(Arvind Rajaraman – Head of Investments at UCLIF & Lead Editor)
Welcome to the UCLIF Friday Wrap-Up, our weekly newsletter that brings you the most important market events and information during the past week! So what’s moving markets?
Markets: Stocks look to close out a week of consecutive record highs with another rise. Futures are up. The dollar is extending its recent fall after the Fed signalled interest rates could stay low for longer. Treasury yields are also ticking higher, suggesting a growing risk appetite. European futures are heading higher, though there’s a sense that the equity market’s good fortune could take a hit if the euro keeps climbing.
Economy: More than 1 million Americans filed for unemployment benefits last week, showing employers continued to drop a historic number of jobs more than five months into this crisis. US new home sales in July increased by 13.9%, crushing expectations. Another report yesterday found that U.S. home prices rose 4.3% in June.
Fed Update: The Fed now wants inflation (the rise in prices) to run at a 2% average, rather than a concrete bullseye it needs to hit. That means it will be comfortable with inflation climbing above 2% and in Powell’s words, “reflects our view that a robust job market can be sustained without causing an outbreak of inflation.” More coverage is below in our Rates section.
COVID-19 update: New cases in the U.S. are on a clear downward trajectory, hitting their lowest level in more than two months. Hong Kong reported the world’s first confirmed case of reinfection, though experts are debating the significance of the finding.
Coming up next week… .A decision from TikTok will reportedly arrive “in the coming days.” But it’ll be without CEO Kevin Mayer, who resigned abruptly Wednesday night.
A crazy stat: The total value of US tech stocks is now larger than the entire market cap of the European stock market.
Markets in a Minute
Healthcare (Christine Chan)
The XLV exchange-traded fund continues to reach new highs week after week, topping a price of $108.21 on Thursday 27th August. However, it is worth noting that any growth since mid-July has been rather slow and steady.
This week, Abbott Laboratories (NYSE:ABT) made some great gains, rising from $103.05 at market open on Monday 24th August to a market close of $110.99 on Friday 28th August, which corresponds to an excellent 7.7% increase over the week. This can mostly be attributed to their development of a cheap and rapid test for COVID-19, which has been granted an Emergency Use Authorisation (EUA) by the Food and Drug Administration (FDA) on Wednesday 26th August. Upon their press release, Abbott’s stock rose 7.8%overnight from $103.19 to $111.25. Abbott has confirmed that they will be selling each of their easily portable, credit card-sized BinaxNOWTM COVID-19 Ag Card tests for a very affordable $5. The card test qualitatively detects COVID-19 antigens in the patient’s nasal cavity at a specificity of 98.5% without any more processing equipment than a simple nasal swab. Better yet, the test works with Abbott’s very own NAVICATMmobile phone app and delivers the highly accurate results within just 15 minutes, compared to the few days that traditional COVID-19 tests usually take. I believe Abbott’s test has true potential to revolutionise the COVID-19 testing scene and I do hope their technology will greatly enhance the uptake of mass testing on a global scale.
Consumer Staples and Consumer Discretionary (Jun Wei)
In a week where headlines were dominated by the Federal Reserve adjusting their inflation targeting guidelines, Donald Trump Jr’s (possibly) cocaine-fuelled speech at the RNC and the shooting of Jacob Blake, the consumer space is not a sector where one sees too much drama on a day-to-day basis. We look at Q2 earnings (Tiffany & Co, Abercrombie & Fitch), some macro news (U.S. personal income in July) and an intriguing M&A announcement.
In data announced on the 28th of August, U.S. personal income rose 0.4% in July, while analysts expected a decline of 0.2% compared to the previous month. This comes as personal incomes fell 1.1% in June, and this injects some positivity as it may be an indication that unemployment figures will improve in the coming months, and may be a continuation of broader economic recovery in the U.S.
Tiffany & Co (NYSE: TIF) beat Q2 profit estimates as the company saw a strong rebound in jewellery sales online and in China. The company recorded an adjusted EPS of $0.32 compared to Street estimates of $0.19, comfortably exceeding expectations. Tiffany & Co has seen strong results in China because while China was particularly badly hit by COVID-19 from January to February, it has seen low case numbers for the 2nd and 3rd quarter of this year thus far. Shops and entertainment venues have reopened, and this has driven sales in China due to pent-up demand. I expect Q3 earnings to continue its recovery as Q3 earnings will reflect the impact of countries reopening to a greater extent, particularly in Europe and other parts of Asia. Also, social distancing guidelines would also have a smaller impact on revenues as Tiffany & Co focuses on high-end jewellery and personalised services.
Dick’s Sporting Goods (NYSE: DKS) smashed Wall Street estimates as online sales skyrocketed 194%. The company reported $3.21 adjusted EPS, more than double Wall Street estimates of $1.30 EPS. With lockdowns in Q2 in effect across the U.S., people have spent more time exercising both indoors and outdoors, with the company reporting strong sales in hiking gear, kayaking equipment and athletic wear. Again, retailers with a strong e-commerce presence remain winners during this pandemic. However, I believe we should temper expectations for Q3 because a spike in sales of exercise equipment could be unsustainable. Similar to how gym attendance starts off high at the start of the year and declines as the year progresses, there is a strong likelihood that increased sales are due to boredom with staying at home and fitness resolutions, rather than a sustained increase in sports participation. Following the acquisition of Grubhub by Just Eats Takeaway recently, the food delivery industry sees another takeover. Delivery Hero has acquired Dubai-based groceries app InstaShop for $360 million, as it seeks to expand its business into grocery delivery. InstaShop, while only 5 years old, is profitable unlike many startups and has seen strong growth with Gross Merchandise Value (GMV) increasing an eye-popping 330% year-on-year in the 2nd quarter. However, this deal looks to be very expensive by usual standards with enterprise value likely to be a few hundred times that of EBITDA. While pursuing an aggressive inorganic growth strategy has paid dividends for some companies, Delivery Hero should be careful in expansion as it continues to make heavy losses.
Communication Services (Katarina Lau)
U.S. tightening sanctions against Huawei by requiring a license for the sale of chips made with U.S. software/equipment has been catastrophic for Taiwan’s tech industry. Its Taiex semiconductor index plunged 5% from an all-time high in July, given the dominance of U.S. technology in the semiconductor industry. Chipmaker MediaTek (2454) shares have since fallen about 14.6%. This U.S. blow seems evidently effective, as China’s top 2 telecoms equipment providers Huawei Technologies and ZTE, have indeed slowed down their 5G base station installations. However, the duo is utilising the slowdown to redesign products mainly by eliminating most U.S.-linked content, as part of China’s retaliatory “de-Americanisation” effort.
SoftBank Group (9984.T) is reducing its stake in its telecoms company SoftBank Corp (9434.T), in order to raise around $14 billion in selling shares. The company aims to increase its cash reserves in response to present COVID-induced market uncertainty. SoftBank will offer 1 billion shares of SoftBank Corp, lowering its holdings by 21.7% to 40.4%. The exact offer price for shares will be set in mid-Sept, but as of today, closing prices in Tokyo value the stake at around $13.9 billion (¥1.47tn).
Financial Institutions (Jamie Biswas)
This week saw a fairly strong week for financial institutions, with the Vanguard Financials ETF (VFH) rising 4.06%. Most of the gains within the sector can be attributed to banks, with insurance firms performing slightly worse in comparison. Despite seeing a significant rise, financial institutions still slightly underperformed relative to the overall market for the third week in a row.
It’s no secret bank stocks have performed very poorly since the Pandemic struck earlier this year, but are the low prices a good deal or a dead end? Banks have performed poorly due to low-interest rates decreasing banks’ lending margins. Also, many banks have had to take billions of dollars of loan loss provisions over the last few months, reducing profitability. All this has resulted in banks trading at close to book value. Banks just haven’t seen the same V-shaped bounce back that the rest of the market has seen. But some investors think now is the right time to be buying up banks. Patrick Kaser, who runs the large-cap value strategy at Brandywine Global Investment Management, a $60bn-in-assets manager, says he had as big a weighting in banks as he was allowed under client guidelines. Some of his portfolios contain 15% bank stocks, roughly five times the weighting of their benchmark indices. He clearly believes bank stocks are undervalued and says that when a vaccine gets discovered banks will rocket. This is because banks have already priced in all the negative outcomes and therefore can only go up from here. Mr Kaser states that large banks with diversified operations are the best bet. Banks like JP Morgan and Credit Suisse have a multitude of offerings ranging from lending out their balance sheet to governments, to corporate advisory services for multinational firms, making their profits less volatile over time. Of course, some investors completely disagree with Mike Mayo, Analyst at Wells Fargo stating that bank stocks are ‘as out of favour as you get’.
Industrials (Ed Collins)
Industrials have done well this week. The Vanguard Industrial Index (VIS) has risen by 1.64% whilst the S&P 500 Industrials Sector (SPLRCI) is up by 1.44%, since the start of the trading week (as of market close on Thursday).
Rolls Royce PLC (RR) released earnings on Thursday, revealing a £5.4bn pre-tax loss during the six months ending June 30. Revenues dropped 26% to £5.8bn and the operating loss was £1.7bn, compared with a profit of £203m in the same period last year. Rolls-Royce shares fell 6% Thursday morning and are now down 64% since the start of the year. Revenues were damaged severely due to airlines paying Rolls Royce on the basis of how many hours their engines fly, called ‘pay-as-you-fly’ contracts, and with many planes grounded and travel being at incredibly low levels, revenues dropped.
CEO Warren East said that Rolls Royce was examining options to strengthen its balance sheet, with aims to sell its Spanish unit ITP Aero and other assets to raise at least £2bn, whilst also continuing with plans to cut 9000 roles. Approximately £700m of savings will come directly from job cuts by the end of 2022.
The company burnt through £2.8bn of cash in H1 and expects a further outflow of £1bn in H2 of 2020. In the short term, Rolls Royce should be able to deal with this: the company had liquidity of £6.1bn comprising £4.2bn of cash at 30 June, and a £1.9bn undrawn revolving credit facility. It has also recently secured an additional £2bn undrawn term loan from the government.However, issues arise when thinking about the longer term. The International Air Transport Association has predicted it will take five years for demand to return to pre-pandemic levels. And many analysts are predicting that it will be short-haul flights that recover first. This will not benefit Rolls Royce, who are mainly exposed to the long-haul market as their engines mainly power wide-body jets that fly intercontinental services.
Utilities (Katarina Lau)
Energy stocks were down this week with the Energy Select Sector SPDR, made up of the largest U.S. energy companies, falling 1.4%. Going against norms, energy prices failed to rise as they typically do in accordance with crude oil, which has been rallying lately. WTI crude rebounded > 239% since April, recently hitting a 5-month-high in anticipation of Hurricane Laura. The energy underperformance is a result of weak investor confidence, primarily due to Exxon Mobil Corporation (XOM) leaving the Dow Jones Industrial Average (DJIA) after 92 years to be replaced by Salesforce. That leaves Chevron Corporation (CVX) as the only energy stock left in the price-weighted index, making up only 2.1%. This is a big blow to the whole sector given how ExxonMobil was once America’s largest company with a $415 billion market cap. Traditional energy companies’ influence is readily becoming outdated, losing out to renewables and tech giants like Apple, Amazon and Microsoft, who have succeeded as the new drivers of U.S. economy.
Key energy stocks which lost value were fossil fuel drilling company Helmerich & Payne (HP) down 3.4%, chemical refinery company Phillips 66 (PXS) falling 3.2% and leading UK energy-related manufacturer TechnipFMC (FTI) slipping 1.9%.
Nordic asset manager Storebrand with $91bn AUM made headlines by divesting some of the world’s largest fossil fuel firms as part of its new climate policy, which blacklists companies opposed to the Paris Agreement or earn >5% of revenues from coal or oil sands. In total, they shed $47 million of investments in 27 firms, including ExxonMobil, Chevron, miner Rio Tinto, US energy provider Southern Company and German chemicals BASF. This is boost for ESG investing as well as an unmissable warning sign to fossil fuel companies…
Materials (Ed Collins)
The Materials sector has seen some improvement this week. The Vanguard Materials Index (VAW) is up 1.25% whilst the S&P 500 Materials Sector exchange (SPLRCM) is up by about 1%.
Storebrand (STB.OL), A $91bn Nordic asset manager, has sold off its investments in a number of companies this week: US oil giants Exxon (XOM) and Chevron (CVX), along with German chemical firm BASF (BAS) and mining behemoth Rio Tinto (RIO) were all dumped by Storebrand on Monday. One reason Storebrand gave was that all of these companies have lobbied against the Paris Climate Agreement, along with wider climate regulation. The move is the first example of a big investor explicitly divesting from oil producers and miners for alleged lobbying against tougher environmental standards. Storebrand’s CEO, Jan Erik Saugestad, warned that other institutional investors would follow suit whilst also stating that other oil and gas companies, namely BP, Shell and Equinor, “cannot rest easy and continue business as normal”. As investors and the world as a whole move away from fossil fuels, I can only agree with Mr Saugestad’s comments. Storebrand’s share price rose by 3.91% this week.
Polymetal International (POLY), the London-listed Russian mining group, doubled its dividend after higher gold and silver prices boosted profits in the first half of the year. Shares have risen by 70% since the start of the year, now trading at £20.29, making the miner one of the best performers in the FTSE 100. Polymetal said adjusted EBITDA had risen 53% to $616m, in line with analyst expectations, for the first half of 2020. Revenue rose by 21% to $1.14bn.
The mining sector has fared well through the pandemic, with many mining companies maintaining their dividends, due to higher precious metals prices alongside stimulus measures in China that helped maintain demand.
Rates (Harrison Knowles)
Amid the onset of US political campaigns kicking off with the Republican National Convention on Monday, the 10 yr. US Treasury priced in at 0.643% to start off the week.
Since the stock market crashed in February and March, alongside plunging rates, we can see that the S&P 500 index has staged a V-shaped recovery whilst US Treasury yields have continued lower. An interesting read this week from Bloomberg’s Joe Weisenthal considers the incorrect, yet common, sentiment towards the fixed income space as being the ‘smart market’ amid equities being flooded by Robinhood investors and an influx of passive 401k investors. And so, there is a growing number of people implying that the two disagree and the ‘smart’ line is both a real reflection of the economies state and exposes the recovery as that of a ‘mirage’. Although, the two lines are not in fact in opposition to each other, rather just reflecting different things. The S&P 500 is reflective of the perceived earnings potential of the 500 companies that are in the index, whereas the Treasury market is reflective of the future path of Federal Reserve moves. Much like the BoE, the Fed has signalled that it will be disinclined to hike rates for a long time, and that it won’t jeopardise a recovery at the first instance of inflation. This is particularly relevant as this Thursday marked the day of the key speech at the virtual Jackson Hole Symposium, made by Fed Chair Jerome Powell. I’ll breakdown what happened a bit later on, however back to the chart above, the depressed white line is simply reflecting the expectation that over the next several years, the Fed will not be hiking interest rates. Of course, that could change if the economy booms or inflation starts raging and a new Fed framework is implemented. Though at the moment, the white line just reflects the signal from the Fed, and the green light is also pricing in on the same signal, given the fact investors are assured the Fed won’t prematurely halt growth in equities.
On Thursday, Jerome Powell announced the release of the revised consensus statement on long-term goals which articulates their framework of monetary policy. He discussed the review, the changes in the economy that motivated it, and the revised statement that encapsulates the main conclusions of the review. It can be watched here https://www.youtube.com/watch?v=1KQRhbkDwO8 courtesy of CNBC Television, though I will run through it.
The review began in early 2019 to assess the monetary strategy tools and communications that would best foster the achievement of the Fed’s congressionally assigned goals of maximum employment and price stability in the years ahead. Since the economy is always evolving, the strategy of achieving these goals (framework) must adapt to meet the new challenges that arises. To keep this Wrap-Up short enough, I will only go over the New Statement on Longer-Run Goals and Monetary Policy Strategy, though motivations for the review and evolution of the Fed’s Monetary Policy Framework is discussed in detail within the speech that can be found online.
The revised consensus statement adopted on Thursday, like its predecessor, explains how the Fed interprets the congressional mandate and describes the broad framework that they believe will best promote the maximum-employment and price-stability goals. It is important to note several areas of continuity in the statement, firstly the continuation in the belief of specifying a numerical goal for employment as being unwise. This is because the maximum level of employment is not directly measurable and changes over time for reasons unrelated to monetary policy. Also, the view that a longer-run inflation rate of 2% is most consistent with the dual-mandate has not changed. Finally, there is continuation in belief that monetary policy must be forward looking. The key innovations acknowledge the challenges posed by the proximity of interest rates to the effective lower bound. Powell was firm in assuring the downward risks to employment and inflation would be countered, and the Fed would be fully prepared to use their full range of tools to support the economy. The changes can be split into the two sections of the dual mandate:
Maximise Employment: The revised statement emphasises that the maximum employment is a broad-based and inclusive goal. The policy will be driven by considerations of the Fed’s “assessments of the shortfalls of employments from its maximum level” supposed to “deviations from its maximum level”. A subtle change yet reflects the view that a robust job market can be sustained without causing inflation outbreak. In earlier decades, inflation tended to rise noticeably in response to a strengthening labour market. It sometimes then induced a response to tighten monetary policy id the employment rose towards the estimated maximum level. However, now going forward the employment can run at or above estimates of maximum levels without cause for concern as the new assessments consider “shortfalls”. Unless of course accompanied by signs of unwanted increases in inflation or emergence of other risks that could impede attainment of the mandate.
Price Stability: It is believed the actions to achieve both sides of the mandate remain most effective with longer-term inflation expectations anchored at 2%. However, the new statement will introduce the notion of seeking to achieve inflation that averages 2% over time. Therefore, following periods of inflation running sub-optimally below 2%, appropriate monetary policy will likely aim to achieve inflation moderately above 2% for some time. This flexible form of average inflation targeting allows future considerations not to be dictated by any formula and if excessive inflationary pressures build the Fed will not hesitate to act.
Overall, the new Statement on Longer-Run Goals and Monetary Policy Strategy conveys the continued strong commitment to achieving goals, given the difficult challenges presented by the proximity of interest rates to the effective lower bound. Looking forward, the Fed will undertake a thorough public review of monetary policy strategy, tools, and communication practices roughly every five years.
The innovations have been met with some investor scepticism. With inflation remaining stubbornly low, few seem to believe the Fed can engineer an overshoot of their 2% target any time soon. One place the move will be felt in the more immediate term is across the Atlantic at the European Central Bank where a policy review is also underway. The Fed move could help President Christine Lagarde push for a similar policy for the euro area, allowing the ECB to stay more accommodative for longer.
Credit (Alexander Kaiser)
Currently, the Chinese Corporate Bond market might be a good indicator of what is to come eventually in the west. While the country’s immense $4.1tn bond market has seen incredibly low default rates during the 2nd quarter with the value of late payments falling 17% YoY for the first half of 2020, totalling just over $7bn as of now, investors do not believe this can last. After the virus had pushed the Chinese economy into its first contraction in over 40 years, bonds remained relatively stable due to the government encouraging the acceptance of late payments and refinancing from lenders. Since the economy has since stabilised, financial support is being reduced and many are preparing for greater levels of defaults, potentially breaking previous records. However, the support will not be cut off completely and according to recent announcements looks to be more accommodating than originally expected so there will not be another major downturn. Regardless, further delayed payments exceeding $10bn are expected by December with numerous companies in the transport sector has indicated to bondholders that they will struggle to pay their debts.
Meanwhile, a new bond sale by Finnair worth €200m and a 10.25% coupon rate goes to show how desperate many are for yield these days. This sale made use of so-called “hybrid-bonds”, a term used when a form of financing takes characteristics from both equity and debt financing. The quirk with this particular sale is that the bonds never mature, i.e. unless initiated by Finnair itself the face-value does not have to be repaid. More astounding though is the fact that, unlike in recent US aviation deals, no clause stated that assets would be sold to ensure payments, making it one of the riskiest sales since the pandemic. While some are reassured by the fact that European aviation companies still have access to the bond markets during these troubling times with Finnair being the first to refinance their debts this way since the beginning of the pandemic in Europe, others are worried about how much more companies can get away with when individual investors seemingly take any risk for additional yield
Real Estate Investment Trusts (REIT’s) (Claire Willemse)
Office owners have continued to feel the hit of the coronavirus pandemic, with new costs on the horizon as they try to make offices compliant with Covid-19 distancing measures. Over recent weeks, various companies in the insurance, technology and financial services sectors have announced they will be making working from home a more permanent option for many of their workers. On top of this, London professionals have been slower to return to the office compared to many European peers. This has not just affected investors who have invested in offices, but also in surrounding retail, which has started to suffer from the lost footfall from office workers, who sometimes make up the majority of their customers.
U.S. Equity REITs’ earnings were reported as having fallen 21.7% in Q2, to $11.6b. FFO (Funds From Operations) was down by 29.3% YoY. Lodging/Resort REITs, as well as Retail REITs suffered quite considerable, with FFO falling 25% for the latter. Data Centre and Infrastructure REITs showed a more positive picture, with FFO increasing by 32.6% and 3.8% respectively. REITs still seem to be an investment opportunity, with strong balance sheets and interest coverage ratios of 3.4x.
Canadian REIT NorthWest Healthcare Properties Real Estate Investment Trust has acquired four Aspen Healthcare properties in London for £260m. This comes after their £97.8m acquisition of six BMI Healthcare properties in February, as they seek to grow their portfolio in the UK. This is part of the increase in interest in the UK private hospital market from North American REITs, which previously focussed more on UK care homes as part of this sector.
Oil & Precious Metals (Oliviero Sacchet)
This week the oil industry registered: WTI (+0.7%) $43.02 and BRNT (+1.4%) $45.07.
On the 27th of August, Hurricane Laura hit the US Gulf Coast. In order to prevent possible great damages, several oil refineries were shut offline. Specifically, this shutdown reduced the oil production of 2.3 million barrel per day, thanks to the closure of Citgo Petroleum (425,000 barrel per day), Philipps 66 in Louisiana and Motiva Enterprises’ (630,000 barrel per day). Also, this natural disaster is affecting a lot of utility customers. According to an estimate of S&P Global Platts, 840,000 customers were without energy power on August 27. The US is an important player in the world oil market, exporting 3 million barrel per day of crude oil and 5 million barrel per day of refined petroleum, but Hurricane Laura is going to affect this market both at a national and at an international level. Unexpectedly the oil situation during coronavirus is offsetting the Hurricane Laura problem. During the lockdown period, the low demand leads to a lot of inventories that now are being transformed into a cushion.
In this month the US Midwest is facing an opposite situation as it is suffering from a lack of rainfall. This drought situation leads to deteriorating corn conditions. During the month of August, Iowa, which is one of the most productive states of corn, was hit by a storm. This natural disaster has led to a really low supply. That is exactly why benchmark corn price is up of 4% at $3.39 a bushel. Initial hopes were that Hurricane Laura would have brought some rain, but the disturbance will not get the Midwest. As regard Nut industry, it is facing a terrible period. Benchmark US almond is at the lowest level since a decade, reaching a negative 40% with a -18% for walnuts and -10% for cashews. The reason behind these negative returns is the coronavirus. During the first months hoarding led to high demand for nuts, but after this period the demand decreased and all the nuts industry is now dealing with an oversupply situation and a fall in prices.
G10 & EMFX (Krisztián Sudár)
Another episode of “The New Normal”. Central bank executives held their annual Jackson Hole meeting this week – online. The most important announcement that arose from the convention was made by Jay Powell, Chairman of the Fed. In it, he detailed the Federal Reserves policy shift: Instead of using a flat inflation target of 2%, they are changing the inflation target to be dynamic, and average out to 2% over multiple periods. The news alarmed investors to the significant chance of increasing inflation and also to the fact that low-interest rates are here to stay, sending the dollar to lose 0.8% against a basket of its peers. A Hong Kong-based Portfolio Manager of PIMCO cautioned investors, saying that the weak performance by the greenback in recent months could just be the tip of the iceberg, and additional pain may follow.
Citing health issues, Japan’s Prime Minister Shinzo Abe resigned, sending the Yen to 1.2% to reach a level of 105.29$. The rally can be explained by presumed discontinuation of “Abeconomics”, the expansionary economic strategy followed by Abe. Another contributing factor to the momentum the Japanese currency has seen this week is that with much uncertainty in the world, investors are drawn to safe assets. One of the most notable safe assets, the U.S. Dollar, however, is on a serious downtrend. Naturally, more investors flock to other safe havens, such as the Yen, in reaction.European economic sentiment is on an uptrend after dropping in the previous months. Rising confidence in the European Union has drawn funds from the United States, propelling the Euro against the Dollar. Hedge Funds and banks alike are setting higher and higher price targets for the single currency, with the latest being Goldman Sachs’ 1.25$ price target.