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What are the risks to investing in Chinese stocks in 2021?
China’s main stock markets soared to a collective $10 trillion earlier in 2020, which has caused investors to turn to their gaze eastward. But should you be trading or investing in Chinese stocks in 2021?
Should you invest in Chinese shares?
The case for Chinese stocks
China is the world’s second-largest economy, and the only large economy to forecast positive growth in 2020. The IMF forecasts China’s GDP to grow 1.2% by the end of 2020, although the figure may actually be closer to 2%. October’s World Bank report puts China’s economy on a growth footing for 2021 too, forecasting total GDP growth of 7.9% by the close of next year. Despite being the first country officially hit by Covid-19, China is also likely to be the first to fully recover.
The nation also accounted for 49% of the world’s total global growth in 2019. Rather than being led by its traditional export-focused model – China exports goods every year worth more than the UK’s entire GDP – half of Chinese GDP is sourced from domestic consumption.
China could overtake the US, economics-wise, in the next two decades if present trends continue. Equities may continue a strong upward swing. JPMorgan has predicted they will continue to deliver close to double-digit annual returns over the next 10-15 years. Using the past five years’ performance as an indicator, MSCI China All Shares has delivered an average annual return of 10.34% (although past performance is not necessarily indicative of future performance).
While we’ve seen UK stocks may be poised to shine, some of the best Chinese stocks have mirrored the nation’s impressive growth and could prove even more tempting. Traders have identified the below as amongst China’s top-performing shares across the past year.
- Alibaba – Alibaba Group Holdings Limited is the largest retailer and e-commerce company in China. Alibaba operates some of the largest shopping platforms like Taobao and Tmall. Very few of those investing in Chinese stocks haven’t heard of Alibaba. The company’s stocks have gained 24.9% value, reaching $264.87 at close on December 10. At the time of writing, it had a price of $260.05.
- JD.com – JD is one of the biggest B2C e-commerce service providers in China and in the world in general. It’s also one of Alibaba’s chief competitors. It has been represented in 85 hedge funds so far this year, with a total hedge fund holding value of $13.57bn.
- GDS Holdings – GDS Holdings is a datacentre technology provider focussed mainly on the domestic market. 2020 has been a year of sustained growth for GDS with revenue growing 43% year-over-year in Q3 to hit $224.6m. As one of the fastest growers in its sector, GDS’ organic sales also completely surpassed 2019 totals by Q3.
Other Chinese firms on investors radar include Google’s Chinese equivalent Baidu, EV builder Nio, Fast Food firm Yum! Holdings, tutoring service TAL Education Group, and video streaming platform BiliBili Inc.
Chinese shares: some reasons for caution
While tales of blistering economic growth and high performance on individual shares may be tempting, it’s potentially worthwhile taking a more cautious view when trading or investing Chinese shares.
Firstly, the largest companies may no longer be listed on US indices. On December 19th 2020, President Trump, in one of his few remaining acts in office, signed a bill calling for foreign companies to be delisted if they fail to the same accounting transparency standards as US firms listed on US stock exchanges.
As of October 2020, there were 217 Chinese firms listed on US exchanges with capitalisation worth $2.2 trillion.
Under the terms of the Holding Foreign Companies Accountable Act, delisting could happen if a foreign firm refuses to comply with audit inspections three years in a row. Audit inspections are performed on other U.S.-listed companies by the Public Company Accounting Oversight Board, which was set up to prevent accounting scandals, like the infamous Enron scam, from happening.
All very well and good, but China’s government does not allow the board to perform audit inspections of Chinese companies listed in the US. It will probably see this as a provocative move as tensions continue to simmer between the US and China.
According to a report published by the US Government in October 2020, sixteen Chinese firms have already been delisted. Amongst these was Luckin Coffee, subsequently delisted from the Nasdaq, after investigators found the coffee house had reported $310m in fake transactions in financial statements.
Transparency is a huge concern for investors when it comes looking eastward. The unfolding saga of GSX Techdu proves investors aren’t afraid to go short on suspect Chinese stocks if they get a whiff of fraud.
The online education stock was one of the latest to fall under the investor cosh as sellers shorted positions against fraud accusations levelled at GSX. Investigative work from Muddy Waters Capital gave investors the blues after it alleged as much as 80% of GSX users were fake. Investors pulled out and sent GSX share prices tumbling.
Outlook for investing in Chinese shares in 2021
US-China tensions will colour everything going forward, particularly if China continues its massive economic growth. President-Elect Joe Biden has lined up long-time China critic Katherine Tai as the US’ next top trade official, suggesting a less than dovish approach will be taken by the Biden White House towards China.
So, while investing in Chinese stocks has the potential to pay off, it may be worth taking a more cautious view going forward into 2021.
Hong Kong turmoil risk roils markets
Shares in Hong Kong plunged on fears Beijing’s tough stance will spark fresh pro-democracy protests, potentially leading to the kind of widescale unrest we saw last year.
The Hang Seng slid over 5% as China imposes controversial national security legislation that bypasses local lawmakers. The move was taken as China’s National People’s Congress convenes. Carrie Lam, the Hong Kong chief executive, says the territory will fully cooperate with China.
This is a potentially significant flash point that will stir local protests and will anger the US. At a time of already strained relations between China and the West, this decision will only isolate Beijing even more. Investors will need to add renewed Hong Kong-Beijing tensions into their mix of geopolitical risks, whilst the way it fits into the broader US-China rivalry will be closely watched.
The risk-off tone fed into European trading with the FTSE 100 off almost 2% at 5900 in early trade on Friday. Asia-focussed banks HSBC and Standard Chartered were among the laggards. UK retail sales plunged 18.1% in April, led by a 50% decline in clothing sales. Online shopping rose to a record 30.7% of all retail – good for the nimbler retailers with good online operations, not so encouraging for the rest.
US stocks closed lower on Thursday, with the S&P 500 down 0.78% to 2,948. Having nudged to the top of their respective ranges, indices are retreating to more comfortable levels for investors given the state of the economic damage and uncertainty over earnings. Futures indicate Wall Street will open lower.
US initial jobless claims came in at 2.4m as expected and was the lowest reading since March. It takes the total jobs lost since the crisis began to almost 39m. Now we need to look at the continuing claims rather than the initial claims counts. It certainly raises hopes the jobs market has bottomed – the bulk of jobs to be lost have already been lost.
As various US states reopen and business gets going again, we ought to see hiring exceed firing. The key will be how swiftly the hiring replaces lost jobs – it’s hard to see the 39m being replaced as quickly as they were lost. Temporary layoffs will become permanent as businesses slowly reopen and find demand down and cash flow a problem.
Data compiled by software company Envestnet Yodlee shows Americans used their stimulus cheques to buy stocks. Middle income earners – those on $35,000 to $70,000 a year – were the main drivers. This chimes with the view that the bounce off the March lows was driven by incremental retail buyers, not a return of positive institutional flow.
The US manufacturing PMI also showed some mild improvement as did the European and UK numbers, but as mentioned yesterday, this was off a very low base and numbers still indicate sharp contraction.
In FX, the dollar is bid as risk-off sentiment rules. EURUSD broke 1.10 yesterday but retreated as it looked to test the 200-day resistance a little above the round number. Cable moved back under 1.22 at 1.2180.
Having rallied Thursday to $35, crude oil (WTI Aug) slipped sharply overnight, breaking the trendline, as China’s NPC decided to scrap its GDP target for 2020. It suggested Beijing is not about to really stimulate infrastructure investment like it has in the past. Markets, in particularly commodities, were looking for more.
Stocks stage fightback, Trump raises China stakes
US stocks staged a mighty comeback and closed at the highs as beaten-up financials managed to recover ground. The S&P 500 traded under the 50% retracement level at 2790, dipping as low as 2766 as US jobless claims rose by another 3m, before rallying to close up 1% at 2852. Financials, which have failed to really take part in the rally since March, led the way as Wells Fargo rose 6.8% and Bank of America and JPMorgan both rallied 4%. Energy stocks also firmed as oil prices rallied.
European indices were softer on Thursday but managed to recover a little ground in early trade on Friday. The FTSE 100 rose over 1% to clear 5,800, with the DAX up a similar amount and trying gamely to recover 10,500. Asian shares have largely drifted into the weekend with no clear direction.
The rally for Wall Street snapped a 3-day losing streak but the indices are still on for the worst weekly performance since mid-March. We’re still in this tug-of-war phase as the real-world impacts of Covid-19 run up against the stimulus and central bank support. Markets are still trying to figure it all out. SPX needs to rally to 2915 today to finish the week flat, while the FTSE 100 requires 5,935.
The deterioration in US-China relations is another worry for investors, with Donald Trump saying he doesn’t even want to speak to President Xi and threated to ‘cut off’ China ties. He’s not angry, he just ‘very disappointed’. As I’ve pointed out in a past note, in an election year with the economy suffering from the worst recession in memory, Trump is likely to go very hard against China, particularly as this has bi-partisan support and polls indicate anti-China feeling running high. This will be partly a political game, partly what the US ought to be doing anyway, but either way it will likely provide yet another downside risk for investors.
Neckline support of the head and shoulders pattern is feeling pressure but yesterday’s rally is positive for bulls. Expect further push-and-pull around this region.
Overnight data showed Chinese factory output rise while consumer demand slowed. Retail sales declined 7.5% vs 7% expected in April. US retail sales today are forecast at -12%, or -8.6% for the core reading.
Oil put on a good show with front month WTI rising above $28. The August WTI crude oil contract trades a little higher than $29, meaning the contango spread has narrowed by two-thirds in the last week. Price action suggests traders are far less worried about the underlying demand and storage constraints that have dogged prices for the last couple of months.
In FX, as flagged sterling tested the Apr 6th low, which has held for the time being and GBPUSD has recovered the 1.22 handle. Risks look to the downside, but short-term momentum looks like we could see a nudge up.
Gold has driven off the support and was last up a $1736. Whilst Covid-19 is initially a deflationary shock (negative for gold), the extent to which governments have fired up the printing presses and the fact that monetization of this debt seems the only way out, a significant period of inflation could be around the corner. Gold is still the best hedge against inflation. The Apr 23rd high at $1738 is first test before a retest of the previous top at $1747 and then $1750 to call for a breakout to $1800.
European equities rise as China eases
Police in Hong Kong are investigating an alleged toilet paper heist, amid a shortage due to the coronavirus outbreak. Things are bad when loo roll becomes currency.
It’s a dull old session out there today: European shares were a little indecisive at the start of play following a mixed bag overnight in Asia, but are leaning higher with stimulus from China helping to lift the mood. Basic resources stocks were among the biggest gains on the FTSE as the blue chip index moved to try to reclaim the 7500 level, last some way short at 7445.
Shares in Hong Kong and Shanghai advanced as China cut a key medium-term interest rate, while Tokyo shares slipped on growth concerns. Markets are betting this will be only a part of a wider stimulus programme to offset the economic damage wrought by the Covid-19 coronavirus – the PBOC has already been injecting liquidity and there will no doubt be more to come. China reported another 2k cases by Sunday night, taking the total to more than 70k.
US stocks finished higher for the second straight week. Markets in the US will be closed today for Washington’s birthday but have rolled into the holiday in fine fettle. Industrial productions were weak, down 0.3% in January, largely down to Boeing. Ex-aircraft production, factory output rose 0.3%. Retail sales showed the US consumer started the year in decent shape, with headline sales +0.3% month on month.
There are growing fears about the economic impact. Japan’s economy shrank at the quickest pace in six years in the last quarter of 2019 – down 6.3% as the consumption tax hike hobbled the economy far worse than thought.
Most think to hit to tourism and exports resulting from the outbreak will mean the economy contracts again in the March quarter, pushing Japan into recession. Meanwhile Singapore has slashed its growth outlook for 2020.
Oil is higher above $52, having closed last week well. Look like a base has been formed at $50, looking to cement gains north of last week’s highs at $52.2.
In FX, there are tentative signs of stabilisation and basing for EURUSD. Speculators have not been this net short since Jun 2019, with net shorts at nearly 86k, contracts so the short-euro trade is very crowded. As ever this CFTC data is a week old so I wouldn’t be surprised if the next set of data showed deeper net shorts towards 100k corresponding to the dove under 1.0880. The inverted hammer on Friday suggests near term reversal but until 1.09 is reclaimed the bears remain in control.
Sterling is giving a gallic shrug to some French fighting talk vis-à-vis Brexit trade talks. GBPUSD is steady at 1.3040, with support at 1.30 and near-term resistance seen at the 50-day moving average at 1.3070.
China’s tech firm earnings to show trade war scars
The biggest firms in China are set to reveal a slowdown in revenue growth when they report earnings for the quarter ending in June, according to estimates collected by Refinitiv.
Chinese giants such as Alibaba, Tencent, and Baidu are lining up to report earnings, chronicling the impact of the escalating US-China trade war. China’s two biggest companies, Alibaba and Tencent, have together lost nearly $100 billion in market capitalisation since the last time tensions notably escalated in May.
For months now the trade dispute between Washington and Beijing has hammered the Chinese economy and dented consumer spending. Q2 saw the Chinese economy expanded 6.2% – a 27 year low for the pace of growth. Consumer focused businesses are struggling to maintain their normal lightning pace of sales growth. Consumers are tightening their belts in the face of rising prices. Meanwhile, B2B outfits are seeing their clients cut back on advertising spend.
All this, according to the consensus estimates collected by Refinitiv, will see China’s top companies reporting an average annualised growth rate of 26%. This would be the slowest in a year and a half. Net income is predicted to clock in around 9% on average, versus average growth of 50% reported during Q2 of 2018.
Could Q3 prove even worse for Tencent, Alibaba, and Baidu?
Perhaps most distressing for investors is that the worst could still be to come; the latest reporting period ended before Donald Trump sent markets tumbling by announcing further tariffs and the People’s Bank of China responded by allowing the yuan to slip above 7 to the dollar for the first time in 10 years.
Even if these tech and e-commerce giants have proved to have weathered the storm over the second quarter, Q3 promises greater challenges, and yet more pain.
Stocks firmer, China slows, earnings in focus
Bad news = good news. Relatively lacklustre growth in China has the market baying for more stimulus. To be fair, despite the headline Q2 GDP number slipping to a 30-year low at 6.2%, there were some signs of encouragement. Industrial production rose 6.3% in June, an improvement on the 5% growth in May. Retail sales also beat forecasts so. Most of the recent softness seems trade-related, with exports having dipped 1.3%.
Asia has broadly ticked higher despite, or indeed because of, the softer China GDP numbers. Futures show European markets are higher after a fairly lacklustre weak. Indeed European equity markets moved lower last week just as the US was punching record highs. Time for Draghi and co to turn the taps on.
Indices march higher
Wall Street continues to roar higher, with the S&P 500 closing up half a percent on the day at 3,013.77. Oil and gold fairly steady.
Bitcoin is weaker, slipping to support around $10k having given up the $11,600 level. FX steady – GBPUSD holding at 1.2570, with EURUSD at 1.1270. Volatility in FX has collapsed with central banks turning the liquidity taps back on.
Earnings season kicks off
Earnings season is coming with fairly low expectations. Two weeks prior to earnings season 82% of companies that had revised earnings estimates going into the reporting period had lowered them. Lowballing by Wall Street ahead of earnings season is normal, but the scale of the downward revisions is noteworthy. This happened ahead of the Q3 2018 earnings, just before we saw stocks slump into a bear market, albeit one that has proved very temporary.
Recession – We’re likely to see an earnings recession. Q1 earnings declined 0.29%, therefore making this likely to become a full-blown earnings recession, that is, back-to-back year-on-year declines in EPS. In 2016, the last time this happened, we saw earnings decline for 4 straight quarters. S&P 500 companies are expected to report a roughly 3% decline in EPS this quarter.
Trade concerns – whilst we had a degree of détente at the G20, existing tariffs are still in place and no meaningful progress has been seen. There’s a growing acceptance that the US and China are in this for the long-haul. The US election cycle means we are unlikely to see a reason for Trump to do any deal until 2020. Whilst for now the mood is upbeat, in the event of no deal, the lack of progress through the rest of the year would likely begin to drag on sentiment and affect equity markets. If corporates see additional tariffs being imposed their EPS forecasts would need to be revised substantially lower. The impact of the US-China trade war on earnings is yet to be fully felt but we could hear from a number of large-caps voicing concerns. The extent to which CFOs highlight worry about trade on EPS forecasts will be of particular importance. Of course we are likely to see a lot of kitchen sinking with companies blaming trade for all manner of ills.
Banks start the ball rolling this week. Big question over interest rates – rate cuts may well be coming in the US and this will have implications for banks. Net interest margin would likely fall although the easier credit conditions would offset some of the negative effects. Citigroup unofficially kicks off the earnings season on Wall Street today. How much will banks be affected by Fed rate cuts? In investment banking, is there anything from the Deutsche carcass worth stripping?
Sports Direct – the soap opera continues – delays annual results due to House of Fraser uncertainty. The big question was what impact House of Fraser and various other acquisitions of dubious value would have on Sports Direct results. A material impact, one can only assume. HoF must be losing money hand over fist. Looking to the earnings, top line growth is expected to rise but profits are seen weaker as the cost of acquisitions weighs. Since reporting an 27% decline in underlying profits in the first half we’ve not heard a peep from Sports Direct on performance. The delay in delivering the annual results does not sit well with investors, who must be nervous about what it means. It seems likely it’s been a tough ride in the core Sports Direct retail division, whilst acquisitions have added nothing but increased costs.
Bitcoin jumps, stocks steady ahead of G20
All that glitters is not gold. Bitcoin is sparkling again but beware…breakdown’s coming up ‘round the bend.
Bitcoin jumped above $11,000, taking it to its highest level since March 2018. Futures are back down to $10,855 around send time. Investors are ignoring what happened the last time we saw parabolic rises like this. Is it different this time? No, but people have short memories. Facebook’s Libra white paper may have stoked renewed interest in cryptos at a time when the buzz had already returned.
Bitcoin is more mature etc, but the fundamentals of this scheme remain unaltered. What I would say is that arguably big money is starting to view this differently and think it could be very costly to ignore if they get left behind.
It may also be that the sharp liquidity boost we’ve seen from central banks is helping bitcoin. As we noted last week, it was only a matter of time before the $10k level was taken out it and now ultimately a retest of the ATHs near $20k looks very plausible.
Once this market builds up a head of steam, it’s hard to stop it. As previously argued, this is a big momentum play and the more buzz there is, the more that traders will pile in behind the rising wave. Bears could get burned before the market turns – maybe better to wait and let it fizzle out, which it will eventually. The more it rallies, the bigger the blow-up when it comes. However, we should expect some pullbacks and retracements along the way.
Stocks are maybe looking a little softer with the S&P 500 easing off its all-time highs on Friday and we’ve had a mixed bag from Asia overnight. Japan closed a shade higher at 21,285.
Futures indicate European shares are trading on the flatline as investors take a breather and look ahead to the G20 later in the week. FTSE 100 finding support at 7400, with resistance at 7460.
Coming up this week the G20 is centre stage for markets. President Donald Trump is expected to meet Chinese counterpart XI Jinping at this week’s G20 meeting in Osaka.
Last week Mr Trump tweeted: “Had a very good telephone conversation with President Xi of China. We will be having an extended meeting next week at the G-20 in Japan. Our respective teams will begin talks prior to our meeting.” No one thinks the US and China will do a deal in Osaka, but there is some hope that we will have a positive development that marks a shift in the rhetoric and a re-energising of talks following the breakdown in the recent discussions.
Iranian tensions are not going away, providing some support for oil. Brent was trading around the $65 mark, with WTI at $58. Fundamentals remain bearish but the uncertainty in the Middle East, specifically the risk of a closure of sea lanes, is enough to keep crude above water.
Since last week we’ve had news of the US launching a cyberattack on Iran and warnings from Iran about what a war would mean. Expect lots of turbulence from this but ultimately it does not look like the White House is spoiling for a fight. The risk is, as ever, in a miscalculation.
Gold remained firm, holding above $1400 as a weaker dollar combined with dovish central banks kept traders happy to bid up the metal. Geopolitical tensions may be a small factor, but ultimately gold has huge negative correlation with real yields, which have come right down. Friday’s move off the lows later in the session were key and the bull trend remains intact. A rebound in USD could trap bulls.
The dollar is softer with the euro and sterling holding gains. The euro is holding at a three-month high around 1.1380 – look for a push to 1.14.
Trading around 1.2760, GBPUSD is facing stiff resistance from previous highs and a big Fib level coming in, so we need to see this level breached on the upside to be more confident that the pound can maintain its gains.
Coming up this week – Fed speakers and the PCE inflation print will keep the FX market interested.
Closing on all-time highs, FOMC preview
Equity markets buoyant after Tuesday’s rally ahead of the key Federal Reserve meeting.
You can just about smell the all-time highs. The S&P 500 rallied 28 points to 2,917.75, just a shade under 1% below its April record high. The Dow added 350+ points to 26,465.54.
And yet the latest BAML data shows fund managers are at their most bearish since the global financial crisis a decade ago. Equity allocations have experienced their second worst drop on record – we’ve seen a huge move into cash. And yet and yet, we’re close to all-time highs again for US equity markets at least. This is what you may call an unloved rally.
Asian shares were encouraged by Wall Street’s gains. Japan closed 1.72% higher. Futures indicate European shares are treading water ahead of the FOMC decision later today. A touch of caution after an exuberant session yesterday.
Oil rallied again – demand outlook matters a lot more than supply constraints. The world is awash with oil whatever OPEC does. Brent was close to its $62.50 comfort, the 50% Fib level that continues to anchor prices. WTI has regained $54. On both charts signs of either double-bottom reversal or bearish flag continuation patterns.
The prospect of president Trump meeting his counterpart Xi Jinping at the G20 assembly later this month, combined with signs of renewed stimulus efforts by the ECB, has investors eyeing short-term gains. We need to wait and see what the Federal Reserve does. So hold on tight, let the flight begin.
You got to know when to hold ‘em, know when to fold ‘em. Markets expect the Fed to cut 3 times this year, but the Fed needs to be careful about reacting too easily to markets. There is not the need to be as pessimistic about growth and inflation as bond markets suggest, despite some softness in recent labour market data. The Fed will seek to avoid sounding overly hawkish, but one feels there is a need to steer markets away from expecting the Fed to ride to the rescue of financial markets.
It’s hard to recall a time we headed into an FOMC meeting with so much at stake and with so much uncertainty about what might be agreed and what the guidance for the rest of the year will look like. This means the potential volatility around the event is likely to be substantially higher than at most recent FOMC meetings.
Macroeconomic indicators suggest slowing growth whilst there have been no positive developments on trade. Inflation is tame but there is arguably enough to keep the Fed on the side lines for the rest of the year. And quite how much the data has softened since the last meeting to suddenly warrant a cut is beyond me.
Moreover, last week’s retail sales data has gone against the downbeat, pro-cut grain. The Atlanta Fed GDPNow model predicts 2.1% GDP growth in Q2, up from the previous 1.4%. The model now anticipates second-quarter real personal consumption expenditures growth of 3.2% to 3.9%.
Talk of demoting Jay Powell further clouds the picture as Trump heaps pressure on the Fed chair to cut. Know when to walk away, know when to run.
Markets do not currently anticipate the Fed will cut rates this week, but they are pricing in a cut in July and a subsequent 1-2 25bps cuts.
Pricing for a rate cut this week dropped sharply – from nearly 30% to around 21% – after the strong retail sales print on Friday. It’s since crept back up to 26%. For July, though, market pricing indicates an 87% chance of a cut, whilst there is a 95% chance for September.
The blackout period ahead of the meeting has tied tongues that were in overdrive in the preceding days.
Powell’s comments in Chicago at the start of June were the trigger for a relief rally in equities. He noted ‘recent developments involving trade negotiations and other matters’, adding that: ‘We do not know how or when these issues will be resolved’.
This was the key remark: ‘We are closely monitoring the implications of these developments for the U.S. economic outlook and, as always, we will act as appropriate to sustain the expansion’.
Critically he did not signal a cut, but only stuck to the Fed’s oft-stated stance. Markets have read much more into this, and could be left disappointed. The problem for Powell now is to gently steer markets back to the right course.
Coming Up Today (GMT)
GBP- CPI y/y (08:30)
CAD- CPI m/m (12:30)
EUR- ECB President Draghi Speaks (14:00)
USD- FOMC Economic Projections (18:00)
USD- FOMC Statement (18:00)
USD- Federal Fund Rate (18:00)
USD- FOMC Press Conference (18:30)
BRL -Interest Rate Decision (21:00)
NZD- GDP q/q (22:45)
May’s last day, Nonfarm payrolls due
May’s last day, Mexico trade standoff, US jobs, Yuan looks to 7
And so, the time has come for Theresa May to shuffle off. Except she won’t quite as she will remain on as a caretaker PM. Boris Johnson is frontrunner. If he gets in – and we’ve detailed why we think he will – it could be a troublesome one for the pound. Votes start next week and we should be down to the final two before June is over.
Trade v Fed
US equities continue to march higher as the Fed story is all that matters – investors are still guzzling that Kool-Aid. The Dow added 180 points, leaving it up over 1100 points from the low hit this week. SPX rose 0.61% to 2,843. Looking first for 2870 and then 2889 for bulls. Support around 2817 and 2800.
European equities were softer as the ECB was not dovish as expected. Mixed bag in Asia overnight – Nikkei and ASX higher, Kospi down, India flat, China weaker.
Futures show European markets on the front foot, bouncing back modestly from Thursday’s dip.
EURUSD failed to break out any further after the ECB meeting. After pushing up to 1.13 it’s found well-trodden turf at 1.1260 for comfort. At send time sterling was steady at 1.27 against the dollar.
Oil has bounced after looking a bit oversold. Brent testing resistance around $62.50, the 50% retracement of the Dec-thru-Apr rally.
Some progress on the Mexican-American talks over tariffs. VP Pence said he was ‘encouraged’ by the discussions as Mexico offered to deploy 6,000 members of its new National Guard police force, but has reiterated that the 5% tariffs are still slated for Monday.
Fed jawboning continues but with a slightly different tone. NY Fed John Williams was more hawkish – or at least one feels more representative of the Fed’s unwillingness to flip-flop into a rate cut. His base case is for the US to grow above trend at 2.25%-2.5%. His baseline is a ‘very good one’. Not language suggestive of a cut, albeit he acknowledged risks to the downside.
USDCNH rallied, with the yuan weakening amid concerns the PBOC is not worried about devaluation. Bloomberg reports PBOC governor Yi Gang said he wasn’t worried about the seven level being breached. Given the tensions over trade, devaluation in the CNH would risk escalation as it would be perceived with suspicion in Washington. USDCNH was last at 6.941, threatening to break out above last October’s highs around 6.97. Gang is right that no one level is particularly more important than the next, but the 7 handle on USDCNH holds a very real psychological hold over the market. If that goes we would expect Trump to counter-attack.
Markets are still digesting the impact of the ECB’s forward guidance change yesterday. The pressure to launch a new round of QE will only build. I see the market testing the ECB on this and driving it towards opening its toolkit again. EURUSD gains seen capped, whilst the relative quality of the dollar versus a world of ugly sisters should underpin the buck.
Nonfarm payrolls are the headline risk event. The ADP print earlier in the week could herald a bad-un, but we’re still looking for something in the region of 180k, in line with the long-term trend. We should recall that the 27k print for the ADP number came after a whopper the month before of 271k – look for the 3-month average. Jobs growth remains solid, but this month’s print could be a tad light. Look for 100k maybe. The super tight labour market may well see hirings start to decline a touch anyway. Unemployment is seen at 3.6%.
It’s far too easy to read way too much into a single jobs number. Remember the 20k print for Feb was followed by prints of 196k and 263k in the following two months – and had preceded by Jan and Feb printing above 300k.
The wage data is probably more important as far as Fed expectations as it matters for inflation. Average hourly earnings are forecast to increase 0.3%. Traders likely to remain cautious ahead of the nonfarm payrolls.
Ferrexpo – welcome bit of good news after auditor strife and corporate governance concerns – sees material improvement in earnings – group EBITDA in 1H 2019 is expected to increase materially compared with 1H 2018. Improvement driven by higher pricing, production and sales volumes, while cost inflation lower than expected due to a fall in oil prices and the European gas price, which has partially offset by an appreciation of the Ukrainian Hryvnia versus the US dollar.
Banks – the FCA is coming down very hard on overdraft fee charging, but stops short of ending free banking.
Beyond Meat – last night Beyond Meat reported much better than expected Q1 results. The stock market darling shows no signs of falling out of love – shares popped 25% at one stage in after-hours trading and were last up 18% – close to 5 times above its $25 IPO price at $117.49. Losses rose to $6.6m but revenues tripled to more than $40m. Massive growth opportunity but the multiples are crazy and competitors are coming – you’re entering a space that is really ripe for the FMCG giants to take over.
Tech stocks under pressure
Markets remain on the hook to the trade war rumblings, but a new war has opened up that threatens equity investors – a war on tech. What the Fed threatens to give, the DoJ takes away.
Yesterday we saw a soft start in the US before the ISM print missed and investors raised bets the Fed will cut rates this year. But the Fed put was not enough to fight the tide off tech woes.
Fangs are under severe pressure amid fears they are in the crosshairs of trust busters. The DoJ and FTC are marking targets and loading up. Whilst it’s far too early to say if any would, or could, be ripe to be broken up, there’s a real threat this will depress multiples and mean we need to reset expectations. Given the Fangs have been at the front of the market expansion in recent years, this will act as a drag on sentiment as well.
A couple of very big moves yesterday in Alphabet and Facebook.
Alphabet –6% – support now seen around $968, before $895 comes into play.
Facebook –7.5% – key support seen at $159, below that we look to the $145 level.
Calls have been growing louder and louder for the authorities to at least look at antitrust issues for the tech giants. Political pressure is building – lawmakers sniff votes in tackling big tech. The shift really happened last year with Facebook’s scandals, which broken the illusion of Silicon Valley being in it for the little guy. They’re just big corporations out to make money like any other – the politicians can smell blood. As I noted a year or two ago, I always thought Trump had the hallmarks of a Teddy Roosevelt trust-buster.
So now we have the Nasdaq in correction territory – down 1.6% yesterday to take it more than 10% off its all-time highs. The Dow was flat, while the S&P 500 notched a decline of 0.3%. The FTSE 100 ended the day in the green, up 0.3% at 7184 with the key 7150 level holding.
Asian shares followed Wall Street’s lead overnight, and futures show European shares are under the cosh again today.
US Treasury yields continue their slide with the 10yr slipping to 2.085% and threatening to find the 2.05% level now. EURUSD has broken out of technical resistance due to the slide in yields as markets bet on a Fed rate cut. EURUSD faces resistance at 1.126/7 but having broken out of the long-term descending wedge we could now look for more gains. Has the dollar rally ended? Well it all depends on the Fed.
Today’s Jay Powell speech is now key to market sentiment after dovish comments from James Bullard yesterday.
St. Louis Fed boss James Bullard – a voting member of the FOMC – says a rate cut may be warranted soon. He talked about a sharper than expected slowdown. He also discussed a cut as insurance – some sense the Fed is seeking to get ahead of the curve – too late! Over to Powell later today.
Bullard has always been one of the most dovish members of the FOMC – the market may have massively miscalculated the US central bank’s view of the economy, inflation and risks to its forecasts. I rather think the Fed will be a lot less ready to ease than the market thinks, and this suggests a significant decoupling between the Fed and market expectations.
Ahead of this we have the Eurozone CPI print. The last
reading showed inflation rose to a 6-month high in April at 1.7%, whilst core
price growth rose to 1.3%. However, this uptick seems to be down to
one-offs and the core read is expected to revert to trend around 1% in May,
with the headline print at 1.4%.
Woodford shut – worse to come?
Neil Woodford has suspended trading in the Woodford Equity Income. Woodford has clearly made a series of poor investment decisions. Out of love UK stocks with entirely domestic may have been ultra-cheap, but they’re still unloved and still cheap. Provident has been a disaster. Kier, whose shares tumbled 40% yesterday, also disaster. It’s been a tough few years for Woodford and things look like they will get worse still.
No surprise the RBA cut rates, it had been fully priced in. The question now is how many more? The statement didn’t tell us anything new. No indication there will be more this year. Worth noting the RBA’s own forecasts are predicated on 50bps of cuts so we’re only half way there. Watch the data. AUDUSD has gained a few pips post the statement, with little detail on future cuts likely to give the bulls some hope. Resistance at 0.6990, the 38.2% Fib level, tested and rejected.
UK retail sales fell off a cliff in May – down 2.7%. This is the worst ever decline in retail sales and will hit the sector today.