Summary
Global equity markets rallied across the board last week, gaining momentum into better-than-expected employment data in the U.S. for May and more monetary stimulus from the European Central Bank. The rally is broadening beyond tech, healthcare and “stay at home” stocks.
Credit markets took their cues from the equity markets, rallying again for the third week running as spreads scream tighter. The biggest improvement last week came in the beleaguered CCC high yield segment, as the combination of higher oil prices and an economy opening faster than expected reduces investor concern regarding defaults.
Safe have assets sold off last week, including US Treasuries, gold and the US Dollar.
Oil rose again, as WTI approaches $40/barrel. WTI oil was around $10/ barrel on April 21st.
Economic data was generally better than expected last week, especially in the U.S. and Eurozone.
The U.S. presidential season officially kicks off with Joe Biden formally securing the nomination of the Democratic party. The spin doctors are already at work for both Republicans and Democrats as we leave the starting blocks.
COVID-19 new cases and deaths are stabilising, but importantly, we see no evidence yet of second waves in larger developed economies.
Global Equity Markets
Last week was an exceptional week for equity investors across the board, although this is becoming a bit too commonplace for my taste. Weekly returns for the global indices I track ranged from 4.5% (Nikkei 225) to 7.1% (STOXX Eur 600). Even harder to believe is that both the S&P 500 and the Nikkei 225 are down only 1.1% and 3.4%, respectively, from the levels at which they ended 2019.
As I have discussed in recent articles, new stimulus measures in Japan (fiscal) and the Eurozone (monetary, fiscal being discussed) have propelled stocks upwards in both regions, as these markets play catch-up with the U.S. equity markets. Although the gap between the “recovery returns” (meaning since the lows on March 23rd) for the S&P 500 and both European indices is closing ever so slowly, the S&P 500 index was still up 4.9% last week. In fact, with the exception of Thursday, returns every day were in the green for the S&P 500. To add fuel to the fire of euphoria, the week ended with a bang - the DJIA and the S&P 500 were up 829 points (+3.2%) and 81.6 points (+2.6%), respectively, on Friday, following the release of U.S. unemployment data, which beat consensus expectations by miles. The rally has broadened beyond the tech, healthcare and “stay at home” names into the cyclicals (especially airlines) and small-cap names, as can be seen by the recent relative performance of the more diversified DJIA (albeit including Apple and Microsoft) and the broader Russell 2000, versus the tech-heavy NASDAQ. As the table below illustrates, the NASDAQ led the U.S. indices through mid-May, but since then, the Russell 2000 and the DJIA have both outperformed the NASDAQ which has suddenly become the laggard.
Credit Markets
The story in the credit markets was not materially different that the equity markets, as spreads compressed further last week reflecting the “risk on” sentiment driving equities.
As the graph to the left shows, spreads came in quickly off their March 23rd highs, but then more or less “flat-lined” from mid-April to mid-May. However, since mid-May, BBB (investment grade) corporate spreads have tightened 64bps, U.S. corporate high yield has tightened 195bps, and European high yield has tightened 152bps. The most significant compression last week occurred in the most risky high yield category of CCC, with spreads decreasing 276bps on the week from 16.47% on May 29th to 13.71% on June 5th. This vastly improved sentiment in the secondary corporate bond market is also fuelling record issuance in the primary bond market. Last week, Amazon raised $10 billion in a multi-tranche issue with maturities ranging from three years to 40 years. The $1 billion three-year tranche had a coupon of 0.40%, the lowest corporate USD coupon ever, illustrating the insatiable investor demand for corporate credit. Of course, do not forget that the Federal Reserve is a buyer, or at least could be a buyer, and that’s good enough to create an extremely favourable backdrop for new primary issues by corporates.
Safe Haven Assets and Oil
With the exception of the Yen, risk-off assets faltered last week with the relatively better-than-expected employment data on Friday spurring a migration into riskier assets. Gold closed below $1,700 on Friday for the first time since May 11th. The US Treasury (“UST”) curve continued to steepen, reflecting the sell-off in longer maturity USTs. The graph below to the right shows the migration of yields year-to-date for two- and 10-year USTs.
The 10-year UST sold off heavily at the end of last week, as the difference in the 2-10 spread increased from 49bps on May 29th to 69bps at the end of last week. This resulted in a fairly substantial yield curve steepening. The USD also continues to weaken, falling 1.4% last week against a basket of currencies to close at 96.94. The one bright spot as far as safe haven assets was the Yen, which strengthened to ¥109.6 to the dollar (+1.9% w-o-w), probably reflecting dollar weakness as much as Yen strength.
WTI oil prices jumped another 10.3% last week, to close at $38.97/barrel. It’s hard to believe that it was only April 21stwhen the price of WTI oil was $10.01/barrel.
Economic Data & News
There were three eventful things that occurred last week that are worth mentioning.
Firstly, the much anticipated European Central Bank (“ECB”) rate decision was announced on Thursday, followed by a press conference featuring ECB President Christine Lagarde. As expected, the ECB held its overnight bank deposit rate at -0.50% but increased its asset purchase (QE) programme by €600 billion (to €1.35 billion) and extended the period of purchases. However, the ECB stopped short of following the Federal Reserve’s lead into purchasing corporate high yield bonds. Nonetheless, this news provided a further boost to an already recovering European stock market, which has been lagging the U.S. equity markets. Ms. Lagarde was also clear in her press comments that she expects the European Union to provide support to the ECB by designing and agreeing on a fiscal stimulus plan in due course. The ECB press release is here. Many E.U. countries are enacting their own stimulus plans, with the latest being Germany. The coalition government there agreed a €130 billion fiscal stimulus package late last week. Other economic data released last week (manufacturing and employment data) for the Eurozone was better than expectated.
On Friday , US unemployment and payrolls for May were released, and the data was significantly better than consensus expectations, reflecting benefits of an economy that is gradually reopening. Unemployment for April was 13.3%, substantially better than consensus expectations of 19.5%. Nonfarm payrolls increased by 2.5 million in May, whilst consensus expectations were for nonfarm payrolls to decrease by 8 million. Clearly, workers are starting to be rehired by businesses that have been shuttered. These misses show that it’s a tough time to be an economist! The growth in first time filers for unemployment on Thursday of an additional 1.9 million U.S. workers for the week was expected but in any event was largely overshadowed by the better-than-expected employment data for May that was released the following day. Needless to say, this positive employment report vis-à-vis expectations provided an incredible boost to the equity markets. You can find the press release for the May employment report from the U.S. Bureau of Labor Statistics here.
In the United Kingdom, the country continues to head towards what might essentially be a “hard BREXIT” at the end of the year, as the U.K. and E.U. are reportedly far away on some critical issues that will need to be part of a trade agreement. There will be a summit before the end of June between PM Boris Johnson and European Commission President Ursula von der Leyen to discuss these issues and try to agree a working framework. The U.K. has until the end of June to ask that the negotiations be extended beyond year-end, but Boris Johnson has ruled out an extension. The BBC has a good summary of the situation which you can find here. To add to the uncertainty, the economic news is very mixed in the U.K. as the country is one of the last to slowly reopen for business because of the pandemic. Nonetheless, both the FTSE 100 and the Pound are rallying, somewhat surprising in light of the predicament in which the U.K. currently finds itself.
Politics
Joe Biden officially secured the Democratic Presidential nomination last week, formalising what has largely been known for weeks anyhow. Campaigning has been ratcheting up anyhow, with #POTUS providing plenty of ammunition for the Democrats, including the Administration’s variable handling of the George Floyd murder case and the dismal pandemic-related economy (albeit the latter no fault of Mr. Trump’s). The “victory lap” that President Trump took at his press conference on Friday after the May employment data release was odd, at least to me. Although the employment data was much better than expected, Mr. Trump resides over an economy with the highest unemployment rate since at least 1948, which is as far back as the data goes that I can find. I hardly find this celebratory given the dismal shape of the economy and the number of people out of work, but it has to be put in the context of “campaigning season” when media spin by both parties will become the modus operandi.
COVID-19
The COVID-19 pandemic rages on, but the fact is that for countries and states that addressed this pandemic relatively early, things are slowly reopening. As can be seen in the economic data released last week, this is providing a real boost to these economies. Going forward, the Johns Hopkins map of COVID-19 will not be included in this update because you can access this at the link here. However, I will continue to track the number of cases and deaths each week to see how the pandemic is progressing, noting the caveat that the trends are only as good as the data provided by countries.
This crisis is now very localised, meaning that some countries are experiencing further growth in cases and deaths, other countries are starting to experience second waves, and other countries are continuing to see new cases and deaths decline even as they reopen their economies.
Conclusion
The world seems to be moving forward from an economic perspective much faster than many – including me – expected. It is welcoming news of course, but we must remember that we are still in the midst of the worst global recession since the Great Depression in the 1930s. What is going on in the real economy as far as people being out of jobs, especially those with limited means, is completely disconnected from the financial markets, which are increasingly “pricing in” better days ahead. I wrote an article this past week on the factors in favour of the equity market recovery, which has been much faster than nearly anyone expected. I am working on an article this week on the contrary argument, the “bear case” scenario.
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