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Global stock markets rose at a double-speed in July, rising in the first half of the month and falling in the second half, especially in the technology sector and artificial intelligence stocks.
After the strong performance of these securities, the market began to doubt the payback time of such investments, which led to important adjustments in the Magnificent Seven. Although the latter mainly recorded good stock profits, about 80% of the companies exceeded analysts’ expectations, and earnings per share did not meet market expectations, which were very high this time, and recorded double-digit declines from the second half of July to the end of July 2019 and early August, and then recovered in the first half of August. US large-cap stocks continued to grow, but the growth rate slowed down; the S&P 500 fell 5.7% from its closing high on July 16, the largest drop since the beginning of the year, but the index has recorded a +13% increase since the beginning of the year (total return).
For this series, no risk, no reward.
It is worth noting that, at the same time, the S&P 500 performed well, but the US small and mid-cap index performed the best, while the Russell 2000 was supported by growing expectations of a Trump presidency (deregulation) and falling interest rates. Asian stocks remained weak due to disappointing Chinese economic growth data and concerns about tighter US restrictions on advanced chip sales. As we expected, Japan raised interest rates, leading to a revaluation of the yen relative to other currencies due to expectations of narrowing spreads. However, the Japanese economy showed signs of general weakness. In Europe, quarterly reports have been disappointing so far, especially in the luxury goods, automotive and technology sectors. Financial stocks performed well, with better-than-expected quarterly results, confirming the resilience of spreads, the growth of commissions and the lack of deterioration in credit quality (for now!). Utilities also performed well.
In the bond space, the market welcomed the inflation data, but it still wasn’t an exciting year for long-term bond holders as high-yield bonds and short-term securities clearly still dominate the bond space.
In early August, more negative than expected US employment data, especially on August 2 and 5, coupled with the Bank of Japan (“BoJ”) rate hikes, triggered a broad sell-off. The yen immediately appreciated against the dollar (+13%), and a subsequent “unwinding” of carry trades took away liquidity from US markets, especially risk assets (e.g. Nasdaq). It was already limited.
Moreover, with the end of July and the beginning of August, the market also saw the return of volatility, which was low after a long risk-on phase, also thanks to the “subtlety” of the summer market, we saw the VIX index, the indicator of implied volatility of S&P 500 index options, rise from 12 at the beginning of July to 23 (+92%) on August 2, and finally to 55 (+358%) on August 5. Regarding the employment data, which initially made us imagine a hard landing for the US economy, i.e. a delay in the Federal Reserve (“FED”) in cutting interest rates; the latter was subsequently scaled back when it was discovered that the rise in unemployment was not due to layoffs, but to an increase in the labor supply due to increased immigration.
In addition, the producer and consumer price data released in mid-August confirmed the downward trend in inflation, and together with the US retail sales data showing values higher than market expectations, confirmed that the US economy is slowing down, but has not fallen into recession. , but against the backdrop of reduced inflation.
As for inflation, the significant slowdown of the Chinese economy and the consequent reduction in the demand for raw materials by the Asian giant determine a decline in their prices, which in turn has a favorable impact on inflation, since, as we all know, explosive increases in inflation are often determined by rising raw material prices.
Under such circumstances, the market in mid-August rebounded significantly from the pullback at the beginning of the month, the stock index returned to a high level again, the 10-year Treasury yield was 3.80%, and the Vix fell to around 15.
As a result, the market recognizes that the Fed has room to cut rates in a soft landing scenario – a slower economy but not a recession and lower inflation.
On the surface, it looks like Jerome Powell is trying to “ride the bull.”
We believe that the stock market will remain supported by a healthy economy as long as corporate profits remain at these levels, as mentioned before, only EPS came in below (very high) expectations. The US economy is expected to grow by 2.8% in the second quarter, above analyst expectations, and high-yield spreads remain close to historical lows, so do not indicate an imminent recession risk. We still expect two rate cuts from the Fed and the ECB between now and the end of the year, a medium-term positive event for stocks if, as we think, this is accompanied by a scenario of slower growth, but still growth (soft landing). On the bond side, we prefer shorter-dated government bonds with gradually increasing duration to increase portfolio responsiveness in case of rate cuts. We are starting to like local currency bonds from emerging countries, which, in addition to their interesting yields, should also perform well in case of US rate cuts.
We recommend adding liquidity to the portfolio, aiming to capture the subsequent market decline. With real interest rates falling, we see gold as an attractive asset given the growing concerns about the US fiscal deficit, hedging potential geopolitical risks, and diversification of Asian central bank reserves. As a macro trade, we continue to recommend positions to hedge volatility, US curve steepeners (open to exchange rates), and the Japanese yen.
Christian Sekoli – Managing Director, NT Capital SG SpA
The contents of this document are for information purposes only and its publication does not constitute a solicitation for public savings nor is it intended to promote or issue financial instruments. The information and any other opinions given in this document refer to the date of its preparation and are subject to change. The contents of this document reflect the author’s opinion and are based on various sources of information considered reliable, which have been selected with care and professional diligence, but no guarantee or compensation can be given for accuracy, completeness or quality. If the user intends to perform any action, it is recommended not to make a choice based solely on the information indicated in this document, but must consider the relevance of this information to the purpose of his decision, in light of his investment objectives, his experience, his financial and operating resources and any other circumstances.
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