Back to the 70's?

• Markets rapidly cheered signs the Ukraine war appeared to be waning in intensity but it was a completely different story on the ground
• The conflict risk premium subsided, sending risk assets higher and commodities sharply lower
• We are gradually returning to a neutral stance on equities, and we remain underweight duration as inflation is still with us.

With oil trading above $100 and supply chain problems, today's inflationary pressures remind us of the 1970s when two oil shocks resulted in memorable central bank action.

Markets rapidly cheered signs the Ukraine war appeared to be waning in intensity but it was a completely different story on the ground. There is, however, clearly some willingness to continue discussing how to reach a ceasefire. Russia has withdrawn a large number of troops from the Kiev region and abandoned its aim to “denazify” Ukraine and topple the government. Ukraine has accepted in writing that the country could be partly demilitarised and has also given up hopes of joining NATO. The situation is still highly complicated but the risk the conflict might spread to NATO has diminished.

As a result, the conflict risk premium subsided, sending risk assets higher and commodities sharply lower. However, the US dollar has only marginally benefited from its safe haven status during this crisis, perhaps because of mounting distrust after Russia’s central bank reserves were frozen and the assets of some oligarchs confiscated.

Bond movements were more pronounced due to serious inflation indicator shifts.

Inflation in Germany is now at 7.6% and at 9.8% in Spain where it has broken a 40-year record. In the US, the gap between inflation and real rates was only this high during the 197 oil shocks. True, our economies are only half as dependent on energy as in that period, but the Fed’s credibility now hinges on raising rates to get inflation expectations back under control. In Europe, 2-year bond yields moved briefly back into positive territory.

In China’s, Beijing’s insistence on a zero Covid policy led to 24 million people in Shanghai going into lockdown and PMI indicators falling below 50. The government shows no signs of changing its approach despite people protesting and the fact that 95% of cases are asymptomatic.

Given the less tense geopolitical environment amid ceasefire talks and some easing in monetary policy pending the next FOMC, we are gradually returning to a neutral stance on equities. At the same time, we remain vigilant ahead of quantitative tightening developments and moves to shrink central bank balance sheets. We remain underweight duration as inflation is still with us.

EUROPEAN EQUITIES

Despite poor visibility on chances ceasefire talks between Russia and Ukraine might succeed, markets turned optimistic after the rouble enjoyed a strong rebound against the euro and oil prices retreated. The most battered sectors like autos, financials and consumer discretionary saw the biggest gains. However, worries over the ECB’s future tightening resurfaced as consumer price inflation in Germany hit 7.3% in March, or more than the 6.3% expected, and up from 5.1% in February. Unsurprisingly, this was due to the Ukraine war and German’s dependency on Russian energy. 

In company news, Denmark's Maersk warned that Shanghai’s lockdown could hit global supply chains. Even if the city’s airport and port remain open for business, the shipping company said increased delivery times would cause bottlenecks. Meanwhile, Heineken and Carlsberg followed others in withdrawing from Russia. Carlsberg will suffer more as the group makes 10% of its sales in Russia. The big problems for Europe’s companies are supply side disruption and soaring commodity prices like aluminium. Brewers will also be hit by higher grain prices. In the energy sector, Veolia and Waga Energy launched a joint venture to produce biomethane. The project is part of Veolia's sustainable energy drive and will also reinforce France’s energy independence by reducing the need to import Russian gas.

US EQUITIES

It was a mixed week for US indices with the Dow up slightly while the S&P500 and Nasdaq lost ground. Yield curve inversion (between 2 and 10-year bonds) was the week's big event as it is generally a sign of a recession to come.

Elsewhere, in a reflection of a buoyant economy, the private sector created 455,000 jobs in March and growth hit 6.9% YoY in the fourth quarter of 2021. Trading volumes remained at a very weak 20% below the moving 200-day average and the VIX volatility index continued to ease, falling to a low not seen since mid-January. Oil prices remained under pressure after the US decided to release more strategic reserves. WTI fell 7% to $100. The OPEC+ cartel chose not to boost production above the 400,000 barrels a day already agreed. Bloomberg said the White House was looking to secure the support of the International Energy Agency to encourage other countries to adopt similar measures. Risk appetite among small investors appeared to rebound as bitcoin moved back into positive territory for the year and Gamestop rose for 10 days in a row. Another meme stock, cinema chain AMC Entertainment soared 44%.

The Department of Justice said it would approve antitrust legislation to prevent Google and Amazon from favouring their own products and services on their platforms.
Tesla gained 8% after the company announced a stock split to help small holders buy shares. The split ratio was not indicated.

Uber gained 2% after securing a 30-month licence to continue operating in London, bringing a long battle with local regulators to an end.

Apple rose for the 11th session in a row, its best performance since 2003. The group's market cap increased by $400bn to $2.92 trillion, or within 2% of its all-time high.

Semiconductor stocks were in demand on Thursday after the Senate approved a draft bill which would grant $52bn in subsidies to reinforce US production.

Nielsen, the world’s largest data and market measurement firm, jumped 20% after agreeing to be bought by a consortium of investors for $16bn.

JAPANESE EQUITIES

The NIKKEI 225 and TOPIX fell 1.03% and 1.77% for the period with industries reacting in various ways to news on the Russo-Ukraine war and US interest rates. 

Air Transportation, Rubber Products and Transportation Equipment rose 2.79%, 2.35% and 0.45%, as investors bought back oversold sectors after positive news on cease-fire talks in Turkey. In contrast, Banks, Insurance, and Securities & Commodities declined by 5.53%, 5.41% and 4.69% as long bond yields fell back.

 Chubu Electric Power rebounded 3.27% from its sharp fall following a downward earnings revision due to higher fuel costs. Bridgestone Corporation also rebounded 2.74% after factoring in weak FY2022 earnings guidance. Nissan Motor rose 2.72% as the Japanese yen weakened. On the other hand, Japan Post Holdings and Softbank tumbled 9.07% and 6.97% as they went ex-dividend. Dai-ichi Life Holdings fell 7.29% as US long bond yields started to fall and the yield curve inverted. 

The Japanese yen declined to a six-year low against the US dollar mainly due to 1) the widening spread between Japan and US yields and 2) Japan’s worsening current account deficit amid oil and commodity price rises. 

The BOJ governor Haruhiko Kuroda said “the weaker yen is beneficial for the Japanese economy as a whole” at the press conference after the recent Monetary Policy Meeting. Japan’s equity market has so far reacted positively to yen weakness.

EMERGING MARKETS

The MSCI EM Index was up 1.5% as of Thursday’s close with most regions closing in the green. China (+2.4% in USD) continued to rebound. India (+2.2%) also outperformed.

In China, March official manufacturing PMI was 49.5, or in line with estimations, and down from 50.2 in February. Non-manufacturing PMI was 48.4, or lower than the 50.3 estimated and 51.6 in previous month. Shanghai started its half-city lockdown this week as daily covid cases exceeded 5,000. Trucking services in and out of Shanghai were down 30% according to Maersk, the world's second-largest container shipping company. The local government is reportedly to roll out policies to help the local economy, including tax refunds and credit support to service property M&A projects. Home sales in China's tier-1 and tier-2 cities showed sequential improvement, with Beijing up more than 80% MoM and Guangzhou up 34% March, although still down on a YoY basis.

Wuhan city cut the mortgage rate for both first and second-home purchases. Beijing released regulatory notices to crack down on tax evasions by live-streamers and stating that platforms should act as gatekeepers. The notice omitted any mention of a cap on tips for live-streamers. CSRC and other national regulators are reportedly preparing to give US regulators full access to auditor reports for most of the 200-plus companies listed in New York as early as mid-2022. Chinese tech companies continued their share buybacks: Tencent spent a daily HKD 300m HKD on buying back shares over the past 5 days while Xiaomi had bought HKD 100m of its shares as of March 31. Apple is reportedly thinking about expanding its list of memory chip suppliers and is in talks to accept the first Chinese memory chipmaker. Pop Mart’s results were mostly in line and management remains confident on the outlook for this year. 

TSMC in Taiwan said that smartphone, PC and TV demand was declining in China but that there was only a very low chance that it would reduce its target. 

South Korea relaxed some Covid-related restrictions, now allowing fully vaccinated travellers to enter Korea without quarantine, as well as easing social distancing measures.

Singapore-based SEA Ltd is shutting Shopee, its main e-commerce operation in India, one month after the India government banned its Free Fire game on geopolitical concerns.

India was offered Russian oil at a $35 discount. Moscow also proposed a SWIFT alternative to India for ruble payments. Axis Bank acquired Citi’s retail business for a total payment of $1.6bn. The deal will complement Axis's franchise by enhancing its wealth management businesses.

Brazilian President Jair Bolsonaro tapped a well-known academic and energy consultant as the next CEO of state-run oil company Petrobras, effectively ending the tenure of current CEO Joaquim Silva e Luna less than a year after he was appointed.

CORPORATE DEBT

CREDIT

Despite record inflation in Europe, signs of progress in Russia-Ukraine ceasefire talks led to risk premiums tightening sharply over the week. Between Monday and Thursday, the Xover tightened by 30bp and the Main by 7bp. Yield volatility was a strong feature as the US yield curve inverted briefly amid worries over a possible recession. The high yield index gained 0.43% over the period while the investment grade index ended 0.35% higher.

In the high yield space, the new issues market reopened with Spain’s Cellnex (telecoms) raising €500m to fund growth.

Elsewhere, commercial property company Unibail Rodamco Westfield told its investor day audience that it expected gearing to fall to around 40% by 2024. Reaching the target would entail divesting its US assets, a quarter of its portfolio, and selling €4bn in European assets.

Telecom Italia continued to attract suitors. After KKR's offer to buy 100%, the CVC Capital Partners fund made a bid to acquire a 49% stake in the group's corporate services division.

In financial debt, Moody’s upgraded several Greek banks, raising National Bank of Greece and Eurobank by 2 notches and Piraeus and Alpha Bank by 1 notch.
In new issues, Deutsche Bank and Rabobank sold AT1 debt. Over the week, USD CoCos tightened by 43bp and euro CoCos by 66bp.

CONVERTIBLES

After a dearth of new issues lasting several weeks, the primary market reopened as conditions turned more favourable. BE Semiconductor raised €175m at 1.875% due 2029.

In company news, payment companies had a rough ride on news Apple was working on creating its own payment systems.

In the troubled Chinese property sector, Country Garden saw 2021 sales rise by a robust 13% to $82.1bn. Net profits came in well above expectations at $6.44bn. The company’s financial situation continued to improve with gearing down again to only 45.4%.

GLOSSARY

• Investment Grade: bonds rated as high quality by rating agencies.
• High Yield: corporate bonds with a higher default risk than investment grade bonds but which pay out higher coupons.
• Senior debt benefits from specific guarantees. Its repayment takes priority over other debts, known as subordinated debt.
• Debt is considered to be subordinated when its redemption depends on the earlier payment of other creditors. To offset the higher risk, subordinated Senior debt has priority over other debt instruments.
• Tier 2 / Tier 3 : subordinated debt segment.
• Duration: the average life of a bond discounted for all interest and capital flows.
• The spread is the difference between the actuarial rate of return on a bond and the rate of return on a risk-free loan with the same maturity.
• The so-called "Value" stocks are considered to be undervalued.
• Markit publishes the Main iTraxx index (125 leading European stocks), the HiVol (30 highly volatile stocks), and the Xover (CrossOver, 40 liquid and speculative stocks), as well as indices for Asia and the Pacific.
• EBITDA: Earnings before Interest, Taxes, Depreciation, and Amortization.
• Quantitative easing describes unorthodox monetary policy from a central bank in exceptional economic conditions.
• Stress Test: a process which simulates extreme but possible economic and financial conditions so as to assess any impact on banks and measure their resilience to these events.
• The PMI, for "Purchasing Manager's Index", is an indicator of the economic state of a sector.

DISCLAIMER

01/04/2022
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