Mutual Daily Mutterings
Quote of the day…
“How is education supposed to make me feel smarter? Besides, every time I learn something new, it pushes some old stuff out of my brain. Remember when I took that home winemaking course, and I forgot how to drive?”.…Homer Simpson
Chart du jour: reporting season consequences…
Overview…”with apologies to the band Europe, the “The Final Lockdown?””
- A mixed session in offshore markets, some up, some down, but modest changes in either direction. The S&P 500 cracked a new record high with the narrative pinning continued buoyant US earnings season as the catalyst. In treasuries, a continued bear flattening of curves with a meaningful move higher in 2-year yields as inflation fears continue to rumble on and the rising probability the Fed will be forced to hike sooner than later. It’s worth noting here, that market implied expectations for US inflation for the next decade have hit 15—year highs as a greater proportion of the market have stopped drinking the Fed’s Kool-Aid, losing faith that the ‘transitory’ narrative will be correct.
- While reporting season thus far has been viewed favourably, it’s not all sunshine and lollipops. Among the 100 or so companies in the S&P 500 that have disclosed results so far, some 84% have beaten expectations, a hair away from the best showing ever (recall average tends to be 60% – 70%). Yet, the firms that surpassed profit forecasts have almost nothing to show for it in the market, minimal upside. However, the misses have been spanked by the widest margin since 2017. A glimpse into the prevailing investor psychology, which hitherto has been torn between greed and fear with the market near all-time highs. While growth so far has been stellar and earnings robust, investors need proof the momentum will last.
- Oil dropped the soap, falling -1.3%, the largest daily move since August, which came on news of lockdowns in Eastern Europe and Russia. The drop will likely be short-lived with many bullish variables still propping up the market and localised lockdowns aren’t enough to quench robust global demand. Bloomberg reports that “supplies remain tight with OPEC+ taking a gradual, phased approach to restoring output and inventories in the biggest US storage hub saw a surprising draw. And fuel switching from natural gas to oil still remains a driver for oil prices, seen as a cheaper alternative for the colder winter to come”.
- Offshore Stocks – European markets closed moderately weaker, which set the tone for US markets. While the S&P 500 and NASDAQ closed up on the day, again moderately, the indices spent much of the trading season in the red. In the S&P 500, 55% of stocks gained ground, while across the main sectors, four retreated and seven advanced. Discretionary (+1.4%) performed best, followed by Healthcare (+0.4%) and Tech (+0.4%). Predictably given the move in oil prices, Energy (-1.8%) underperformed, with Financials (-0.4%) and Materials (-0.2%) also down on the day. On the reporting season, a smidge over 20% of the S&P 500 have reported. Aggregate sales are up +16.3% vs the pcp, while aggregate earnings are up +45.3% on the pcp. Against consensus estimates, aggregate sales have beaten by +2.1% on average, while earnings have beaten by +11.7%. On the earnings side, only Discretionary (-1.9%) has missed consensus estimates to the downside.
- Local stocks – the ASX 200 closed flat on a mixed day, with half of stocks up, and the other half…yep, down. Same for sectors, mostly even-stevens on the uppers and downers. No local news or data of note to sway sentiment in any direction. REITS (+1.6%) took the chocolates for best on field, followed by Tech (+0.6%) and Financials (+0.3%). Energy (-1.4%) was left to carry the half-time oranges, as was Staples (-1.1%) and Healthcare (-0.5%). Leads from offshore aren’t giving us much, so futures are signalling a flat open in local markets.
- Global credit – US primary markets were dominated by a US$21.5bn nine-part deal, which pretty much sucked the oxygen out of the room, leaving little space for anyone else to get anything done. The issuer was aircraft lessor AerCap Holdings NV, with the deal to help fund its acquisition of GE Capital Aviation Services. This is the second largest deal of the year. Secondary spreads have drifted wider, but nothing too meaningful.
- Local Credit – traders breathing a brief sigh of relief yesterday…”the quietest day of the week, no complaints here. Consolidation in local rates will help bring credit investors back to the secondary market, however, it’s far from certain that we’ll get it”. In the bank space, continued widening expected by yours truly and the street…”ongoing widening in the ‘long end’ of the senior curve, we are now 15bps+ wider from where we stood immediately prior to the CLF announcement. Our sense is that we have further to go, this sense somewhat validated by the absence of any reinvestment proceeds from today’s $1.75bln NAB maturity. Wednesday’s BOQ 5yr deal finding a base 3-4 bps inside reoffer. Fair to say that this deal spooked a number of investors, however the deal stats should reassure with a sizeable percentage going to domestic real money. This shake-up in the regional bank curve has attracted some domestic buyers.” Major bank spreads were marked a touch wider in senior, with the Aug-26 and Jan-25 lines closing (per trader’s marks) a basis point higher at +53.5 bps and +41.0 bps respectively. Meanwhile in the major bank tier 2 space, no change to spreads, but the “street remains laden and spreads starting to creak.”
- Bonds & Rates – local bond yields paused their relentless month-to-day climb yesterday, dropping a few basis points between the 3-year and 10-year part of the curve, while the 2-year drifted higher. Markets are now pricing at least one rate hike in Q3 next year (chart below), arguably two-years ahead of the RBA’s guidance (2024), which they reiterated at the last meeting. In US treasuries…some commentary out of the US that strikes a chord with me…”the yield curve is bobbing around like a rubber duck on the open seas — there is plenty of high-frequency up-and-down movement without any notable direction. Still, we’ve recently hit something of a watershed. As two-year yields rise from the dead in anticipation of a forthcoming policy cycle, 2s10s will become more relevant as an indicator. Consider also the 5-year part of the curve, in US treasuries…”data from 30 years show the 2s5s spread steepening to over 150 bp every time we have begun an economic cycle and then dipping below zero before recessions. Right now, we’re halfway between those two levels. Think of this gauge as the ‘barometer of truth’. If this is truly the beginning of a new economic cycle, if inflation is truly a longer-term issue, we will see another 75 bp of steepening before we match the last three business cycles”. Given offshore leads, we could see the front end under pressure again today.
- Local Macro – given we have local CPI data out next week, I put the following question to a couple of rates strategists in the market yesterday…”at what point does the RBA concede inflation may not actually be transitionary, but more entrenched (ignoring wage inflation, or lack thereof for the time being)? Is it two-quarters, three-quarters?” After praising me for the brilliance of the question (not really), and inserting a caveat that it was a hard one to answer, responses are as follows (identities withheld to protect the potentially incorrect, or those without clearance from compliance to respond to the question…yes, that’s a thing):
- “there are number of parts to the answer I guess. First the time that it stays elevated is obviously key. They have said on a number of occasions that it will need to stay sustainably and materially within the range for a number of quarters. So that says that you are well into next year as a starting point from a “how long” perspective. Next, what is sustainably? Are current drivers sustainable. They would have difficulty shifting their mindset on that. They say it is all about wages and very little else. So, it’s hard to say what changes their mind if it is elevated only from other inputs which are more variable and less able to be a true reflection of Australia’s underlying fundamentals. The “material” aspect means that they will not be hyper reactive to near term outcomes. So, again that puts you in the 3 to 4 quarters of surprising outcomes (above the expected bounce)”.
- Another, more succinct response was “a central banker is never late – he concedes defeat precisely when he means to…” This evolved into a more serious response, “I think the RBA has become very academic of late. They’re really trusting their models rather than looking around and chatting to people. It may take a while to rouse them, but I reckon three quarters of prints, so nearly a year”
- The third bank I asked failed to respond, so they’re in the naughty corner.
- Offshore Macro – nothing of significance out last night, while tonight brings US PMI’s. Consensus not expecting any significant change over prior prints.
Enjoy the freedom
Click here to find the full PDF from our Chief Investment Officer’s daily market update.
Scott Rundell, Chief Investment Officer
T: +61 3 8681 1907