberg). Consensus expectations for US CPI are sitting at +0.8% MoM (vs +0.6% MoM last) and +7.9% YoY (vs +7.5% YoY last). As was stated last month when CPI came out at +7.5%, CPI is comfortably at 40-year highs. The last time CPI was this level, US 10-year treasuries were in double figures, north of 10.0%…but, it was different times. Speaking of inflation, with the Russian rouble in the toilet, the cost of imported goods has gone stratospheric. A new domestic car is now +17% more expensive than a month ago, while a new TV will set you back 15% more. It’s tough going for vegetarians and those with illnesses, with vegetables and some medicines up 5% – 7%.
- How much of an impact as the combination of omicron, fiscal cliff, and war in Europe had on the US economy. We don’t know yet, but “the latest GDPNow* figure is at 0.5%, with expectations that the final figure will be closer to 2.0% before the official data are released in April. Tonight’s CPI figure will give us an indication of downside risk to those figures. Higher inflation will mean lower real growth when GDP figures are released. Lower growth and higher inflation will complicate the Fed’s task in normalizing policy. And it’s not clear whether they would err on the side of lowering inflation or protecting growth. Overall, despite recent curve flattening, with omicron in the rearview mirror, the immediate risk from tomorrow’s CPI print is steepening.” (Bloomberg).
- (*) the growth rate of real gross domestic product (GDP) is a key indicator of economic activity, but the official estimate is released with a delay. The GDPNow forecasting model is used by the Federal Reserve of Atlanta and provides a “nowcast” of the official estimate prior to its release by estimating GDP growth using a methodology similar to the one used by the U.S. Bureau of Economic Analysis. GDPNow is not an official forecast of the Atlanta Fed. Rather, it is best viewed as a running estimate of real GDP growth based on available economic data for the current measured quarter. There are no subjective adjustments made to GDPNow—the estimate is based solely on the mathematical results of the model.
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Scott Rundell, Chief Investment Officer
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