Strikes on Saudi oil facilities has caused markets to rethink the current series of positive days we have seen. With 5% of global supply put out of action, the estimates of get the production back to full capacity is still unknown (estimates are a few week or a few months). This is having the obvious effects of hitting airlines and seeing a move to rick off plays. How will this change the longer term investment landscape? That will depend on political reactions.
The US is looking to open its strategic reserves and many analysts think the supply of oil can cover the outage until the Saudi plant is back online. The price of oil will probably not fall significantly from here but there are few reasons to see a large spike in price based on supply. Politically, this would be where some adjustments in the portfolio might need action.
There are already talks of the Iranian government being behind the attacks, claimed by Houthi rebels. Some in the US suggest it was even a cruise missile from Iran itself that is responsible for the strike. These allegations, should they come true, will be of greater importance to the overall price movement of oil and the overall markets. Having the threat of war hanging over consumers and companies while the economy is already slowing down in many countries could be the impetus to bring about an actual recession. It isn't a disruption in oil that will affect your portfolio as much as a disruption in confidence.
A good day in the markets on the back of positive service numbers out of Europe and more signs that Brexit will be delayed.
The defection of MPs from British prime minister Boris Johnson is causing relief in European equities because of the prospects of a Brexit delay coming as a result. Johnson wants to leave the union at the end of October "come what may" which has seen the Pound and British equities drop over the past month.
The Services numbers coming out of mainland Europe were optimistic (with exception to Italy) which will not likely stop the cutting of the rates and easing by the ECB, but could support a more measured approach over time. The real success of the stimulus program will come from the Eurozone members ability to coordinate fiscal with monetary stimulus. In the past this has been difficult with core countries like France and Germany resisting deficits to boost spending. With Germany suffering from a the slump in trade and France having a government with a pro integration leader, there is opportunity to avoid a downturn.
From an investment standpoint this is good news for long term buyers that there is more potential coordination than we have seen in the past slowdown. The fact that there will still be cuts, and the majority of the heavy lifting done by the ECB in the interim, it might be a bit early to look at certain stocks like the banks (see last post). Buying into any dip will not be as risky so long as the countries of in the Eurozone (notable Germany) start to warm towards fiscal stimulus and work together.
German elections have shown promising results for the mainstream parties already in power (CDU and SPD) but also saw more gains from the anti immigration party (the AFD). This comes at a time when the German economy has contracted in the second quarter and could enter a recession in the 3rd. This is in contrast with France who has seen their economic numbers beat expectations over the summer. This trend in Germany underperforming and France being resilient is due primarily due to the fact that the German economy is heavily reliant on exports while the French economy has a good portion of internal demand.
Longer term, this could prove to be a good thing. In the past when the eurozone was slowing down, the lack of unity on what action to take to stimulate a 2 speed Europe caused austerity to be the only viable option. This was due to the core countries not wanting to subsidize stimulus for the periphery countries. Now that Germany is in the same boat and in need of more stimulus, there could be more direction on the French president's desire to integrate the Eurozone economies more. This unification of fiscal stimulus will allow the euro to become more competitive against the US and China as they start to build a more unified economic model.
If these changes occur it will help to stem the negative yielding debt we have seen in countries like Germany as their credit worthiness is coupled together with Italy, Spain, and other countries. As these levels of debt rise, and inflation starts to take hold, we would see a gradual rise in the yield curve across many countries. This would most benefit the banks in the countries as they will have the ability to lend at profitable rates. With the book value of some of these banks at steep discounts, there could be some longer term buys in play. A rush into the market is not needed to gain on these opportunities as the ECB is looking at more rate cuts and stimulus to boost growth. If we get the old core countries like Germany to start looking at fiscal stimulus however, we could be at a good buying point.
Today is the heavily marketed Fed meeting where the markets are looking to get some insights into the easing (almost no one expects a hike) timetable for 2019. This is coming off the back of the news from the ECB, where Draghi is proving not to be a lame duck and has started to talk up easing policy should the markets continues in the current trend.
With all of this easing talk (and some positive tweets about the trade negotiations) we are seeing US markets nearing their all time highs which is great news for investors but raises some questions about the near future. Should more money be allocated to US stocks in the coming months? Should money be taken off the table? The answer to these are all based on the underlying reality vs the projections of the markets. A Fed cut is a good thing under the assumptions it is in anticipation of a slowdown in the second half of the Year. With the Fed getting ahead of any negative data in the US, the markets will be able to avoid the sell-off that would accompany an adjustment in growth expectations. If the cuts come as a reaction of negative data in the markets we will see the markets adjust to the news until they can determine that the easing policies of the Fed have been effective. Some argue that it would be harder to turn sentiment with only 250 basis points to cut so getting ahead of the data is key.
Insights into this will come from the Fed "dot plot" where the members of the FOMC all predict where interest rates will be at certain times in the future. For the early scenario to be in play we should see significant moves downward in these dots as the voting members change their expectations. A lower expectation of the longer term interest rates will point towards the committee feeling they will be unable to avoid the slowdown with early cuts and there will be a longer trend in "lower for longer" along side other major economies.
You can't look at the UK market or the currency without taking into account the current state of Brexit. The postponement of the deal to October and subsequent election caused the Pound to drop. The stock markets have been taking this news fairly well staying in line with other major indices. The question now comes down to the data. Will there have to be a pronounced decline in UK data to prompt the British government to take early action against the threat of a no deal Brexit? News today shows that steps are trying to be made to prohibit that from happening, but without a sense of urgency it will be important to see how the vote goes.
Like many investors are probably thinking, I like the UK as an investment opportunity but am holding off in light of the political threat to the markets. This paralysis is going to seep into the economy as uncertainty continues. For this week I am going to keep an eye on the BOE governor to see what he thinks monetary policy will have to do in this interim period, and after.
Markets are again in the red this AM about the Yield curve going deeper into inversion. With the 10 year at a yield of 2.1% and the 3 month at 2.34%, it pays to keep your money in cash short term while avoiding locking in anything further out on the curve. This has been a sign of a recession in the past and has the markets starting to sell off as a result. Long term what does this mean?
If a recession is on the horizon it is almost guaranteed that the expected that the Fed will react. A curve that is this inverted is a telling sign that many investors are expecting the shorter end of the curve to come back in line with the expectations priced into the longer end of the curve. If these cuts do occur, and remain lower for longer, like we have seen in the past, there is a good chance of getting a rise in assets providing the yield that many investors require.
Banks will be one of the beneficiaries of lower rates. A steepening yield curve is where traditional banks earn their profits. While the curve is flat or negative they have to borrow at a higher rate then they are lending. This will slow their ability and desire to lend money, slowing the economy, and causing the Fed to look at lowering rates. ETFs like the KBW Regional Banking are becoming cheaper in the sell-off and starting to get a yield that is nearing the 3 month. As the market continues to price in the trade wars and recessionary fears, financial ETFs might be worth looking at. If the Fed goes on a program of interest rate cuts, the profitability metrics of these companies will increase, and the yield they provide will look more attractive.
With the elections over it is time for the top jobs of the new European parliament to be hashed out. The current climate of Europe after the elections is a bit mixed, but far from the greatest fears that could have manifested. The Traditional parties were uprooted with the Peoples' party and the social democrats (the usual center parties that take 50% of the votes) failing to get a majority for the first time. On the bright side it wasn't the far right euro-skeptics that have seized all the power. Though there have been gains in the far right in places like Italy, others like in Greece saw their extreme governments come back into the centrist realm (and markets moves accordingly).
This is no doubt going to introduce volatility into the markets in the near team but the implications of how a coalitions gets formed will have a much larger and lasting effect on the Euro and the underlying countries. By failing to integrate more, the union will be unable to prepare and react to another crisis in the region, or even a modest slowdown. With one of the main positions to be filled being that of the ECB head, the people who get placed into these roles will be a deciding factor in the valuation of the currency, spreads among member countries, and market valuations.
China beating GDP estimates caused a rally in Asian shares and provided some relief around the globe. The reading of 6.4% growth was flat quarter over quarter and beat the 6.3% estimates. This all sounds like good news for the global economy stabilizing and will provide the Chinese government with the ability to scale back on stimulus. The larger picture shows that the stabilization of growth came from the real estate sector (construction, white goods, etc.) which are partially a result of the lowering of the reserve requirements for banks. Local governments were also given a near 60% increase in special purpose bonds this year which will contribute to growth.
Concerns come into play when you look at the longer term horizon and ow the Chinese government will cope with slowing growth year over year. The current process of adding more stimulus to the markets has, and will continue to work, but due to the rising concerns over debt in the country, the government will be less likely to resume the financial crisis era levels of assistance.
Once again when determining the reliability of the recovery we had this year we need to look at the debt markets for signals of how stable and long it will last. Equities will be supported by the strength in the lending market or be forced to adjust to the limitations of debt fueled growth.
Today the US Jobs numbers come out for March. Estimates are around 180k jobs being created, which is strong coming off the back of a 20k increase last month. Markets will be looking at how this is revised to help make a determination of whether the global slowdown fears are past us and there is room for more upside in the markets. Since the start of the year markets have rallied at signs of growth returning not just to the US but globally.
The market staged a great recovery from the sell-off late last year, now that we are back to the levels we saw before the drop, growth is going to influence the markets more than recovery. If this growth trend continues and the Fed stays in its wait and see stance, the markets could have the potential for new highs. With markets getting optimistic, there is potential for some upsets, so the approach to adding to your positions should remain measured, and cash should stay on hand.
Today UK Parliament will discuss and vote on the alternatives to Brexit. This will no doubt bring volatility into the markets and have investors waiting on the side lines for more information. Bigger picture the talks of a global slowdown are increasing (the bond market is starting to take notice) which isn't being fully reflected in the stock market as of now. Equities did have a series of declines as markets started to factor in the dovish Fed comments as being pre-emptive over accommodative. The fixed income market might be telling us that more trouble is on the horizon.
The US treasury curve has inverted seeing the 6mo and shorter yields higher than the longer dated yields, out to the 10yr. This inversion makes many investors nervous about the future economic prospects because so many are willing to get less return for longer protection of their money. As we have seen in the past an inversion denotes fear, fear brings an increase in savings and less investment, and less investment brings a slowdown. The issue is more in the timing of these events and the severity. For investors this is a good time to get your cash ready to deploy as the fear of the slowdown starts to become self fulfilling. In deploying cash, this means paring back on some investments that have had good rallies in the past few months and possibly not rolling over longer term bonds that you may have maturing. I wouldn't recommend a total liquidation in your portfolio (probably ever) as over the long term staying invested is the best way to capture long term returns. This is more a move to re-allocate over the coming months or year.
In Europe there are larger factors at work. The Fear of Brexit is at the center of everyone's mind and looking longer term, the outlook doesn't get much better. The data coming out of the Euro area is pointing to a steady decline in economic activity. This is bringing up some of the fears that have plagued the region during the crisis in 2011/12. s you ca see with German bunds (the safe haven of the Eurozone) investors are willing to pay a small price to protect their money, for up to 10 years. The ECB has been a contributor to this trend by pledging to keep rates the same until at least the end of 2020 and to continue to buy assets under their purchase program (of which there aren't enough German bunds to buy at reasonable prices). The sectors that are hit by these declining economic conditions in the EU are banks and industrials. Longer term I want to buy into these sectors, but cooler heads must prevail. Industrials can offer some decent yields, and would be easier to buy and hold through a rough patch. The banking sector will need to strengthen its capital structures and eliminate the fears of sovereign debt risks before they start to look attractive. Moving higher up the capital structure might be a better option in the near term, looking for preferred shares or bonds of financials companies. The key here is patience, as in the US market, it is good to have cash on hand and wait for opportunities to buy into good companies being sold off as liquidity becomes more valuable.