Tech-heavy Nasdaq Composite underperforms on rising bond yields

Posted on September 29, 2021October 11, 2021 by Vrasidas Neofytou

The tech-heavy Nasdaq Composite tumbled nearly 3% on Tuesday, posting its sharpest pullback since March, as rising US Treasury yields, Fed’s chair Powell comments, and weaker economic data triggered a selling pressure in shares of fast-growing technology companies.

Nasdaq Composite underperforms the market:

US stock market experienced a fierce sell-off yesterday, with Nasdaq Composite losing 2.83% to 14,546, posting its worst day since March, the S&P 500 dropped 2.04%, and the Dow Jones Industrial Average lost 570 points, or 1.63%.

Nasdaq Composite, Daily chart

The leading tech index has been underperforming the broader equity market since it posted its all-time high of 15,700 on 06 September, logging nearly 5% monthly losses so far, having exactly the inverse relationship with the upward trend in US bond yields.

Growth stocks vs bond yields:

Wall Street’s favourite tech giants Apple, Amazon, Facebook, Google-parent Alphabet, and Microsoft fell more than 2% yesterday, as the rising bond yields have a significant implication in the economic outlook and the future earnings of the tech-led growth stocks.

Tech names were the investor’s darlings during the pandemic era, logging significant gains versus the cyclical names which depend mostly on the economic conditions of the market.

The sell-off accelerated after Federal Reserve Chairman Jerome Powell told the Senate Banking Committee that inflation could stay “elevated” longer than the central bank had previously predicted.

The 10-year US Treasury yield rose as high as 1,57%, the 30-year US Treasury yield touched the 2,10% mark, posting their highest level since June on economic optimism and inflation fears.

Investors worry that elevated inflationary levels will encourage Federal Reserve and other central banks around the world to start tapering their pandemic-led massive monetary stimulus measures just as global growth and economic data start to deteriorating.

Brent oil crosses $80/b, hitting 3-year highs as energy crisis goes global

Posted on September 28, 2021October 11, 2021 by Vrasidas Neofytou

The international benchmark Brent crude oil crosses the psychological $80/b level for the first time since October 2018, the WTI contract breaks above $76/b, while the Henry hub-based Natural Gas price tops $6/MMBtu as investors worry about the lower-than-expected oil and gas inventories ahead of the energy-demanding winter months in Northern Hemisphere.

Brent crude oil, Weekly chart

Both crude oil contracts post a six-day rally based on bullish fundamentals, with the Brent contract heading to the $85/b mark, a level last traded back in 2018, while the WTI reapproaching the 2021 highs of $77/b.

Bullish energy market fundamentals:

Investors have turned bullish on energy sector as they expect a prolonged period of high oil and gas prices as the global supply struggles to meet the fast-rising demand due to the economic reopening after the pandemic and ahead of a strong winter heating demand.

Analysts expect the global oil demand to recall the pre-pandemic levels during 2022, with Asia and especially China continuing as the centre of petroleum-consumption growth.

Weather premium in energy prices:

Energy prices trade with a weather premium as investors worry if the approaching winter in the Northern Hemisphere, which hosts large energy-consuming areas such as Europe, Asia, and North America, could be colder than normal, stressing further the already lower-than-expected oil and natural gas inventories.

On top of that, the global energy crisis and the elevating Coal and Natural gas prices could increase the demand for crude oil as many power stations around the world would be forced to switch to the cheaper oil for power generation, tightening the global oil supplies further.

US-based Natural gas prices topped $6/MMBtu this morning as the global gas stockpiles level dropped below the 5-year average amid lower-than-normal supplies from Russia, hurricane-led oil and gas supplies disruptions in the Gulf of Mexico, and the larger-than-expected gas consumption for power generation after extreme winter and summer weather this year.

Evergrande default: Climbing the wall of Chinese worry (as usual)

Posted on September 24, 2021October 11, 2021 by George Kessarios

Finally, we have headline scares out of China. Earlier this week markets were spooked about the possible default of the world’s most indebted developer, which is none other China’s Evergrande Group.

Usually, what happens in China stays in China and has no consequences outside of China. This because China is mostly a closed economy and very rarely anything that happens affects anyone else. Except for exporting a little deflation, which is mostly a good thing.

And given that there will probably be a domestic policy response from the Chinese government (as everyone thinks), any implications within China will also probably be limited.

For some strange reason what applies in western economies does not apply to China. The housing bubble in China has been ongoing for many years now, with analysts and economists forecasting a crash, but no crash ever occurred. Even Hong Kong’s real estate market has been an ongoing bubble for the past 20 years or so, but still no crash.

Yet it is terrifying when one looks at just how expensive real estate in China is, and the implications of a possible nonorderly Evergrande default.

The chart below comes from Nordea and depicts housing affordability in China.

The latest data show that the ratio of the median house price to income in Beijing is about 25, about 13 in all of China, and about 21 for Hong Kong. During the US housing bubble in 2008 this ratio was about 7-8.

So, while everyone expects the Chinese government to mediate and somehow solve the problem, one must ask themselves if it is different this time? Especially if government mediation does not happen or, does not happen enough.

The entire construction sector, including commodities like iron, copper, and cement will be impacted. Many products and services that go into construction, like elevators, will also be hit. Consumer behavior will also be impacted as well. And while local banking issues could be managed, and will have no global impact, Chinese consumer behavior will. The consumer in China is simply too big to be ignored, even by many US companies.

So, getting back to the question if an Evergrande default can have global spillover effects, the answer is probably yes, if the unwinding is not orderly. But even with no spillover, the wall of worry of the Chinese housing bubble will continue to be with us.

Turkish lira drops to record low against US dollar after 1% rate cut

Posted on September 24, 2021October 11, 2021 by Vrasidas Neofytou

Turkey’s lira fell to a fresh record low of $8,88 against the US dollar and €10,40 to the Euro on Friday morning, extending losses from the previous sessions, as investors disappointed after the Turkish Central Bank unexpectedly cut its official policy rate to 18% from 19%.

Analysts worry that the local central bank is using unorthodox monetary policies to tackle the elevating inflation as the new benchmark rate of 18% stays below the annual rate of inflation which soared to 19,25% in August.

Turkey’s currency has been one of the worst emerging-market performers and the worst of all G20 currencies in 2021 so far. Lira is down by more than 3% against the dollar this week, 7% since the start of the month, and almost 23% from January 01, 2021.

High inflation and falling currency often create serious problems for the society as they raise the cost of the dollar-denominated imported goods such as crude oil, construction metals, grains, dairies, and appliances, making the life of the local population more expensive, as is the case in Turkey now, damaging Erdogan’s popularity.

Investors also concern about Turkey’s declining foreign exchange reserves, the account deficit, the growing sovereign and private foreign (dollar & euro)-denominated debt, Erdogan’s intervention in the central bank’s actions, and potential sanctions from the EU which darkness the economic outlook of the country.

President Erdogan’s intervention:

Policymakers usually raise interest rates to tackle the fast-rising inflation and to slow down the devaluation of the local currency against major peers.

However, this is not the case in Turkey nowadays as President Erdogan had repeatedly described the interest rates as the “mother of all evil”, creating a “low-interest-rate lobby” in the country.

He had fired the last three central bank governors, publicly criticising them for lifting the key interest rate to 19% in just 2 years, an orthodox monetary policy to contain Turkey’s prolonged inflation problem and defend the falling currency.

What strategy should we have in an inflationary environment?

Posted on September 22, 2021 by George Kessarios

Assuming the FED and ECB are wrong, and inflation persists, the question is, what should the investment strategy be in such an environment.

The answer is not as simple as it sounds because current generation of fund managers have no experience dealing with inflation. Reason being, above average inflation has not been around for several decades.

But there is also another reason why dealing with inflation today is an enigma. Several decades ago fund managers sold equities and went into fixed income that had a yield. Today fixed income does not offer any yield. Simply put, there is no money to be made in bonds anymore, outside of trading them and hoping to make capital gains. According to Bank of America Corp, about 25% of all global bonds yield below zero, and only about 1/3 of all fixed income yields above 1%. In fact, negative real yields have even been sighted in European junk debt.

So, the question of how to navigate an inflationary environment is not an easy one. This because no matter what the inflation outcome is, yields are not expected to be what they were 40 years ago. The only place to find respectable yields is in emerging market sovereign debt, or high risk plays such as China Evergrande Group, which had a coupon ranging from 8%-12%, but now bondholders face as much as an 80% haircut.

The bottom line is, assuming inflation persists, this is a very difficult and challenging environment to navigate. On the one hand we just don’t know how the market will react, and on the other, bonds are yielding close to zero. Having said all this, I don’t think equities will correct even if inflation persists. If we do see a major correction in equities, it will most likely be because of valuation concerns coupled with another COVID scare than anything else.

Global financial markets plunge amid Evergrande contagion fear

Posted on September 21, 2021September 23, 2021 by Vrasidas Neofytou

Global financial markets have started the week with heavy losses, as investors worry about whether the looming default of the Chinese conglomerate, Evergrande, marks a Lehman Brothers moment for the world’s second largest economy, sending shockwaves across the world.

Who is Evergrande?

Evergrande is the second largest property developer in China, while it is also invested in electric vehicles, sports, theme parks, and food & beverages businesses across the Asia-Pacific region.

However, the group has become China’s most indebted developer, with more than $300 billion worth of liabilities, struggling to repay its retail investors, banks, and bondholders, as well as to complete flats for more than a million homebuyers who paid for their new properties in advance.

How the global financial problem affects Evergrande?

Evergrande’s financial problems have spilled over onto Hong Kong’s stock market, with the company’s share losing more than 80% of its value this year, the broader Hang Seng index has fallen more than 20% in the same period, whilst the local property index fell to its lowest level since 2016.

Contagion has also moved beyond the property sector, with global equities losing more than 3% since last week, while the China-linked Australian and New Zealand dollars have fallen to monthly lows.

Commodity traders are also watching the property crisis closely, as a possible default could burst China’s property bubble and undermine demand for raw materials such as iron ore, copper, and aluminium.