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    Weekly multi-asset update: April

    Weekly multi-asset update: April

    29 April 2022 Multi-asset
    Week to 29 April 2022

    Summary

    • Geopolitical risks remain as energy implications of Russia conflict escalate; Macron wins French election
    • China COVID outbreaks add to growth concerns, Bank of Japan continues on its accommodative monetary stance, US growth surprisingly weak
    • Earnings are broadly ahead of expectations at the halfway point and supportive of equities; tech companies disappoint
    • Next week: Bank of England and Federal Reserve in play, labour markets data and corporate earnings continue

    Weekly review

    Geopolitical risks remain as energy implications of Russia-Ukraine conflict escalate; Macron wins French election

    Although there has been little progress in negotiations between Russian and Ukraine, the repercussions from the conflict escalated as Gazprom announced it would be stopping flows of natural gas to Poland and Bulgaria as they hadn’t agreed to pay for the gas in rubles. European Commission President von der Leyen described this as akin to blackmail. The situation remains unresolved and natural gas prices were up 20% into the open on the day of the announcement. Commodity prices remain supported by geopolitical events but could face downward pressure from weaker growth expectations.

    The French Presidential election results were broadly in line with expectations, with President Macron defeating Marine Le Pen in the second round of the elections by 58.6% to 41.4%. Although this was a comfortable victory for President Macron it was a closer contest than in 2017 (where he won 66.1% of the second-round vote) and marked the first time that the centralist parties won under 50% of the overall vote in the first round. Attention will now turn to the parliamentary elections on the 12 and 19 June. 

    China COVID outbreaks add to growth concerns, Bank of Japan bucks tightening trend, US growth surprisingly weak

    Despite relatively strong industrial profits in China (January-March period up 8.5% year-on-year), markets have become increasingly concerned about further COVID outbreaks leading to renewed lockdown measures and weaker domestic growth. Chinese equities fell, with the CSI300 producing its worst daily return since the pandemic and the offshore Yuan weakening to its lowest level versus the US dollar since 2020.

    The Bank of Japan remained accommodative in its monetary policy by leaving policy rates unchanged and confirmed its support to keep the ten-year yields around the 0.25% level. This is despite increasing their core headline inflation forecasts. The Japanese Yen weakened further.

    US Q1 GDP was surprisingly weak, with the economy contracting by an annualised 1.4%, the first contraction since Q2 2020, largely a result of a surprisingly large trade deficit component, with domestic consumption remaining relatively robust. There are no indications that this will derail the Fed from raising rates by 50bp next week.

    Earnings are broadly ahead of expectations at the halfway point and supportive of equities; tech companies disappoint

    With 179 of the S&P500 reporting this week, the market was keenly focussed on bottom-up assessment of the impact of many top-down concerns such as China, input prices, rising policy rates and a potentially weaker growth outlook. With nearly 70% of the S&P 500 reported, earnings are beating estimates by 7.0% with 78% of companies beating analyst projections. Earnings per share are on pace to hit 10.2%, which should be supportive for equity markets. However, technology companies bucked the overall trend, with Alphabet (3.7% below expectations), Amazon (12.5% below) both surprising to the downside. The reduction in Amazon’s second quarter expectations fuelled concerns about weaker consumer spending ahead. Lastly, the announcement that Elon Musk had agreed a deal to take Twitter private for $44bn also sent Tesla shares sharply lower.

    Despite the overall supportive tone of earnings, equity markets struggled to cope with a smorgasbord of concerns including China’s COVID outbreak and lockdowns, persistent inflation, central bank policy hikes and geopolitical risks. Several equity markets suffered their worst one-day returns since the Invasion of Ukraine by Russia and are likely to face their worst month since March 2020. Relatively conservative positioning in equity markets remains appropriate at this juncture given the known headwinds.

    Next week: Bank of England and Federal Reserve likely to hike rates, labour markets data and corporate earnings continue

    At time of writing the market expects the US Federal Reserve to increase policy rates by 50bp at the 4 May meeting, as well as provide an update as to the views on quantitative tightening, the terminal policy rate and any other insights into a run-off in the balance sheet. The Bank of England (BoE) also meets next week, with policy rates expected to rise 25bp, to 1.0%, the highest policy rate post-GFC. An increase to this level has been a stated requirement for the BoE to be able to reduce their UK government holdings accrued under their asset-purchase programme (QE). An update on how the BoE views the relationship between growth and inflation and its impact upon their view of policy rates could also be interesting given the stark contrast between market consensus and bank forecasts. There are also a number of economic releases over the next week: several focus on the US labour market, with the JOLTS job openings, the ADP report and the non-farm payrolls report. We will also receive an update on employment in the Eurozone. The corporate earnings season is also in full swing, with many results being announced from the commodity (Enel, Shell, BP), travel (Airbnb, Hilton, Expedia) and consumer (Starbucks, eBay, AB InBev) sectors. Other notable releases include Pfizer, DuPont, AMD and Airbus.

    Week to 22 April 2022

    Summary

    • Hawkish central bank dialogue at IMF spring meeting
    • PMI data paints a positive growth story amid tightening financial conditions; renminbi drops on Chinese outflows
    • European earnings boost index returns; Netflix disappoints on idiosyncratic risks
    • Next week: The French election, GDP, and CPI data in focus as corporate earnings hits full flow

    Weekly review

    Hawkish central bank dialogue at IMF spring meeting

    There was plenty of central bank dialogue for investors to digest this week as the IMF spring meeting took place. From the Federal Open Market Committee (FOMC), President Bullard cited an unsustainably hot labour market as a green light for an aggressive approach to calming inflation. The implications of his talk of front-loading rate hikes brought market expectations forward, with +50bp hikes priced in for the next three meetings and marginally under 2.5% before year end. European Central Bank President Lagarde maintained that the European economy is in a different position to the US, stating that while inflationary pressures remain extreme a more cautious approach is needed for the avoidance of a serious growth slowdown or recession. Having said that, she did not rule out a +25bp hike in June with markets pricing in a further +50bp by December.

    Following the hawkish central bank rhetoric, the equity reaction in both the US and Europe was negative. The S&P 500 saw a broad-based weakening on Thursday with every sector declining while the STOXX 600 opened a percent lower on Friday morning. The 10-year Treasury yield rose above 2.9%, its highest level since late 2018, before easing a little. Two-year Treasury yields also rose to above 2.7%, meaning the yield gap with 10-year Treasuries now sits around just 15bp.

    PMI data paints positive growth story amid tightening financial conditions; renminbi drops on Chinese outflows

    Markets are grappling with a growth backdrop that remains positive, evidenced by recent purchasing manager index (PMI) data, but which comes alongside a sharp tightening in financial conditions. In France, the preliminary composite, manufacturing, and services PMIs for April all beat expectations and increased month on month. The composite index came in at 57.5, its highest level since 2018. In Germany, the activity data remains firmly in expansionary territory with the services PMI coming in at 57.9 (vs 55.3 expected). The data implies we are yet to see any impact from the war in Ukraine and the economy is staying resilient. In the US, the data was mixed as manufacturing saw a beat of 59.7 vs 58 expected, however services missed to the downside. Regardless, the composite PMI remains in expansionary levels.

    We view a continued strong growth environment as positive for equities, but we are cognisant that tightening financial conditions caused by inflationary pressures pose downside risks.

    By contrast, the continued lockdowns in parts of China have increasingly pushed the government’s 5.5% growth target out of reach, with recent forecasts closer to 4%. Adding to this, a jump in the unemployment rate saw it reach its highest level since May 2020. The People’s Bank of China (PBOC) cut its Reserve Requirement Rate by 25bp last Friday in response to this; however, record outflows mean the renminbi is on track for its worst weekly performance against the dollar since 2015.

    European earnings boost index returns as Netflix disappoints on idiosyncratic risks

    We are now in the midst of earnings reporting in the US and Europe, with both regions expecting mid-single digit earnings growth. Netflix fell -35% after announcing a fall in subscribers and disappointing guidance for growth going forward. This was a huge move which leaves the stock now -70% from its November peak. That said, we view this as an idiosyncratic story, reflecting both increased competition in the sector and a transition away from 'COVID winners'. Hence the lead across to broader macro themes is limited.

    More broadly it has been an encouraging start to earnings season with management commentary highlighting the strength of demand and an ability to pass on price increases. This provides bottom-up confirmation of the strong PMI numbers released this week. This was most pronounced in Europe where positive earnings reports from ASML, Danone and some bank names boosted overall index price returns. In the US, if we exclude Netflix, the price reaction has been very balanced, with both beats and misses moving +1% and -1% respectively. While it is still early in the reporting season, this trend indicates to us light positioning and supports our modest allocation to equities.

    Next week: The French election, GDP, and CPI data in focus as corporate earnings hits full flow

    There is plenty coming up for investors to focus their attention on, beginning on Sunday with the French presidential election. Current polls predict a win for current president Emmanuel Macron against right-wing rival Marine Le Pen. Central bank news flow will be relatively quieter following this week’s flurry of speakers. The Fed will begin its blackout period on Saturday ahead of its 4 May meeting; however, the Bank of Japan will meet on Thursday and the recent weakness of the yen may play a role in any policy decisions. By contrast, data releases will pick up next week with Q1 GDP figures for the US and a number of European countries as well as CPI figures for the EU. Finally, earnings season will get into full flow with releases from large companies in key sectors, such as consumer (Coca-Cola, Kraft-Heinz, Mondelez), banks (Barclays, Credit Suisse, HSBC), and big tech (Alphabet, Amazon, Apple, Meta, Microsoft).

    Week to 15 April 2022

    Summary

    • Majority of central banks continue to tighten policy in the face of higher inflation, China expected to ease
    • US inflation in-line, geopolitical risks remain, Macron front runner in French Presidential race
    • US earnings season begins; focus is on management guidance and share price reaction
    • Next week: Inflation and growth expectation data released as corporate earnings season ramps up

    Weekly review

    Majority of central banks continue to tighten policy in the face of higher inflation, China expected to ease

    The European Central Bank (ECB) took a more dovish tone than some of its peers and kept policy rates on hold at its meeting on Thursday.  The ECB did, however, state that it would accelerate the reduction in its asset purchase programme which is now expected to finish in Q3 and that rate hikes will be “some time” after the end of net bond purchases.  The tone of the following press conference was one of flexibility, with President Lagarde noting that upside risks to inflation had “intensified, especially in the near term”. A rate hike in Q4 is fully priced in by the market.

    The Bank of Canada (BoC) and the Bank of Korea (BoK) both raised policy rates this week. In the case of the BoC it hiked rates by 50bp to 1.0% and confirmed rates would need to rise further as there is a growing risk of inflation expectations becoming entrenched. The BoK also raised policy rates by 25bps to 1.5%, despite not having a governor and facing increasing growth headwinds. Acting chairman Joo Sang-yong referenced the war in Ukraine as a key driver with inflation set to last longer than previously expected.

    In contrast, the People’s Bank of China was widely expected to cut rates at its meeting on Friday. The recent weakness in data from China following the reintroduction of lockdowns in some provinces should concern policy makers, with economists predicting a cut to the Money Lending Facility on Friday followed by further cuts to the Reserve Requirement Ratio next week. Furthermore, there are anticipations of a liquidity injection following the governments promise of fiscal and monetary stimulus to help achieve the 5.5% growth target. The fruition of this will likely be a boost in risk sentiment as markets have been waiting for tangible action from policy makers.

    US inflation in-line, geopolitical risks remain, Macron front runner in French Presidential race

    US inflation hit its highest level since 1981, with the YoY CPI print for March at 8.5%. US Treasuries rallied for the first time on the back of the release as it was broadly in line with expectations and the accompanying core inflation print missed to the downside (+0.3% MoM versus +0.5% MoM expected). Unsurprisingly, given recent moves in oil prices, gasoline prices were the largest contributor to inflation. Despite this potential peak in CPI, the Fed remained hawkish with Governor Brainard expressing a preference to get to a neutral policy rate by the end of the year. The pace of central bank tightening remains a key factor for markets, with growth continuing to moderate. 

    The Russia-Ukraine conflict continues with no near-term resolution in sight. Indeed, the Pentagon is monitoring claims that Russia has used a chemical agent in Mauripol, which would mark an escalation in the conflict. EU foreign ministers met in Luxembourg and discussed the implementation of sanctions on Russia’s energy sector, although no formal decisions were made. Finland has started the process to obtain NATO membership, with Sweden apparently also considering membership.

    The first round of the French Presidential election was completed, with Marine Le Pen and President Macron through to face each other in the second round on the 24th April, a repeat of the run-off in 2017. A Macron victory remains the most likely outcome, with current polls suggesting a 5-10 percentage point lead in the polls. Markets will monitor the defeated candidates for endorsements for either candidate with Macron more likely to benefit given his relative centralist positioning. 

    US earnings season begins; focus is on management guidance and share price reaction

    US earnings kicked off this week with J.P. Morgan the first major bank to report on Wednesday. Expectations are for earnings per share (EPS) growth of +6% year on year, which is a big deceleration from the third quarter of last year when earnings came in at +30%. It is notable this quarter that expectations for sales growth (+11%) are higher than EPS, which indicates a contraction in margins - this is unsurprising given the strength of labour market, supply chain issues and input cost increases. However, this masks some large divergences at a sector level which can somewhat skew the overall index EPS number. For example, excluding energy reduces the expected growth rate to +1% while excluding financials increases it to +15%. As ever, our focus will be on management guidance and share price reaction which provide a useful bottom-up assessment of the impact of rising inflation and policy rates upon underlying corporate earnings and profitability.

    Next week: Inflation and growth expectation data released as corporate earnings season ramps up

    The market will be watching updates on both the growth and inflationary environment. Preliminary Purchasing Manager Indices (PMI) will be released in US, Europe, UK and Japan which will provide an update on growth expectations in the wake of geopolitical events and continued inflationary pressures. This is expected to show how pricing pressures are flowing through the supply chain, plus investors will scrutinise bottom-up data from company earnings releases and guidance as well as country with data in the form of purchasing indices (PPI) from Europe on Wednesday (this measure was up 25.9% YoY in February).  The heads of the major central banks will be speaking at the spring meetings of the IMF and World Bank. The IMF will also release its April 2022 World Economic Outlook. Earnings releases will start in earnest, including Netflix, American Express, Tesla, IBM, SAP and Johnson & Johnson as well as a range of energy and mining companies.

    Week to 8 April 2022

    Summary

    • Fed minutes infer a 0.5% interest rate hike is likely in the May meeting.
    • Russia moves focus away from Kyiv laying bare war crimes; US and Europe apply fresh sanctions
    • We remain in a moderating growth environment, with the interaction of growth and inflation pivotal in the months ahead
    • Next week: US inflation, ECB policy decision and the start of the US earnings season

    Weekly review

    Fed minutes infer a 0.5% interest rate hike is likely in the May meeting

    The release of minutes from last week’s Federal Reserve (Fed) meetings, where it was implied that were it not for the Russian invasion of Ukraine, the bank would have hiked interest rates by 0.5%, double that of the usual rise. The market adjusted its expectation for monetary tightening accordingly with the probability of a 0.5% hike in the May meeting at 87%. The other notable takeaway was the suggestion that quantitative tightening will start in May, which echoes what has been recently heard from Fed speakers.

    Russia moves focus away from Kyiv laying bare war crimes; US and Europe apply fresh sanctions

    With Russia moving their focus away from Kyiv and towards the east of the country, the war crimes committed have been evident for all to see and as a result, sanctions have been strengthened. In the US, the Senate voted 100-0 to discontinue normal trade relations with Russia and Belarus and to ban Russian oil imports, whilst the European Union also moved to include an embargo on Russian coal in its fifth round of sanctions. The price of oil remains extended although has dipped from the recent high reached at the end of March. Commodities remain one of the most natural hedges to the macro risks evident this year. Their cyclical appeal may have waned, but they remain attractive as a hedge to inflation and geopolitical risks. We had raised exposure before the most recent escalation and retain exposures towards the top end of our historic ranges.

    In terms of modelling the broader economic impact of the conflict, this is complex and depends heavily on how the war unfolds. We believe the main economic transmission route is via a key set of raw materials, which may have obvious knock-on implications for inflation (up) and growth (down). Higher inflationary pressures will give central banks such as the Fed added impetus to keep inflation expectations well-anchored which means most central banks will keep with (or accelerate) their plans for monetary policy normalisation. Only where the effects of the crisis are most evident might we expect policy tightening to pause.

    There will of course be areas (beyond Russia and Ukraine) where the economic consequences of the war have a larger effect. Higher commodity prices are part of the story but additional costs, for example as commercial air travel and freight are being re-routed to avoid Russian air space, increase the costs of business.  Similarly, many Western businesses have exited Russia and some industries reliant on other inputs from the region (e.g. German car manufacturers) will be affected by supply shortages. But overall, we believe the direct economic consequences, even of an extended military confrontation, appear manageable.

    We remain in a moderating growth environment, with the interaction of growth and inflation pivotal

    As a reminder, our asset allocation framework is based on understanding how changes in financial conditions, growth and inflation are likely to impact asset class behaviours. From a growth perspective, recent developments reinforce our conviction that we remain in a moderating regime for global growth. This week’s final PMIs reinforced that view, with the euro area composite printed at 54.9, the UK at 60.9 and the US at 57.7; all above the critical 50 marker which divides economic expansion from economic contraction.

    Next week: US inflation, ECB policy decision and the start of the US earnings season

    Next week the US inflation prints will be the last ones ahead of the Federal Reserve meeting early next month. With expectations of a 0.5% hike high, it is unlikely that the inflation numbers will differ from the consensus significantly enough to change that, however they may help to shape the market’s expectation for subsequent policy meetings. The ECB will deliver their latest monetary policy decision next week where the expectation is for no change to interest rates. Away from central banks, the data schedule is fairly limited next week, however to help fill that void, the US earnings season will kick off in earnest.

    Week to 1 April 2022

    Summary

    • Sovereign curves end quarter higher as US 2s10s inverts, Eurozone inflation reaches 7.5%, and Yen weakens on Bank of Japan intervention
    • Commodities start to fall after recent highs, oil and gas diverge as the USA begins a release of Strategic Petroleum Reserves
    • Covid spike forces Chinese lockdowns; Russia and Ukraine continue negotiations
    • Next week: Central bank meeting minutes, PMI data, and continued peace talks

    Weekly review

    Sovereign curves end quarter higher as US 2s10s inverts, Eurozone inflation reaches 7.5%, and Yen weakens on Bank of Japan intervention

    Sovereign curves continued their flattening this week as the US 2s10s curve briefly inverted on Wednesday before closing at -0.06bps on Thursday. Although yesterday brought a relief rally for some of the more overdone positions, 10y Treasuries and Bunds still remain  up 83bps and 73bps year to date. With US inflation running at its highest pace in 40 years, markets are now pricing in over eight 25bp rate hikes in the US before year-end, implying at least two 50bp hikes. Friday’s jobs report has strengthened the Fed’s case to do so. Nonfarm payrolls came in at +431k, slightly below expectations of +490k, however the prior figure of +678k was revised up to +750k. The result is unemployment now sits at 3.6%, only marginally above pre-pandemic levels.

    The European Central Bank (ECB) is also considering tackling inflation by restoring policy rates to neutral before the end of the year (currently -0.5%). Chief economist Philip Lane stated: “There are scenarios where it would be appropriate to start to normalize interest rates later this year. And then, of course, there are scenarios where it could be appropriate to move at a later point.” Flash CPI estimates for March saw prices rise by 7.5% year on year, driven by higher energy and food prices. The energy supply squeeze, a second order effect of the Russia-Ukraine crisis, means consumer prices in Europe have now risen at the fastest pace on record.

    In a move that emphasises the widening disparity in the monetary policy stance taken by the BoJ compared with that of most other major central banks, the Japanese central bank purchased government bonds during the week. There has been recent speculation that the BoJ was happy to allow yields to drift upwards, with a relaxation of the allowable upper band set at 0.25%. However, as the yield rose above 0.25%, the BoJ intervened. This action has further weakened the yen, which climbed above 124.5 against the US dollar early in the week, down from approximately 115 at the beginning of the month. Additionally, longer-dated Japanese government bond (JGB) yields have continued to rise, leading to a steeper yield curve. The yield on 30-year JGBs rose to 1.1%, the highest level for six years.

    Commodities start to fall after recent highs; oil and gas diverge as the USA begins Strategic Petroleum Reserve release

    Having started 2022 with a relentless rise that was accelerated by Russia’s invasion of Ukraine, commodities softened this week. The Bloomberg Commodity Index is down over 4% on the week, mainly driven by a pullback in oil prices. Brent Crude (-14.3%) and WTI (-13.3%) have both fallen considerably on the week (at time of writing), following the news the US would release 1m barrels per day for the next six months. This is the largest Strategic Petroleum Reserve release on record and highlights the government’s intent to fight energy prices. Conversely, European natural gas prices moved higher following president Putin’s demands that exported Russian gas be paid in rubles. This sparked fears of a possible halt in gas flows and led to a spike of +42% at the highs, now +16% at time of writing. 

    Covid spike forces Chinese lockdowns; Russia and Ukraine continue negotiations

    Following a spike in Covid-19 cases, China has reintroduced lockdowns in Shanghai and Shenzhen, further adding to the growth headwinds it is facing in 2022. Some PMI data has come in below 50, as activity tightened in March. This data is likely to worsen further in April as the economy feels the full effect of lockdowns. Additionally, the important role that China plays in the global supply chain means the widespread impact on financial conditions should be closely monitored.

    On the Russia-Ukraine conflict, in-person peace negotiations took place in Istanbul during the week. Although positive headlines of Russian troop withdrawal from Kyiv boosted risk-on sentiment in markets, there is growing scepticism over Russia’s true intentions. The next step in the process is the agreement of a lasting ceasefire with Italy’s prime minister, Mario Draghi, stating: “We all want to see a ray of light … There is a desire to move forward soon, but it is also too soon to overcome scepticism.”

    Next week: Central bank meeting minutes, PMI data, and continued peace talks

    Next week is lighter on the data front, however there is still plenty for investors to focus on. Most notably there will be the release of the FOMC and ECB minutes from last month’s meeting, which will hopefully provide further clarity on rate hike expectations as well as plans for quantitative tightening. There will be the release of final March PMI data in the US as well as Caixin PMI data in China. Peace negotiations, which have resumed online today, will be in the spotlight as de-escalation remains a significant target for Ukraine and the West. Finally, commodity price action, in particular oil and gas, will continue to play a key role in market sentiment.

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