Mutual Daily Mutterings
Quote of the day…
“I was born in very sorry circumstances. Both of my parents were very sorry” – Norman Wisdom
“Bond vigilantes to the fore…”
- Overview – stocks off, bonds off…generally a risk off session with investors back on the economic rebound train, and correspondingly higher inflation expectations. Weaker macro data (US ISM and jobless claims) also took some jam from the markets donut. Oil spiked on lower US inventories, another inflationary pulse. A market-based proxy for anticipated inflation rates the five-year US break-even rate has hit levels last seen in 2008, 2.5%…and in 2013 inflation was in fact higher than in 2008, +1.48% vs -0.35%. Mind you, 2008 was an extreme year, much like 2020…so yeah, inflation is on the cards, it’s just a question of timing, and markets are saying sooner than later. Of course, there are plenty of arguments also for why inflation won’t be a problem…I’m still on the fence personally. There’s just too much interference from ‘temporary’ forces (fiscal) for me to gauge what’s real sustainable growth and what’s just a government funded sugar hit. I’ve left out monetary policy here as a temporary force, for mine, it’s now structural. Some of the sell-off in treasuries overnight started its daily journey in the UK, which said it “will sell more bonds than expected as the economy emerges from a deep recession.” The accelerating vaccine deployment is further fuel for the inflationary fire, with President Biden announcing that enough doses ‘should’ be available to every American adult by the end of May. The theory being, accelerated inoculation allows the ‘normal’ consumptive forces to regain control, freeing up households to go out and spend, spend, spend. But, there are plenty of arguments to say this won’t happen, savings rates will remain elevated because people will recognise all this stimulus has to be paid for at some point, so higher taxes….David Rosenburg discusses it more eloquently than me here.
- Offshore Stocks – when the inflation narrative dominates investors frontal lobes, tech stocks tend to be taken to the cleaners, and again we saw that theme play out offshore last night. The overall weaker tone accelerated into the close, with the market closing at its intra-day lows. Tech (-2.5%) and Discretionary (-2.4%) did most of the damage, with Tech the single most dominant drag on the overall index, by a factor of at least 2x. Only Energy (+1.4%) and Financials (+0.8%) put up a fight, and they were running out of puff as the session wore on. Somewhat perversely, weaker employment data weighed on sentiment also…I say perversely because weaker employment data is not inflationary, generally. The popular narrative is focusing again on valuation concerns, as it should. Forward PE’s are at 22x – off pandemic highs as forward EPS have been revised up in recent months to reflect vaccine distribution etc, but nevertheless at 3.0x above the five-year average, the only thing holding prices up is the technicals (see chart to the right, Fed balance vs the S&P 500 forward PE’s)…despite all the optimism, fundamentals haven’t really caught up yet.
- Local Stocks – a solid local session yesterday, optically at least, but if we dig deeper it was a relatively narrow rally with 53% of stocks up vs 43% down (balance unchanged). Materials (+3.1%) and Financials (+1.2%) dragged the broader index up, both accounting for the bulk of index gains. At the other end of the tables, Tech (-1.4%), Staples (-1.2%) and Health Care (-1.0%) were all on the nose. The market is lacking momentum, trading sideways in a tightish range for the past few weeks, likely as investors warily watch bond markets and inflation expectations. Yesterday saw a stronger than expected Q4’20 GDP print (below for details), which saw a bit of a jump intra-day, although at the same time the market was weaker leading into the data print, over the half hour before and half hour after the GDP print the index was largely unchanged. Finding catalysts to drive markets higher from here remains challenging given a pretty rosy outlook is already priced in. Call me an old grump, but I can see more valuation and fundamental themes to short the market than go long, and the only thematic supporting the latter is the technicals…just a lot of $$$ chasing limited assets. E-mini’s are in the red and local futures are marginally down.
- Offshore Credit – again, despite rising yields (treasuries) issuers flooded the market with another dozen deals announced in US IG markets for just under US$10bn, taking issuance over the first three days of the week to US$56bn. Secondary spreads were muted. A strong day in EU IG also, €19.2bn priced with books 3.2x oversubscribed and spreads tightening -24 bps from launch to final pricing. EU secondary spreads drifted wider on supply. CDS edged wider with CDX(+1.2 bps) underperforming MAIN (+0.4 bps).
- Local Credit – the recent rebound in sentiment persisted yesterday with major bank senior spreads grinding a touch tighter, the Jan-25’s half a basis point in to +34 bps, while three-year paper tightened -2 bps to +25 bps…three year is the new five year it would seem. In the tier 2 space, traders are reporting muted flows “as a function of lighter street inventories after yesterday’s buying frenzy. Persistent buy cares seen throughout the day from a broad range of domestic accounts.” Across the curve, major bank tier 2 spreads are 1 – 3 bps tighter with the NAB Nov-26 calls at +137 bps (-2 bps) and WBC Jan-26 calls at +135 bps (-1 bps). Yesterday morning CBA priced two tranches of tier 2 paper into offshore markets, including US$1.5bn of 10Y and US$1.25bn of 20Y, collectively around A$3.5bn. The 10Y line swapped back around +150 – 155 bps on an asset swap basis, suggesting the A$ curve at mid +130 bps area is cheap (from an investor’s perspective). CBA hitting the US market also probably cause local investors to adjust their supply expectations, fuelling a little bit more buying interest in secondary.
- Bonds & Rates – the local bond market initially sold off (yields up) in response to the GDP data print, but couldn’t sustain the rage. Bonds had retreated with the 10’s -3 bps lower (yield) into the close vs -6 bps at one stage. Despite the GDP data, local bonds have actually slightly outperformed the US in the rally, probably on account of the RBA buying.
- Macro (Domestic) – the main focus yesterday was the Australian Q4’20 GDP print, which came in better than expected, +3.1% QoQ vs +2.5% QoQ consensus, while the annual number indicated the economic only contracted -1.1% YoY, much better than some of the early predictions of doom and gloom (i.e. down 3.0% – 3.5%). Q3’20 saw growth of +3.4%. There was strength everywhere in the numbers, but noticeably in household consumption (+4.3% QoQ), which received a boost by Victorians being released on parole (+10.4% QoQ in household consumption. +2.3% QoQ elsewhere). Business investment also surprised on the upside. The savings rate dropped from 18.5% to 12.0%, a meaningful drop, but it is still high vs historical averages. We’re not out of the woods yet, government stimulus has been a major pillar of this growth, much of it dropping away at the end of the month when JobKeeper ceases. I think the last time I checked 17% of the workforce was receiving subsidised wages. Q2’21 data will be key in determining whether the local economy can stand on its own two feet.
- Macro (Global) – I’ve pilfered the following comments from CBA…”the US economic data was disappointing. ADP employment change – a rough indicator for tomorrow’s non‑farm payrolls increased by only 117,000 in February (consensus: 205,000). The ISM services index also fell well short of expectations, though at 55.3pts it is strong. The prices component of the ISM surged to an extremely high level of 71.8pts. According to the Fed’s Beige Book, the US economy expanded modestly in the first two months of the year. In contrast to the ISM services survey, the Beige Book noted non labour input costs rose moderately. The rise in costs were attributed to supply chain disruptions and strong demand. Only some retailers and manufacturers were able to pass on higher costs into higher selling prices”
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Scott Rundell, Chief Investment Officer
T: +61 3 8681 1907