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| Mensuel : | Edition de juin 2010 |
| Rubrique : | Economie/Conseil |
| Titre : | Bellatrix Market Outlook |
| Article : | Par Daniel Van Hove, CFA, Managing Director Bellatrix Investments S.A.
EQUITY MARKETS U.S. equities, and consequently most equity markets in the world, suffered heavily during the month of May 2010. The S&P500 index dropped -8.20% to 1,089.41 and is posting a year-to-date performance of -2.30% in USD and +13.59% in EUR. The Dow Jones Industrial Average (DJIA) index had its worse month of May and fell -7.92% to 10,136.6 since 1940, as reported on Bloomberg.com. The Dow even dropped below 10,000 for the first time in three months. Putting this into perspective, the S&P500 index enjoyed a strong rally of +61% after reaching a 12-year low on 9 March 2009. This 13-month rally came to an abrupt end on 23 April 2010, and the index has fallen 11% in just 5 weeks. As you can see on the chart below, the index fell below its average aver the past 200 days earlier in the month and an important cross of the 50-day moving average into the 200-day one is getting closer and closer. For Investment Research of Cambridge, a U.K. technically-based research company enjoying good international reputation for its expertise in predicting the trend in global markets, this recent rally had been one of very best in the past hundred years but is now over and can be called a strong rally in a secular bear market which started in 2000. In their World Investment Strategy Global Report of May 2010, they indicated that this secular downtrend will remain as such for another 10 years. One interesting comment was their interpretation of the recent 9% intra-day fall which occurred on 6 May 2010. This was not a pretty picture and it does not matter that it recovered some of this by the close of the day. This event caused by a bunch of computer algorithms can counts as a crash and shows clearly the fragility of the whole situation. They predicted in this report that “a decline of between 20-25% to a low in October is likely. But in the short term, there should be one sustainable upward move in this pattern which will count as the mid-summer rally. Smaller rallies will be difficult to capture for most investors as they are only likely to be short contra-trend moves within a downtrend”. They strongly believe that there will be a better, later and lower chance to buy back, possibly in October 2010, and they would resist the temptation to chase any and all intermediate rallies meanwhile. More fundamentally, the U.S. economic recovery is gathering momentum and is becoming more broad-based. The U.S. GDP grew at a 3% annual rate in Q1-10, after expanding at a 5.6% in Q4-09. Consumer spending accelerated to a 3.5%, the best performance since Q1-07. Durable good orders increased by a robust 2.9% in April due in large part to commercial aircraft orders. Stripping out this volatile transportation component, core orders fell by 1.0% after a 4.8% surge in March and a 2.1% increase in February. As Capital Economics concluded, ”over the past three months core orders have risen at a far from shoddy 21% annualized pace”. In the Global Economics Weekly report of Goldman Sachs Economics, Commodities and Strategy Research of 19 May 2010, Jan Hatzius and his team argued that “many coincident indicators suggest that there may be some upside risks in their current forecasts. Among many recent encouraging signs, the fresh widening of the gap between new orders and inventory component of the manufacturing ISM survey is noteworthy”. But he has also indicated that, despite these evident risks, there are still some downside risks, which would especially relate to an unjustified tightening of U.S. financial conditions. Bloomberg.com just reported on 28 May 2010 that U.S. consumer spending paused in April after growing in Q1-10 at the fastest pace in three years. But Conrad DeQuadros, a senior economist at RDQ Economics, is looking at fairly decent gains in consumer spending in Q2-10 resulting from a pick-up in income growth which is reflective of the improved labour-market picture. Wages and salaries rose 0.4% in April after 0.3% in March. While the savings rate climbed 3.6% in April from 3.1% in March, consumer sentiment improved in May to 73.6 from 72.2 in April, according to a report from Thomson Reuters/University of Michigan. Resumption of job growth and rising wealth are important factors helping consumers get back in the game. The Institute for Supply Management Chicago Inc. reported last week that its business barometer fell to 59.7 in May from 63.8 in April, which was the highest level in 5 years. This correction is seen as a normal one from the strong April pace. Payrolls probably increased again in May, and the unemployment rate likely fell to 9.8% (the actual figure will be released on Friday 4 June 2010) according to Bloomberg.com. And this is viewed positively for future consumer spending. The 14.8% m/m surge in new home sales for April is very welcome but it was triggered by the expiration of the tax credit at the end of the month. Paul Ashworth, Senior Economist at Capital Economics considers that “this surge in sales may give the economy a short-term boost, not least as households furnish their new homes. But it will be only a matter of months before a double-dip in the housing market starts to act as a modest drag on economic activity. In spite of this short term positive picture, it is important to understand the nature of the ongoing U.S. (and global) economic recovery. In its May 2010 Monthly Report entitled “The Super-Bubble is bursting. What comes Next?” , Tim Lee of piEconomics LLC considers that the present ”recovery” is not a “proper” recovery. “There has been neither a restoration of purchasing power in the economy, nor a complete correction of resource misallocation. Instead, there has been a government-driven rebuilding of imbalances with a bounce back in consumption financed out of a renewed fall in savings rates. Money, Credit and the interest rate structure, viewed in totality, have not behaved as in previous recoveries. They show that the “recovery” will not be sustained. Money has been barely growing in advanced economies. But government debt has been growing very rapidly. The U.S. cannot return to sustainable economic growth unless the savings rate rises substantially. The overriding problem is the collapse of the overall global savings rate which is estimated to have now fallen to only 18% from over 21% as recently as mid-2008 (excluding China). The path for a macro adjustment eventually involves a much higher inflation rate worldwide. For now, though, deflation is intensifying and the development of inflation awaits central banks’ reactions to falling asset prices. This shift towards monetary inflation is probably still a year away”. Mr Lee forecasts a decline of the S&P500 index to around 500 in about 12 months while the 10-year Treasury could reach 5.0%. For the time being, there is still a sense of bullishness around, with a touch of sensitivity, as Merrill Lynch describes in its recent Global Quant Panorama dated 18 May 2010. Their continued positive view on equity markets and cyclical assets is based on a combination of improving macro data, rising earnings forecasts and undemanding valuations. For them, the recent pull-back in equities provides an opportunity for a continued upturn. According to preliminary estimates published by the U.S. Commerce Department, overall U.S. corporate profits expanded at an annualized rate of around 24% in Q1-10, following 36% and 50% in the Q4-09 and Q3-09. This was primarily the results of cost cutting strategies. For John Higgins, Senior Markets Economist at Capital Economics, the scope for a further big increase in margins seems limited, and they continue to think consensus expectations for S&P 2010 earnings are too optimistic. Unit labour costs will probably start picking up soon now that the economy is creating jobs while firms will continue to struggle to raise their selling prices. They expect S&P500 operating earnings per share to grow by less than 15% in 2010. Such an outcome would come as a disappointment to many investors. According to Bloomberg, the current consensus estimate for operating earnings per share growth is more like 30%. David Kostin, strategist at Goldman Sachs Group Inc., recently raised his estimates for S&P500 earnings to $78 a share for 2010 and $93 a share for 2011, up from $76 and $90, to reflect “strong” Q1-10 earnings and better-than-estimated profit margins. In conclusion, in spite of a potential but probably short rebound of the U.S. stock market after this 11% downward correction witnessed in the last five weeks, a certain level of cautiousness is recommended while some may be tempted to take advantage of this possible mid-summer rally, something we find hard to advise. If we add to this the uncertainty caused by the debt rating downgrading in Europe and government-spending cuts that will inevitably follow, and geopolitical factors such as the recent escalating tensions on the Korean peninsula, and the subsequent impact this can have psychologically on traders’ convictions, we think that U.S. equity markets may still fall further in the coming weeks. European equities pursued their decline observed already in April. On concern that European nations will have difficulty taming their budget deficits without harming the economic recovery, the Stoxx Europe 600, the Euro Stoxx 50 and the Stoxx 50 indices lost in May respectively -5.75%, -7.33% and -5.67% in EUR, aggravating the YTD loss to respectively -3.51%, -11.96% and -7.28%. The last week of the month was at least positive with the Stoxx Europe 600 index rebounding 2.9% from an eight month low on 25 May. As stocks in general had suffered more on this side of the Atlantic Ocean, it was logical at some stage to see a stronger upward move. What is interesting to note is that all 19 industry groups advanced since 25 May. According to Bloomberg.com, basic-resources stocks led the gains, paced by BHP Billiton Ltd, Rio Tinto Group, and Xstrata Plc. European mining stocks are currently praised by some investment strategists (JPMorgan Chase & Co, Nomura Holdings Inc…) as their stock prices have fallen too far and their fundamentals remain strong. According to Bloomberg data, since this year’s high on 15 April, the Stoxx 600 index lost -10% and is now trading at a price-to-earnings (P/E) ratio of less than 15 times the reported earnings of its companies, near the cheapest valuation since 2008. In terms of local indices, while the German DAX 30 is still positive on a YTD basis (+0.12%), several major indices are substantially in the red: the IBEX at -21.6%, the MIB30 at -16%, the CAC40 at -10.89%. The ASE (Greece) is down -29.39% and the KFX (Denmark) is up +15.44%. U.K. equities, as measured by the FTSE100 index, posted a monthly decline of 6.57%, the biggest since February 2009, trimming the valuation of the index to about 12 times the reported profits of its companies, also the lowest level since 2008, according to Bloomberg data. Morgan Stanley recently raised its FTSE100 target by the end of 2010 to 5,800 from 5,000 on the assumption that global economic growth, low interest rates, a “more robust” financial system and oil below $70 a barrel. This assessment is essentially supported by their global economists’ view that this economic recovery is sustainable and therefore help the current growth scare associated with this correction passing. The report said that “prognosis for stocks over 2011 is good, especially given that recent events are likely to delay the onset of monetary tightening in many regions around the world”. Of course, the record budget shortfall of more than 11% of GDP will remain something to watch carefully, and we will have to see how the emergency budget announced for June will set out a credible plan to cut the deficit over the next five years. Capital Economics thinks however that the FTSE100 index will end the year around the level of 5,000 as the economic recovery disappoints and investors continue to shun riskier assets. It is interesting to note that the dividend yield of the index recently rose above the yield on 10-year UK gilts for the first time since last autumn. By historical standards, U.K. equities are attractive relative to government bonds, but they still think the 10-year conventional gilt yields to continue to fall to around 3%. Japanese equities were down as well (-7.37% in JPY and +9.51% in EUR) as measured by the Nikkei 225 Stock Average which closed the month at 9,768.70 and the broader Topix index at 880.46. The latter tumbled 12% as of 31 May 2010 from this year’s high on 15 April. But in the last sessions of the month, it rose on the outlook for stronger demand and gain of trading companies on higher commodity prices. Stocks like Fanuc, Toyota, Sony Corp., Mitsubishi, Mitsui Mining and Smelting are benefiting the most in the very recent market recovery. The mining industry was the biggest gainer on the Topix’s 33 industry group. The development of the JPY is of course crucial for this market. Some analysts expect the currency to be weak and even very weak against the USD. It could get down to JPY 100 and possibly even JPY 120. Once the JPY gets down to these levels, Japanese export companies will be very competitive. Emerging market equities fell sharply this month of May on fears that further property curbs in China and the ongoing eurozone debt crisis might hamper global economic recovery. But developments begun to be quite positive in the last week of the month as concern eased that Europe’s debt crisis will curb global economic growth. The MSCI Emerging Markets Index which lost up to 10% managed to recover 8.3% to 926.40 over the last four sessions. Risk appetite for emerging markets is coming back as fears of a spreading debt crisis in Europe have sensibly reduced. The index trades for 11.7 times analysts’ earnings estimates for 2010, compared with 13.1 times for the MSCI World Index, according to Bloomberg data. Brazilian equities, as measured by the Bovespa stock index, have tumbled 14% from their 2010 high on 8 April. The retreat dragged the index to 11 times analysts’ earnings estimates, the lowest level in 13 months. According to Bloomberg.com, the index now trades at 13.3 times the reported profits of its companies after fetching 25.5 times in November, the most in almost six years, according to weekly data compiled by Bloomberg. The $1.6 trillion Brazilian economy is expected to grow 6.46% in 2010, the fastest growth in more than two decades. Accelerating domestic demand has stoked inflation which remains a preoccupation for the monetary authorities as Brazil’s broadest measure rose at the fastest pace in 22 months in May, increasing pressure on the central bank to raise its benchmark interest rate to prevent the economy from overheating. The IGP-M price index rose 1.19% in the month after a 0.77% climb in April, and it is up 4.18% from a year ago. This shows that the problem is serious as it could be transmitted to consumer prices in the near term. We can therefore expect rates to rise in June by 50bp-75bp to 10.00%-10.25% following an increase of the benchmark rate by 75bp to 9.50% from a record low 8.75%. Just as a reminder, the target range of the central bank is 2.5%-6.5%. Russian equities, as measured by the RTSI$ index, recorded a difficult performance in May 2010 but the decline on a YTD basis remains relatively small (-4.15% in USD but still close to +11% in EUR terms) But the recent sovereign debt crisis in Europe implies that the support for the Russian financial industry must stay in place and we think that the central bank will be careful in the timing of any withdrawal of measures aimed at stabilizing the banking sector. Indian equities, as measured by the Bombay Stock Exchange’s Sensitive Index or Sensex, dropped -3.5% in the month of May 2010 but recorded its biggest weekly advance at the end of the month after climbing +2.5%. Many companies continue to report earnings in excess of analysts’ estimates (Tata Motors, Sterlite…). According to a Bloomberg News survey India’s economy probably expanded by 8.6% in Q1-10. Data will be confirmed on 31 May. Indian stocks may climb to a record in H1-11 as increased corporate earnings and infrastructure spending draw investors, said S. Naganath, CIO of DSP BlackRock. Inflows from overseas reached a record 834.2 billion rupees in 2009. Investment Research of Cambridge has great confidence in the long term bull story for the Indian stock market. The Sensex index is in their strongest category of their ranking table and is basically in a secular uptrend. While currently at 16,868.06, if it goes above 18,000, it will test the old-time high of 21,000, and it might even break above it. Chinese equities, measured by the Shanghai composite index have continued to suffer heavily for the second month consecutively with a loss of -9.70% leading to a YTD of close to -20%. This is indeed one of the worst performing equity markets this year. But IPOS are beating the country’s benchmark indexes by 33% in their first month of trading, as reported in Bloomberg.com. This is actually not so welcome as it is difficult to assume that these companies are going to deliver the extraordinary growth that valuations imply. We believe that while there are many reasons to remain cautious (please refer to the article of the Economist on China’s property bubble), we think, like Andy Rothman at CLSA, that there are many misconceptions about the mainland property market. He rightfully reminds us that (1) China’s housing market is not driven by investors, (2) housing is affordable for many middle-class Chinese, (3) the market is not primarily high-end, (4) the market is not all Beijing and Shanghai, where prices are sky-high, and last but not least (5) Chinese investors are not highly leveraged and the property market remains a small share of the economy. We actually think that property stocks could surprise on the upside with a rebound somewhere before the end of 2010. FIXED-INCOME MARKETS U.S. Treasuries rose in May 2010 with the 10-year note yield, falling 36bp to 3.65% at the end of April. This is the lowest level reached since the Federal Reserve dropped interest rates to a record low in December 2008. According to Bloomberg.com, the gap between 2- and 10-year notes narrowed the most since March 2009 as equities plunged and stagnant U.S. consumer prices shifted at least temporarily the focus from inflation to deflation. The spread between yields on 10-year notes and Treasury Inflation Protected securities, or TIPS, show money managers expect consumer prices to increase an average 2.05% annually in the next 10 years, down from the 2010 high of 2.49% on 11 January. Some investors expect this so-called breakeven rate to narrow to 1.75%. In any case, it is clear that the Federal Reserve is progressively putting some new tools to eventually tighten credit by draining cash from the banking system, such as the “term deposit facility” aiming at helping the Federal Open Market Committee (FOMC) raise interest rates when it decides to do so. While the Fed signalled at the end of April that it was not ready to begin its exit from an expansionary monetary policy, it will remain quite alert to prevent excess reserves pumped into the banking system (about $1 trillion) from stoking inflation. In Europe, the German 10-year bund recorded a strong performance in May 2010 with a decline in yield of about 34 bp, the biggest drop since November 2008, to as low as 2.56% on 25 May. German bonds have returned 6.2% in the first five months of 2010, compared with 3.6% for U.S. Treasuries, according to Bank of America Merrill Lynch indexes. As shown in the accompanying table, the spread between Greek bonds and German ones reached 5.05% at the end of May. GRAPHIQUE VOIR JOURNAL Will bond yields fall even further? Some firms like Capital Economics would not rule out a further decline in the near term if the turbulence in global markets continues, although they would be surprised if these yields stayed a lot lower now that the economic recovery is becoming more self-sustaining. But they do not expect them to rise substantially until the back end of 2011. At this juncture, with real yields already extremely low, we could indeed see breakeven inflation to drop more. So we maintain still a long duration in our fixed-income portfolio but we advise some cautiousness and to be ready either to sell or to cover this fixed-income exposure from time to time. COMMODITY MARKETS Crude oil recorded its worst high month since December 2008 with a drop of more than $12 a barrel to $73.97 on the Nymex. This is the result of lower spending by U.S. consumers, the decision by some rating agencies to downgrade spain of its AAA rating pushing the EUR lower against USD to $1.22-$1.23. Kyle Cooper, a managing director at energy consultant IAF Advisors in Houston, and interviewed on Bloomberg believes that oil prices remain stuck in a $70-$80 range. We think that total fuel demand will continue to remain strong and may rebound rather strongly after this poor monthly performance. With rising drilling costs and strong demand, we could see crude oil holding at $75-$90 in the months to come, as evidenced by the December 2018 futures remaining above $90 a barrel, reflecting what experts call a contango situation indicating expectations for tighter supplies in the future. In this context, it may be worthwhile to look at some utility stocks producing dependable earnings streams with a high return on equity a good dividend yield. In this context, while natural gas has plunged over the past couple of years, it may be interesting to concentrate on some of the best gas producers in the world. Gold bullion prices have gained 11% in the last five months of 2010 in USD terms and 29% in EUR terms. The metal reached a record of $1,249.40 on 14 May 2010. We continue to think that holding by central banks will continue to grow and gold consumption, particularly in China and India will remain very strong over the years to come. CONCLUSIONS More than ever a balanced portfolio exposed to several asset classes is recommended. While stock markets have dropped considerably, and particularly since mid-April 2010, further turbulences are most likely. It is therefore important to limit the exposure to equity or equity-related instruments for the time being. With good macro-economic fundamentals around the world, it is tempting to privilege emerging markets but one needs to clearly asses the inflationary consequences. A mid summer rally, after four months of decline since the beginning of the year 2010, is very much possible. At the same time, the strength of this upturn will not be similar to what was seen from 9 March 2009 onwards. We continue to look for large undervalued companies throughout the world which can be accessible through well diversified value and yield equity funds. We remain invested in bonds issued by high-quality entities or the most robust sovereign countries. We have also reduced our exposure in convertible bonds which however remain optimal to benefit from good corporate earnings while protecting the performance with a solid bond floor. Finally, we think that some diversification out of the EUR, mainly through international companies and commodity producers, will be productive. However, we do not share the view of further strong deterioration of the EUR in the weeks to come, even though some well known economist continue to think that a parity level of 1 USD = 1 EUR is inevitable. This has been the case is the past and such level could be revisited but it will not be the end of EUR and, in fact, this will tremendously enhance the competitiveness of most European blueship industrial companies. DISCLAIMER: This document released on 1 June 2010 was prepared by Bellatrix Investments S.A.. Many data and comments came from Bloomberg News. Its purpose is to provide a relatively synthetic and analytical perception about the recent macro-economic and financial market developments. All the forecasts and statements should be treated as unbinding opinion. Bellatrix Investments S.A. or its members shall not be held accountable for any inaccuracy of those sources used or for any failure of opinion to prove accurate. There may be instances of information reproduction from certain sources, but in these cases we take all precautions to mention the name of the writer or related websites. Bellatrix Investments S.A. does not receive any compensation for mentioning any name, brand or investment funds in this document. Any investment decision should be made after obtaining a specific professional advice. |
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