This was certainly another eventful week as markets were all over the place, at least from mid-week on. Aside from ongoing volatility in the equity markets involving rotation into and out of recovery / reflation plays (at the expense of technology names), most of the action was in two areas: US Treasury yields (higher) and oil prices (lower). Volatility looked to have settled down and stability ensued during the first half of the week, in the run-up to the Fed’s release of its mid-week policy statement (no change) and Chairman Powell’s post-release interview (nothing new). Both were more of the same – the Fed emphasised that it would remain accommodative until the US economy had more or less recovered to pre-COVID levels of unemployment. However, in the after-hours post market close, the reality of the Fed’s incredibly dovish approach on top of the Biden stimulus plan seemed to reawaken inflation fears, and US Treasuries got completely trashed well before Thursday’s NY open. Strong US economic growth will naturally push yields higher, but this cuts both ways. Higher UST yields seem to be expressed in the US equity markets in unrelenting pressure on technology shares, a recurring theme over the last several weeks. As a result of the gap up in the 10-year UST yield post-Fed announcement, tech shares got massacred on Thursday. Personally, I find this too indiscriminate - there are plenty of tech names that will benefit tremendously from a recovering US economy, and this should at least partially if not more than fully offset a higher discount rate. Regardless of what I think though, the reality is that when investors turn their backs on high volatility sectors like tech and emerging markets, down they go, hard and fast.
What happened last week Equity indices tilted towards recovery/reflation plays at the expense of higher volatility indices like the NASDAQ and emerging markets on Thursday, with a modest recovery on Friday. Bucking the trend of the past several weeks, small & mid-cap names performed poorly as the Russell 2000 – the best performer YtD – was the worst performer for the week.
Global government bond yields backed up, as both the Fed (see Implementation Note here) and Bank of England (see summary here) left their unconventional monetary stimulus plans in place, recorded in policy releases on Weds (Fed) and Thurs (BofE).
Both central banks more or less promised that they would stay extremely accommodative until their respective economies are nearly back to pre-COVID levels. Perhaps it should not be surprising that the Fed’s on-going super-dovish approach, coupled with the new $1.9 trillion fiscal stimulus plan in the US, stoked inflationary fears. Of course, how central banks around the world navigate away from these accommodative policies down the road without tipping their economies into recession will be interesting to see. This is a matter for 2023 at the earliest it seems. The Fed's meeting was interesting for another reason though, in that the Fed provided GDP and unemployment forecasts for the year for the first time, with GDP projected to increase 6.5% in 2021 and unemployment expected to decrease to 4.5% by year end.
Gold “rallied” – if we can call it that – and the shine certainly came off of oil after many weeks of price appreciation. WTI crude closed at $61.49/bbl, down 6.2% W-o-W. Still, the price/bbl of WTI oil is 25% higher than three months ago and 50% higher than six months ago, so its run has been anything short of spectacular. Gold eked out a modest 1% gain for the week, closing at $1,742.59/oz. Perhaps gold has found its floor at last because the precious metal has surprisingly floundered for many months until this past week, even as inflation has been increasingly visible. With UST yields rising, the US Dollar continued to strengthen, although more modestly than I would have expected given the sharp rise in UST yields.
As far as the US economy, the news was somewhat mixed. First time jobless claims were slightly higher than expected, and US retail sales and housing starts were lower than expected, all illustrating the uneven recovery the US is still experiencing at this point. NKE’s weaker-than-expected results for its 3rd quarter (ended Feb 28th 2021, here) validated ongoing weakness in US retail sales, although perhaps this was isolated. FDX’s strong numbers for its third quarter (here) indicated that e-commerce is certainly alive and well. It is an uneven recovery, but with people being vaccinated ahead of targets in both the US and U.K. and stimulus flowing, there’s little doubt that both economies will recover significantly faster than the EU, much of which remains in lockdown as it struggles to vaccinate its citizens.
COVID-19 cases and deaths continue to slow globally, although the pandemic remains uneven depending on country and vaccination progression. There have been over 122 million cases of COVID-19 and 2.7 million deaths from the virus globally to date. One of the best data sources for COVID-19 is the Johns Hopkins Coronavirus Resource Centre, link is here.
The Week Ahead There is a fair amount of economic data coming in next week, as we finish off some key figures in retail, CPI, manufacturing, services and so on from important developed markets for February, and see some preliminary figures released late in the week for March. Also, I am sorry to tell those that have come to fear anything coming from the Fed, and especially from Chairman Powell, that there will be several Fed appearances next week. Make sure you hunker down!
From an investment perspective, my thoughts are as follows. Regarding equities, I would monitor the high flyers you like – especially those at the more reasonable end of the valuation range – and look for entry / add points. Many of these companies are disrupters that will flourish post-pandemic well into the future, even though in the interim, their stock prices might soften further to better reflect fundamental value. Not all are created equally, so discriminate carefully. I continue to favour reflation / recovery names (i.e cyclicals / out of favour stocks / indices) that are cheap, an increasingly crowded but not unreasonable trade. I also like banks, not just because of the economics of a steeper yield curve, but also because I think exceptional US growth in 2021 and 2022 will boost borrowing, a boon to bank’s profitability. I also like energy (you can choose oil, alternatives or both), with the always-present caveat that the best intentions can be proven wrong with one unexpected move by OPEC+. As I have said for weeks, avoid USTs and IG corporate credit, both of which remain vulnerable to higher yields. I would view high yield bonds as a holding position although yields are starting to increase slightly as UST yields increase, and perhaps consider leveraged loans (via an ETF) since they offer some protection against higher rates, although the reality is that I doubt the basis for rates on these loans will be increased by central banks anytime before 2023. That's my two cents!
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