Week Ended June 19th and the Week Ahead
Updated: Nov 2, 2020
Global equity indices and U.S. credit markets were better last week, improving on the losses from the week before and making it four out of five positive weeks. The European markets outperformed the U.S. and Japanese equity markets.
Gold and the U.S. Dollar were higher on the week, U.S. Treasuries were flat, and Yen fell slightly.
Oil was higher last week, breaching $40/barrel intraday on Friday.
The Federal Reserve officially began buying corporate bonds last week, following up on its purchases of high yield ETFs and providing further fuel to the corporate bond market.
The Bank of England added another £100 billion to its QE programme, bringing it to a total of £300 billion in an attempt to soften the economic effects of CV19 on the U.K. economy.
Both the U.K. and E.U. seemed to suggest that a trade agreement might be doable by year end, and the discussion regarding a unified fiscal stimulus plan in Europe is picking up steam. Both cheered investors.
Growth of new cases of CV19 are mixed, but the general trend is better in Europe and mixed-to-worse in the U.S. depending on the state. Brazil has now become the second country to have more than 1 million cases of CV19, joining the U.S. (with 2.2 million cases).
Global Equity Markets
Last week was another interesting journey for global equity markets as the on-going tug-of-war between the equity bulls and bears continued, even though it increasingly appears that the bulls are tightening their grip just enough to keep things moving in the right direction. The resiliency of the equity markets is amazing. When I first looked at equity futures last Monday morning (London), S&P 500 futures were deep in the red, down 108 points (2933.6, 3.5%) from the index’s close in New York the Friday before. The combination of it being a Monday and the increase in volatility during the latter half of the prior week convinced me, at least temporarily, that the bears might be getting the upper hand. However, the bulls started to chip away at these losses, first pre-New York open in the futures market and then throughout Monday’s U.S. trading session, not only reversing the significant losses in futures but also creating enough momentum to push the index up 25 points, to 3,066.6, by the New York close that afternoon. This level of volatility can be nerve-racking, but I suppose it is tolerable for bulls when the market holds its ground like it did that day. This reversal in sentiment certainly set the stage for the rest of the week, which ended positively for all of the global indices I track. The European indices, with arguably more room to move to the upside, fared the best as you can see in the table below.
The VIX closed at 32.9 for the week, better than the highly volatile end of the prior week but still stubbornly high given that the volatility index had been below 30 for several weeks prior to the harsh sell-off in global equities on June 11th. This might signal more choppiness in the weeks ahead.
Although the new issue market for equities is booming, I suppose you could also say that some sanity returned to the primary market last week in that bankrupt company Hertz pulled its secondary equity offering after the SEC raised further concerns with the disclosure documents. This decision followed within hours of an interview on CNBC with Harvey Pitt, the former chairman of the SEC, which you can listen to here.
Credit spreads tightened most of the week in line with a slightly better tone in the equity markets, helped by the fact that the Federal Reserve announced early in the week that it had begun to intervene in the secondary market. Fuelled by a combination of “risk-on” sentiment and Fed intervention, BBB corporate spreads had returned by Thursday to where they were 10 days ago, near their post-CV19 lows. High yield bonds also rallied across the board last week, including the BB, B and CCC rated indices. High yield spreads (U.S.) were around 25bps-27bps tighter on the week but remain around 50bps or so wider than the post-CV19 lows achieved in early June. It is the combination of the VIX above 30 and high yield spreads remaining well off their post CV19 lows that causes me some discomfort for the weeks ahead, but let’s see.
Let me come quickly back to the intervention by the Federal Reserve in the corporate bond market, as this might interest you. On Monday, the Fed said that it would start the programme announced in late March to purchase “eligible” individual corporate bonds in the secondary market via a $250 billion facility. “Eligible” corporate bonds include:
Investment grade rated bonds of U.S. corporate issuers, and
High yield bonds of certain non-investment grade rated U.S. issuers that were investment grade until mid-March, commonly referred to as “fallen angels”.
The opening of this facility follows the Federal Reserve’s purchases of high yield ETFs that began on May 12th, which totalled $5.5 billion as of early last week. In addition, the Fed has a US$500 billion primary market purchase facility that has not been used. As I wrote on LinkedIn last week, I am not sure why the Federal Reserve needed to follow-through on its individual bond purchases in the secondary market (or for that matter on any of the corporate bond facilities it announced in March), because the primary bond market is wide open to corporate issuers across the credit spectrum. Maybe this is “forward looking” and indirectly a way for the Fed to help banks by lessening the pain from the inevitable wave of corporate defaults which lay ahead.
Safe Haven Assets & Oil
Safe haven assets were mixed last week, with gold strengthening on the week to close at $1,742.20/oz (+0.7%). The U.S. Dollar was also slightly stronger, reversing the trend since mid-May of the dollar weakening. The 10-year U.S. Treasury yield was flat, and Yen was slightly weaker. In essence, safe haven assets are more or less holding their ground, too, even as the equity and credit markets equally demonstrate their resiliency, perhaps a sign of Fed intervention lifting all asset prices.
Having weakened towards the end of the prior week, oil resumed its march upwards last week with WTI exceeding $40/barrel intraday on Friday, a level not breached since June 8th. WTI settled on the week at $39.56/barrel, up 9.1% for the week and nearing a gain of 100% for the second quarter.
As expected, the Bank of England added another £100 billion to its quantitative easing programme last week, bringing the programme to a total of £300 billion. The objective of increasing the programme is to provide additional stimulus to the quickly-unravelling U.K. economy, probably one of the weakest of the G7 countries. The U.K. is facing the double whammy of CV19 and trying to cut a trade deal with the E.U. The increase in QE cheered the markets, and this was further helped by both the U.K. and the E.U. softening their stances regarding a trade agreement, causing skittish investors to sense that an agreement might be feasible before year end. Still, it is increasingly clear that the U.K. economy will remain fragile until such an agreement is reached and, of course, is implemented. Inflation data released last week in the U.K. was week, but retail sales data released Friday was better than expected. However, it must be kept in mind that - as with similar data in the U.S. – economies are coming off of lows which reflected a largely shuttered economy in the prior period.
In the U.S., retail sales also surprised on the upside with the “health warning” I mentioned above (regarding historical low levels for the month before). Unemployment data released on Thursday showed that another 1.5 million workers filed for unemployment for the first time for the week ended June 13th, a continuation of horrific figures and worse than consensus expectations. Federal Reserve chairman Powell spoke in different forums this past week, and he stuck to his views that central bank will remain accommodative indefinitely as the U.S. economy has a rocky road ahead.
In Europe, a potential centralised stimulus plan continues to be discussed although, if things follow the normal course in Europe, we remain a ways off from a plan that will be approved by all 27 member states. Nonetheless, the fact that discussions are occurring at all on a unified fiscal approach in Europe is cheering the European bourses.
In Japan, the import and export data released last week were much weaker than expected.
There is a load of data coming out in the U.S. this week, including some home sales data and preliminary June PMI for manufacturing and services, which will be a focal point when released on Tuesday. The U.K., E.U. and Japan will also release preliminary PMI data for June, so we will get a good indication of how the largest global economies are performing as they gradually reopen.
Most of the news this past week about CV19 seemed centred on the U.S., with states that reopened sooner than others showing a resumption in growth in new cases, including Texas, California, Arizona and Florida. News on Friday that Apple had closed all of its stores in Arizona - as well as some in Florida, North Carolina and South Carolina - surprised markets, exposing again the fact that the U.S. patchwork approach to CV19 is inconsistent across states. As with the European countries that took drastic steps to address CV19 in its early stages, the northeastern U.S. states of New York, New Jersey and Connecticut – the worst affected initially and the most cautious in their reopenings – have fared the best in terms of flattening the curve. Also last week, slow-to-act Brazil has now become the second country on the planet to record more than 1 million cases of CV19, still trailing the U.S. with 2.2 million cases. Mortality globally is about flat from an absolute perspective, meaning that the mortality rate is trending down, perhaps some good news regarding the pandemic.
In the U.K., many retail stores reopened on Monday as activity slowly ramps back up. London continues to have very few new cases of CV19, significantly less than the rest of the U.K. at this point reflecting the city’s severe steps taken over many weeks now to flatten the curve. There are on-going discussions of the U.K. relaxing its 14-day quarantine rule for people coming into the U.K. (set for review June 29th), and perhaps even relaxing the 2m social distancing requirement (to 1m) in the coming weeks. Hairdressers, restaurants, pubs, gyms, spas and similar establishments are likely to begin to reopen with restrictions on July 4th.
Below is the weekly chart of CV19, updated as of June 20th using data from Johns Hopkins University.
I would view last week as slightly mixed although the direction was generally in the right direction. I would like to be more positive but have some concerns that we might be reaching the ceiling on equities and am also concerned with the elevated level of the VIX index and the stubbornness of many risk-off assets which are firmly holding their ground. The preliminary manufacturing and services PMI data coming out for June in many countries will be important this coming week. The data will be trending in the right direction without doubt, but it has to be considered in the context of expectations. CV19 is far from fading into the background, and it would be comforting to see a more consistently positive direction in the U.S. to avoid a negative surprise in the coming weeks.
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