Coffee Break 1/15/2018

Highlights

US: Rising retail sales in December.
Euro Zone: Rising economic sentiment index.
Asset allocation: We maintain our risk-on stance.

Asset Allocation :

Our “risk-on” stance continues in this second week of January as equity markets are taking investors to new highs.

After a long period of calm, the bond market was again in focus, as US and German 10Y government bond yields jumped by more than 10bp, resulting in an overall rise of close to 20bp since the start of the year. European peripheral bond spreads tightened further.

What contributed to the sell-off?

1. The Bank of Japan’s reducing its long-end bond purchases on Tuesday,
2. China reducing their Treasury holdings, although it was later denied, and
3. A surprisingly hawkish ECB minutes on Thursday.

Finally, the week ended with a slightly higher than expected December core-CPI in the US. The latter continues a pattern of alternating strong and weak readings over the past 6 months. In addition, these slightly bigger consumer price pressures were echoed by further strength in consumption. Overall, the current growth / inflation mix comforts our risk-on stance, leading us to add to our short duration exposure.

This week will mark the start of the Q4 earnings season and we will monitor how well it will support the current positive momentum.

Our current investment strategy on traditional funds:

Legend
grey : no change
blue : change

EQUITIES VERSUS BONDS

We remain positive on equities via both the euro zone and Japan.

Global economic momentum is accelerating further, however geopolitical risks remain.
- We concentrate our portfolio’s regional positioning on the euro zone and Japan. Emerging markets are benefitting from supportive fundamentals and a weaker US dollar.
Central banks are turning less accommodative:
- The Federal Reserve started its balance sheet reduction in October, hiked in December and should hike three times this year.
- The ECB has recalibrated its programme, buying less bonds as of this month. A rate hike should not occur before 2019.
Equities have an attractive relative valuation compared to credit.

REGIONAL EQUITY STRATEGY

We remain positive on euro zone equities which are supported by a strong economic and earnings momentum and relatively attractive valuations.
We have kept a neutral tactical stance on emerging markets equities.
We have become less negative on UK equities.
We remain neutral on US equities. Donald Trump has recently signed the tax bill passed by Congress, but the FY 2018 spending legislation is still pending.
We are positive on Japanese equities. Following the elections, the Prime Minister Abe’s mandate has been validated, hence we see an increased visibility on the policy mix for the coming quarters. Strengthening growth and a supportive domestic policy mix are among the main performance drivers and the BoJ confirmed that it would not join other central banks in tightening its monetary policy anytime soon, which should ultimately lead to a weaker JPY. Furthermore, Japanese earnings have been progressing so far without a depreciation of the JPY.

BOND STRATEGY

We are negative on bonds and have a low duration.
With a tightening Fed and expected upcoming inflation pressures, we assume rates and bond yields should continue their uptrend.
We continue to diversify out of low-yielding government bonds:
- We have a neutral view on credit, as spreads have already tightened significantly and a potential increase in bond yields could hurt performance.
- We have a diversification in inflation-linked bonds.
- We keep our positive stance to emerging market debt, as the on-going monetary easing represents an important support.
- We are neutral on high yield. The correction on US High Yield market observed recently is not expected to continue.

Macro :

In the US, retail sales MoM rose by 0.4% in December, following an upwardly revised 0.9% increase in November and matched market expectations.
Core inflation rate also came in at 1.8%.
In the euro zone, the economic sentiment index rose to 116 in December, beating market expectations of 114.8.
Unemployment rate was down to 8.7%, the lowest reading since January 2009 with the Czech Republic, Malta and Germany having the smallest readings while Greece and Spain showed the highest rates.

Equities :

EUROPE

Flattish week for European equities.

Euro zone Banks and Cyclicals outperformed defensives by more than 2% last week.
Euro zone exporters lagged following the rally of the EUR.
Technology was also low dragged the negative performance of SAP.
Country wise, Italy rallied supported by its banks while Switzerland went down due to its defensive nature on higher bond yields.

US

Second week of solid gains for US markets.

Consumer discretionary, Energy, Financials, Health care, Industrials and Business services recorded solid gains buy the end of the week.
Real estate and Utilities underperformed as long-term Treasury bond yields rose.
Friday brought the release of the first major Q4 earnings reports and investors saw positive outlook from JPMorgan Chase.

EMERGING MARKETS

Emerging markets supported by a spike in US yields and new oil prices highs.

Mexico had a difficult week as investors remained cautious following a Reuters report stating Canada increasingly believes Donald Trump would soon announce his intention to withdraw from the North American Free Trade Agreement treaty.
Turkey also dropped more than 1% while bond yields edged higher across the region.
But on a positive note, Russia rose to a 1Y peak as Brent crude prices reached $70 a barrel for the first time in three years.

Fixed Income :

RATES

Steepening curve in the US and a less dovish tone for the ECB in Europe.

The release of the ECB minutes highlighted a less dovish tone with a potential gradual shift in forward guidance, and put some pressure on the short end of the curve.
The main point remains inflation level, which is still far away from the medium term level objective of 2%.
On the US front, T-note reached 2.5% for the first time since March 2017 following a steepening of the curve due to the potential less appetite from Asian central banks.
10Y US, UK, Japan and German yields stood at respectively 2.53%, 1.31%, 0.07% and 0.58%.

CREDIT

Intense activity on the primary market last week.

The main fact of the week was the issuance of a non-preferred Senior note by Unicredit for the first time (€7bn should be issued in 2018).
In total there were more than EUR 7.45bn of non-financials and 11bn of financials issued last week.
Cash credit spreads tightened by 3bp for Investment Grade and by 5bp for High Yield.
Regarding derivatives, the iTraxx Main remained flat at 44.3 and the iTraxx Xover widened by 6.8bp.

FOREX

Underperformance of the USD last week.

With markets cautious on the US economy and the impact on the tax reform, the USD underperformed against the JPY, NOK, EUR and NZD last week.
One of the main looser of the week was the CAD as rumours that the US administration could leave the NAFTA negotiations without any agreement resurfaced.
The EUR extended 2017 gains, supported by higher bond yields and hawkish ECB minutes.