GLOBAL OUTLOOK ECONOMY & FINANCIAL MARKETS
Andbank’s Monthly Corporate Review October 2016
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Contents Executive Summary
3
The month in charts
4
Country Pages USA
5
Europe
6
China
7
India
8
Japan Brazil Mexico Argentina
9 10 11 12
Equity Markets Fundamental Assessment Short-term Assessment. Risk-off shift probability Technical Analysis. Main indices
13 13 13
Fixed Income Markets Fixed Income, Core Countries Fixed Income, European Peripherals Fixed Income, Corporate Bonds Fixed Income, Emerging Markets
14 14 15 15
Commodities Energy (Oil) Precious (Gold)
16 17
Forex
18
Summary Table of Expected Financial Markets Performance
19
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ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Executive Summary USA - The return on capital in businesses has deteriorated and the spread versus the cost of capital is clearly narrowing. According to past standards, this suggests that the US economy could be in the latter half of its cycle, now leaving less room for the Fed to increase rates. Europe - The BoJ’s shift to a new form of QQE, and the ECB in “Wait & See” mode could cause the yield curve to steepen. This could be supportive for the equity market until year end. Spain - : Internal war in the main opposition party, which is blocking the nomination of the PP’s leader as a prime minister. This accelerates the resolution of the political blockade in Spain. The Spanish Ibex is the index that should most benefit (more than the Spanish bono). China – The last major barrier to investment in onshore Chinese equities is to be dismantled. China’s cabinet approved the Shenzhen-Hong Kong Connect scheme, giving global investors daily access to 880 stocks listed in the Shenzhen market. India – India’s GST (Goods and Services Tax) reform could prove nearly as significant as the agreement that created the European common market. The GST is a “big-bang” reform passed by Modi’s administration and shows that its pro-business agenda is gaining traction. Japan – The BoJ is not retreating, in fact just the opposite. Rather than preparing for a change of direction, the BoJ’s comprehensive assessment might be to find a new way to alleviate the pain that monetary easing is inflicting on the banks to allow it to step up its unconventional easing even further. Brazil - After a severe recession, Brazil’s economy is stabilizing. The focus is now on fiscal adjustment and the reform agenda. Mexico – Trump’s advance in recent polls, lower oil prices, expectations of the Fed’s decisions and less liquidity in the FX market are some of the reasons for the decline forecast in the MXN. If Trump wins and the Fed raises rates in Dec, the MXN peso could jump to 21. If Clinton wins, we could see a return to 18.50 Argentina - Q2 GDP data was pretty dire, but not as bad as they appear. The worst of Argentina’s recession could be over.
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ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
The month in charts Growth in the US could keep pace but the structural shape is now vulnerable
Our structurally weak view for the oil price suggests that a weak EUR will remain a supportive factor for exporters.
Libor-OIS spread (Overnight Index Swap)
Growth structure in India seems stable and sustainable
A new approach in the QQE strategy
Brazil: After a severe recession, Brazil’s economy is stabilizing.
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ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
USA:
Is the US economy in the latter half of the cycle?
Do you feel dizzy? Monetary conditions are clearly accommodative while fiscal policy is neutral
The rebound in construction has run out of steam…
Growth in the US could keep pace but the structural shape is now vulnerable
Our outlook for the Economy & Risks US economy is likely to continue rising, but deceleration has become apparent with GDP growth averaging just 1% annualized in the first half of 2016. We therefore expect most participants to lower their 2016 GDP growth projections, with the median falling to 1.7%. We maintain our year-end GDP forecast at 1.8%. Also to note is that the return on capital in businesses has deteriorated and the spread versus the cost of capital is clearly narrowing. This suggests that the US economy could be in the latter half of its cycle, leaving less room for the Fed to raise rates. Fed move unlikely now. Keep an eye on December Fed officials made no concerted effort to raise market expectations over the last two weeks, and the FOMC almost never surprises with a hike. Every rate hike in modern Fed history has been at least 70% priced-in beforehand. As a result, we saw very low chances (<5%) of a rate increase in September. While we have been surprised by the large downshift in the dots and by some of the recent communications from the Fed, it seems as if the committee’s basic framework has not changed. Nevertheless, markets remain skeptical and chair Yellen may need to articulate where she stands. Policy makers do not have sufficient grounds to raise rates at present, so they face with a delicate balancing act when deciding not to move now while continuing to strengthen the case for a hike before year-end. They will likely maintain their growth forecasts for future years, while slightly reducing their 2016 projection in acknowledgement of the sluggish start to the third quarter. Assuming that labor market performance proves sufficient to compel stronger consumer spending in the coming months, we now shift our focus to the December meeting. Employment income growth will be a critical factor determining the timing and frequency of future rate increases. Inflation normalizes Combining the latest CPI numbers with component details from the PPI inflation report, core PCE inflation is likely to rise by 0.2% this month, lifting our YoY reading to a low 1.7% from 1.3% currently. Financial Markets: (Very capable of shrugging off bad news) Equities (S&P): EXPENSIVE. Stock analysts are predicting the fastest earnings expansion since the bull market began. They had better be right. While the U.S. equity market has sidestepped threats ranging from Europe’s sovereign-debt crisis to the prospect of a government shutdown, its had much less success thriving in the absence of expanding earnings. S&P 500 Index companies would have to increase profits by 13% to hit forecasts for next year, something that hasn’t happened since 2011. Failing to do so would risk inflating equity valuations that at 20 times annual income are already the highest since the start of the financial crisis. While the confidence of analysts helps explain the stock market’s resilience, investors expectations may well fall short after having endured a five-quarter stretch where every prediction for higher earnings fell apart just as reporting season arrived. The trend has worsened in 2016, with annual income earned by companies in the S&P 500 falling to $106 a share last quarter from a high of $113 in September 2014. Quarterly profits in the S&P 500 are headed for a sixth straight decline in the third quarter, matching the longest earnings recession on record, according to data compiled by Bloomberg. Wall Street analysts have continued to push back the turning point. A survey of estimates as recently as July pointed to S&P 500 companies returning to profit growth in the third quarter of this year. Those same analysts now see a decline of 1.4%. Hope springs eternal for the fourth quarter and analysts still predict annual income will increase 10% from now to $117 per share by the end of 2016. Despite some slightly improvement in valuations, US equities remain in highly overvalued territory keeping US equities more vulnerable to bad news than good news in our view. We maintain our fundamental approach and as such we are reiterating our year-end price target for the S&P at 2000. Government Bonds: FAIRLY VALUED. The conspicuous absence of guidance about a near-term rate hike suggests that committee action is very unlikely. Corporate Inv. Grade: ATTRACTIVE / High Yield: ATTRACTIVE
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ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Europe:
With the ECB in “Wait & See” mode, and the new QQE from Japan, a steeper curve could provide some relief to the equity market
Escenario macro BCE
IPC
CPI
PIB real
GDP
sep-16 jun-16 mar-16 dic-15 sep-15 jun-15 mar-15 sep-16 jun-16 mar-16 dic-15 sep-15 jun-15 mar-15
2016E 0,2% 0,2% 0,1% 1,0% 1,1% 1,5% 1,5% 1,7% 1,6% 1,4% 1,7% 1,7% 1,9% 1,9%
2017E 1,2% 1,3% 1,3% 1,6% 1,7% 1,8% 1,8% 1,6% 1,7% 1,7% 1,9% 1,8% 2,0% 2,1%
2018E 1,6% 1,6% 1,6%
1,6% 1,7% 1,8%
Fuente: BCE
Our structurally weak view for the oil price suggests that a weak EUR will remain a supportive factor for exporters.
ECB The ECB has been in “Wait and See” mode during the last two meetings. The ECB acknowledged it was “studying options for a smooth implementation of QE, having tasked Committees to evaluate stimulus options”. Could the ECB stay on hold until December? What could change then? Options remain the same as outlined months ago. An extension of the program beyond March 2017 accompanied by an amendment in the criteria/limits applied: issue share limit to 50% (activated twice in the past and that led to an increase in the eligible pool of bonds by €57bn); Depo floor removal (this could free up €156bn of German bunds that could become eligible and lead to a steeper curve); or no ECB capital key limit. In a nutshell, much of the same to put the unconventional policy fairly near its own limits. Macro front – mixed picture The recently updated forecasts of the ECB have remained fairly stable for 2016 but revised downwards for 2017, where GDP growth estimate has been cut to 1.6% (from 1.7%). Similarly, the ECB has cut forecasts for inflation to 1.2% from 1.3% in 2017. Politics & Reforms United Kingdom: Article 50 seems likely to be triggered in January/February 2017 according to the President of the EU. The economic impact is hard to estimate, with the BoE reluctant to make any forecast for 2017-2018. Nevertheless, markets (ex pound) and surveys have recovered pre-referendum levels, and the UK’s data have surprised on the upside, diverging from the recent deterioration in the Eurozone macro overview. As expected, BoE cut rates in August, loosening more than expected by expanding its QE purchases (60 bill. pounds in bonds during six months plus up to 10 bill. in corporate bonds for the coming 18 months). Door remains open for a further rate cut, though not likely in the very short term as macro has surprised on the upside. Potential outcome from Brexit is not clear. Two year negotiation period ahead with different options, not discarding the possibility of a tailor-made relationship. Spain: Internal war in the main opposition party, which is blocking the nomination of the PP’s leader as a prime minister (winner in the last elections). In our view this accelerates the resolution of the political blockade in the Spanish Congress. If Sanchez (PSOE) is finally expelled from the party, no elections will be held and the PSOE (by abstaining) will allow the configuration of a new government. If Sanchez remains as a secretary of the PSOE, then a third elections will be held, but we foresee additional losses of seats in congress for those parties that are blocking the formation of a government. In sum. The political deadlock could be coming to an end. The Spanish Ibex is the index that should most benefit (more than the Spanish bono). Germany: regional elections point to a harder situation for Merkel in the general elections to be held in 2017. Traditional parties are losing ground to the far right. Even worse is the fact that the emergence of these extremist political parties, which already have a presence in the parliament, could cause those traditional political parties to modulate their rhetoric, not only regarding domestic issues, but on the EU itself. This is especially risky at a time of extreme weakness for the EU as well as the evident uncertainty in the debt markets. Markets !Equities (STXE 600): FAIRLY VALUED. We raise the PE ltm target at year-end to 15 (from 14). New target price 334. Political uncertainty has long-term implications. The shift of BoJ to a new form of QQE and the ECB in Wait & See mode could cause some steepening in the yield curve. This could be supportive until year end. ¡Spanish Ibex: ATTRACTIVE we raise our target price to 9000 (offering some 3%-5% potential appreciation) !Bonds: MIXED. 10yr Bund target at 0.20%, Italy 1.4%, SP 1.3%, POR 2.8%, ¡¡IE cut to 0.50% (from 0.90%). 6 Credit: FAIRLY VALUED. IG Itraxx target at 75. HY at 325
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
China:
Could global money be flowing into onshore stocks soon? Reforms The last major barrier to investment in onshore Chinese equities is to be dismantled. China’s cabinet approved the Shenzhen-Hong Kong Connect scheme, giving global investors daily access to 880 stocks listed in the Shenzhen market. Regulators also announced that aggregate quotas limiting funds flowing into or out of China via both Shenzhen and Shanghai-HK Connect scheme will be abolished. This gives international investors free access to 80% of China’s onshore market capitalization. Past experience: Interest from global investors remains muted two years after the launch of the Shanghai-Hong Kong Connect scheme. After all, international investors have also lost interest in the state-owned banks, raw materials companies and heavy industrial groups which dominate the Shanghai market, making this index strongly skewed towards the “old economy”. The Shenzhen stock market is a very different proposition. Monthly turnover has risen 80% since 2014 as domestic investors have favored the smaller technology, healthcare and consumer names listed on the more private sector-oriented exchange. These sectors comprise 59% of the index by capitalization (20% in Shanghai). It appears as if investors already have access to these sectors in the offshore market. But the reality is that more than half of the MSCI China index’s “new economy” market capitalization consists of just three huge stocks (Tencent, Alibaba and China Mobile). The Shenzhen-Hong Kong Connect, will offer hundreds of choices to investors keen to play the rise of China’s middle class. The pros & cons. The downsides include: (1) Regulators can allow trading suspensions in a market rout. (2) Shenzhen index is trading at more expensive PE ratios. On the upside (1) There is still an insatiable domestic appetite for small and medium-sized companies and, (2) this announcement, and the abolition of aggregate quotas, paves the way for the inclusion of mainland-listed A-shares in MSCI’s indexes. According to our sources in the region, global money could soon be flowing into onshore stocks, despite their high prices. Mining sector reforms: North China's Shanxi province will close 21 coal mines belonging to six SOE’s coal enterprises this year. The closure will cut 20M tons of coal capacity in the province, which accounts for about a tenth of the national target. 16 mines have been closed in Shanxi as of June (or a cut of 12.3M tons capacity). Real estate: More cities are tightening home buying rules. Nanjing and Suzhou will raise down-payment requirements for some buyers of second homes to 50%, up from 45% in Nanjing and 40% in Suzhou. PBoC & FX Xinhua noted that China will not resort to aggressive monetary easing, warning that aggressive cuts in interest rates will not only cause yuan depreciation and excessive liquidity, but also dampen China's efforts to reduce overcapacity and curb asset bubbles. PBoC adviser Huang Yiping calls for a more market-oriented FX fixing: “The market should be allowed to truly decide the yuan rate, starting by widening the trading band before ultimately scrapping the limits. A more flexible floating exchange rate regime can be expected in the coming years”. PBoC research director Yao Yudong argued there is plenty of scope for the yuan set to appreciate over the long run. The PBoC's annual yuan internationalization report highlighted China’s plans to increase cross-border use of the yuan, by encouraging domestic institutions to lend yuan to foreign borrowers and allow overseas entities to issue yuan bonds in the onshore interbank market. Economy – Q3 PBOC’s Surveys Corporate confidence in the state of the economy continues to improve in Q3. Banks appear to agree with NFCs about the improvement in the broader economy, although they remain relatively downbeat on conditions in the banking sector itself (this is not surprising given that deposit rate liberalizations and rising bad loans are weighing on margins) Demand for loans from firms is slowing (although surveys are still above 50). We suspect that this softening may reflect the structural shift among firms from bank loans in favor of direct financing (bonds & equity) Fewer banks now expect looser monetary conditions (only 19.7% in the survey) since economic weakness retreated. Households’ views on their current income and the labor market are little changed but respondents are more optimistic about the outlook for both. The share of urban depositors saying that they would rather spend than save remains at its highest since 2009. Portion of respondents saying that they plan on purchasing a car during the coming 3 months rose to 17.4% (the highest on record). Those who plan to buy a house also rose.
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ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
India:
India is on course to become a genuine economic power
Central Bank has serious options to ease conditions
Credit has normalized at a much more sustainable pace. Good in terms of future path in NPLs.
The SSE has already reflected the fall in intermediation
Growth structure seems stable and sustainable
Reform agenda leaps forward India’s GST (Goods and Services Tax) reform could prove nearly as significant as the agreement that created the European common market. For a better understanding of the magnitude of the changes that are occurring in this gigantic country, we must first take a quick look through India’s recent history. India has been a strong political state for nearly 70 years, but its fragmented economy prevented (and still prevents) goods and many services from moving freely within its borders. The existing tax system is a complex tangle of codes that distorts market prices and is a bureaucratic nightmare for businesses. (1) The central government taxes services and the production of goods. (2) State governments tax goods at the point of sale. (3) Localities levy a bewildering array of taxes, with local collection making logistics slow, expensive and unreliable. To take a truck transporting goods from Mumbai to Delhi, a journey that crosses four state borders, could require more than a dozen checks by various officials asking for papers, charges or interstate taxes. At some state crossings, trucks routinely get stuck for four or five days. The World Bank estimates that road delays mean manufacturing costs in India are two to three times higher than international benchmarks, and that cutting waiting times by half would reduce logistics costs by up to 40%. This structure pushes up both costs for manufacturers and prices for consumers. Against this backdrop, states and localities are incentivized to offer tax exemptions that incite manufacturers to locate to areas where production otherwise makes little economic sense. Where the economy is headed after the GST reform The GST is a “big-bang” reform passed by Modi’s administration and shows that its pro-business agenda is gaining traction. The GST reform promises (1) To create a genuinely common market for 1.3bn people, (2) Replace a tangle of central, state and local taxes with a unified tax levied on the final user that should greatly simplify the system, (3) boosting aggregate domestic demand, (4) cutting the cost of business, and (5) potentially transforming India into a viable manufacturing base. (6) Favored industries will no longer be granted tax exemptions, creating a level playing field for manufacturers to set up where it is economically efficient to do so. By creating a unified economy, the GST will give India a chance of creating the sustainable growth it needs to fulfill its vast, yet still unrealized, potential. If implemented properly, it will be a key step towards turning Modi’s “Make in India” vision into a reality. Private forecasts suggest that GDP growth may be upped by 0.9-1.7pp, potentially pushing India’s economy well beyond the 8% threshold. Politically speaking, this reform is a triumph for the country. The GST is a major political victory for Modi’s government. The GST had been held up by opposition in parliament and by states’ reluctance to cede their tax powers to the center. How did Modi achieve this? The government made concessions for the bill to pass through the upper house and brought the states on board by (1) Granting them greater discretionary spending power under its policy of devolving power and encouraging greater competition across the country, and (2) It also promised to make the measure revenue-neutral for five years by offering direct transfers to those states that experience a reduced tax take. The national parliament and 28 states must pass further laws to set the rate and scope of the tax code, with Modi’s government favoring an average rate of 18%. It remains to be seen whether a single rate or, alternatively, a tiered structure is adopted. Royal Bank of India Lawmakers signed-off in August on an inflation targeting mechanism that will for the first time bind policymakers to a rules-based system of monetary control. Confirmation of the 4% inflation target over the next five years represents a clear signal that the government will accept constraints on economic policymaking and will be subject to a higher level of discipline. The index chosen to be targeted, which is the headline CPI, represents a signal sent by the government that (1) It will forgo political expediency and will focus on the long haul, and (2) That the government aims to manage the inflation expectations that impact its decision on whether to hoard gold as an inflation hedge or invest in financial products that help fund investment and growth. The new monetary policy committee will have six members that will have to explain to parliament any failures to achieve its inflation targets. Markets !Equity (Sensex): ATTRACTIVE. We slightly adjust our year end target for the PE ltm to 18 (from 17). New 2016 target price at 29,610 Bonds: CHEAP. 10YR BOND TRGET AT 7%
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ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Japan: Is the BoJ backing away or stepping up unconventional policy?
Values of Change vs Current Net positions last week 1-yr Max 1-yr Min 1-yr Avg Z-score Currency (Bn $) (Bn $) (Bn $) (Bn $) (Bn $) 3-yr USD vs All USD vs G10 EM EUR JPY GBP CHF BRL MXN RUB AUD CAD
7,86 6,76 -1,10 -11,42 6,93 -6,83 0,17 0,30 -1,72 0,33 2,72 1,30
-1,73 -1,88 -0,15 1,60 0,25 0,73 -0,01 -0,03 -0,13 0,01 -0,27 -0,33
44,3 43,6 0,1 -3,1 8,2 0,7 1,4 0,4 0,0 0,3 4,6 2,0
-6,8 -7,1 -2,3 -24,3 -8,0 -7,8 -3,2 -0,2 -2,1 -0,1 -4,7 -4,7
14,1 13,1 -1,0 -11,9 3,1 -3,5 0,0 0,1 -1,2 0,1 0,0 -0,9
-0,84 -0,97 -0,34 0,07 1,68 -1,83 0,31 0,64 -0,84 2,28 1,37 1,40
ANDBANK
The Japanese stance on monetary stimulus With Japan back in deflation after 4 years of QE and 8 months of negative rates, the BoJ has promised a comprehensive assessment of its policy settings. An announcement that has persuaded investors that the BoJ could be getting ready to back away from its policy. The signals that investors are mulling over and that are fueling fears of a “Tapering thesis” are: (1) BoJ officials and Kuroda have dwelt on the costs that QE and NIRP impose on the financial system. (2) Yield curve in the 7-20 year range has steepened substantially and investors are interpreting this shift as a retreat by the BoJ in its JGB purchasing activity. The BoJ is not retreating. Just the opposite: Rather than preparing for a change of direction, the BoJ’s comprehensive assessment might be to find a new way to alleviate the pain that monetary easing is inflicting on the banks in order to allow a step up in its unconventional easing even further. Why? 1. BoJ’s officials reject the idea that QE and NIRP have failed. They argue that over the 4 years of QE (1) The JPY has depreciated some 20%, (2) corporate profits have picked up, (3) unemployment rate has fallen, (4) wages have risen, (5) the stock market is up 80%, and (6) deflationary pressures persist because of the slump in oil prices and global demand. They believe that the unconventional policies are gaining traction and they just need more time. 2. The BoJ is shifting its approach to its unconventional policy in a way that takes the pressure off the financial system. How? By focusing on corporate bonds, ETFs, REITs and a coordinated move with the ministry of finance to (1) Concentrate its issuance at the long end of the curve while (2) the BoJ shifts its purchases of JGBs towards short dated bonds. In fact, there is good evidence that this new approach is being implemented. Local sources inform us that there has been an increase in long dated issuance, while the focus of the BoJ’s purchasing has recently moved down the curve. The hope is that the resulting steepening of the yield curve will sufficiently support banks’ profitability to allow the BoJ to continue its easing program and potentially push interest rates even deeper in an attempt to increase inflation expectations. 3. BoJ officials are clear that the easing program cannot continue in its current form since the NIRP and the yield curve flattening (derived from the QE) are compressing banks’ profitability so that, at some point, the current policy will erode their ability to make new loans, and the costs of QE will outweigh its benefits. BoJ deputy governor Hiroshi Nasako said earlier this month that “reducing the level of monetary policy accommodation will not be on the agenda”. Economic activity & forecasts Q2 GDP report showed that GDP grew by only +0.2% q/q vs consensus of +0.5% and much lower than the +1.9% seen in Q1. GDP growth is seen at just 0.69% for FY16 (on the back of the government's large stimulus package). FY17 estimates point to growth of just 0.85%. The poll also shows the consensus forecast for core CPI at -0.05% in FY16 and just +0.70% in FY17. Financial Markets !Equities (NKY): FAIRLY VALUED. We are slightly adjusting our PE ltm target to 16 (from 15.80). New target price 16,653. BoJ is already a top-five owner of 81 companies in Japan's Nikkei 225, but is on course to become the top shareholder in 55 of those firms by the end of next year. The BoJ almost doubled its annual ETF buying target last month, with mixed reactions in the market. Corporate profits decline sharply. According to the Nikkei report, aggregate pretax profit declined 17% y/y in the Apr-Jun quarter, the first fall in four years, while net profit tumbled 21%. For the full year, the Nikkei report on FY aggregate pretax profit is expected to decline 0.5%, revised down from prior projections of a 1.7% rise. FX: EXPENSIVE The JPY appears to have stabilized in the 100 area after a sharp appreciation YTD (it was at 120 at Dec 2015). We failed when projecting a JPY depreciation at the inception of the year. We simply downplayed the fact that the JPY was “cheap” in REER terms (JPY was trading at 1970s levels in Dec15). The good news is that this rally could have partly played out, with investors now holding their biggest net long-yen position versus the US dollar in four months. Fundamental target at 110.
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ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Brazil:
After a severe recession, Brazil’s economy is stabilizing. The focus is now the fiscal adjustment and the reform agenda.
A dramatic improvement in the external accounts, our outlook for commodity prices and the BRL could turn the net borrowing requirement into a net lending capacity
The BRL seems to trade at fair value
The positives It finally came. Dilma Rousseff’s ouster by impeachment on August 31 was (from an investor’s perspective) a positive factor, since she is blamed of being the cause of the country’s serious fiscal problems. After a severe recession, Brazil’s economy is stabilizing: (1) Confidence levels have perked up, and (2) Industrial output and investment rose in 2Q16. The government has promised to expand privately-funded infrastructure initiatives and privatize state-owned assets. Authorities allow companies other than Petrobras to lead exploration in the pre-salt offshore oil fields. A labor regulation reform has been announced to give firms greater flexibility when hiring workers. The government wants to curb public spending that on average grew by 5.8% a year compared to economic growth of 2.6% between 1998 and 2015. It has therefore proposed a constitutional amendment that would cap primary expenditure rises by the federal government to consumer price inflation (meaning no rises in real terms) for at least 10 years. State governments are also expected to adopt similar legislation. The pension reform plan will adopt a minimum 65-year retirement age and unify schemes so that the same rules apply to men, women, urban and rural workers, civil servants and private sector employees. If implemented as written, the fiscal deficit should stabilize early next decade with government debt at about 90% of GDP. The hope is that these fiscal initiatives will deliver a dual benefit. Firstly, as the current recession ends and the economy returns to growth, tax revenues should pick up which, assuming flat expenditure in real terms, should improve the primary balance. Secondly, with a less expansionary fiscal policy the central bank should be able to lower interest rates, in turn reducing interest payments on government debt. In the political arena, the new government under President Michel Temer has stemmed the slide toward a full crisis by appointing a better economic team, wrangling wider congressional support for its policies and promising bold reforms to deal with Brazil’s daunting fiscal problems. As a result of these initiatives, consensus forecasts point to a sharpish return to growth next year, lower inflation and a glide path to lower interest rates. Consensus calls for GDP to expand at 1.3% in 2017 after a contraction of -3.2% in 2016. The not so positives Indeed, some steps have been taken in the right direction but much of the government’s sensible rhetoric remains -for now- just talk. More firm steps on the fiscal agenda need to be taken since the public sector is expected to run significant deficits this year and next, causing government debt to rise to 75% of GDP by year-end and to surpass 80% by late 2017. The risk is that reforms undergo a process of negotiation in Congress and get sliced as exemptions are negotiated in the lower house. However, one very positive aspect is that president’s main ally in congress (PSDB) advocates serious and profound fiscal adjustment with a view to obtaining a cleaner and rebalanced situation when running his candidacy to govern in 2018. Considering how sticky inflation has proved this year despite a harsh recession and strong currency gain, it is not surprising that the last minutes of the COPOM committee revealed a toned down commitment to this goal. This is why the central bank could be less dovish than consensus forecasts. Financial Markets Govt. Bonds: In local currency: ATTRACTIVE. In USD: ATTRACTIVE !Equities: FAIRLY VALUED. We are slightly adjusting our year end target for the PE ltm to 15.2 (from 13.1). New 2016 target price at 58,000 (from 50,000) !FX: We revise our year-end target to 3.1 from 3.3 10
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Mexico:
Why is Mexico failing to curb the crash in the Mexican
Peso? Economy: Growth, credit metrics and ratings are deteriorating Mexico’s economy has remained weak. Some of the GDP Trackers we use suggests that economic growth slowed to around 1.5% y/y in July, from 2.5% y/y in Q2 (although it’s worth noting that this was due in part to working day effects). The strong correlation between US industrial activity, which keeps decelerating, and the Mexican manufacturing industry has hurt exports of these kinds of goods, which are the most important part of Mexico’s foreign sales. Furthermore, the significant drop in oil prices and exports, and our dim outlook for oil prices a result of persistent oversupply problems in the global energy sector, will likely contribute to an ongoing weakness in the Mexican manufacturing sector. Private consumption indicators continue to support the Mexican economy, but data from August pointed a softer tone and weakness because of seasonal effects. The median forecast for 2016 GDP growth continues to weaken to 2.20% (from 2.30%) with 2.50% for 2017. Fiscal & Credit Metrics Current account deficit has begun to worry the monetary authorities, reaching its highest level for some time at 3.0% of GDP. Debt/GDP ratio is expected to reach 50.5% in 2016 (well above the 37.7% seen in 2012, and 29.8% in 2006). In response, the new ministry of finance presented the 2017 budget with no tax rises and expenditure cuts of 1.2% of GDP in order to achieve a primary surplus after 6 years of deficit. But with the state-owned oil company, Pemex, shouldering around 40% of the cuts, the long-term decline in oil production looks set to persist. S&P cuts the outlook for Mexico sovereign debt to negative from stable. Inflation & Monetary Policy & FX A surge in merchandise inflation reflects the effect of peso depreciation on tradable goods prices. Despite this, inflation remains at 2.73%, well below the 3% long term objective of Banco de México. Prices remain at an apparently controlled level due to the weak economic momentum and gas price cuts. Long-term inflation expectations implicit in market instruments have also diminished. Despite this, there is no room left for Banxico to ease conditions in order to support the economy. Any cut in rates will dampen the currency, which is already in a sharp downward trend. Banxico has recently raised its policy rate, arguing that peso depreciation could have an impact on price formation in the economy. This is in addition to the monetary authorities’ concerns about the rising current account deficit (due to the sharp peso depreciation). Central bank members commentaries’ retain concern about peso weakness and public finance austerity requirements. Markets !FX: NEGATIVE. We are changing our year-end target for the peso to 20 (from 18.25). Trump’s advance in recent polls, lower oil prices, expected Fed decisions and less liquidity in the FX market are among the reasons for the projected decline. If Trump wins and the Fed raises rates in Dec, the MXN peso could jump to 21. If Clinton wins, we could see a return to 18.50 !Fixed Income. FAIRLY VALUED. We are raising our target yield for the M10 bond to 6.50% (from 6.0%), and the USD-denominated Mexican bond (UMS10) to 3.75% (from 3.0%) Equities. ATTRACTIVE BUT CAUTION, IPC year-end target (according to our central scenario of a Clinton victory) remains unchanged at 49,000. If Trump wins, the Mexbol could fall to levels around 42,000. While the media still projects Clinton as the clear favorite, the race has narrowed dramatically, with FiveThirtyEight flipping its Ohio and North Carolina projections to Trump showing the overall race getting close fast. We reduced our exposure to stocks with high US debt and a negative impact in higher interest rates on the other side; we increased our exposure in defensive stocks. In the worst case, Mexico will have to make small concessions on things such as labor standards, taxation of remittances, and other such marginal issues in order to avoid any of Trump's bigger threatened punishments (tariffs for example). These concessions would have a small but negative effect on the Mexican economy.
11
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Argentina
Q2 GDP data was pretty dire, but not as bad as they appear. The worst of Argentina’s recession could be over
It seems as if the initial euphoria over the change of government had dissipated
Economy Argentina overhauled its GDP data back in June, incorporating new methodologies. The new GDP figures look much more plausible than the previous series, which were widely disregarded. GDP fell by -3.4% y/y in Q2 (from +0.4% in Q1). In q/q s-a, output dropped by a whopping -2.1%, (worse than Q1’s -0.7%). The data were significantly worse than the consensus forecast and the economy has been contracting in q/q terms since Q3 2015. The data are not as bad as they first appear. The big drop in GDP was due largely to a slump in exports (-11.9% q/q), without which, GDP would have shrunk by -0.5% q/q. The drop in exports should be temporary. Firstly, it reflects payback from the 14.8% q/q surge in Q1. Secondly, a weaker peso should begin to provide a meaningful boost to exports. Elsewhere, the pace of contraction eased in Q2. Consumer spending continues to expand while investment fell at a slower pace. Fiscal As a result of the economic weakness, but also in part due to political resistance to the Macri fiscal agenda, the finance ministry presented its 2017 budget to congress this month, in which Government spending will be cut by less than previously anticipated and the primary deficit target for 2017 has consequently been revised up from 3.3% of GDP to 4.2%. As an example of the political resistance to the fiscal agenda, the Supreme Court last month reversed the implementation of residential gas subsidy cuts, causing a drop in provincial inflation last month (from 47% y/y to 43%). We expect the government to meet its new fiscal primary deficit target for 2016. The cut in the 2017 fiscal target needs to be seen in a context of major efforts by the cabinet to control expenditure in a year in which the government will be facing legislative elections that are perceived as confirmation of Macri’s mandate Argentina in 2017 - Forecasts & main guidelines Fiscal tightening will keep the economy in recession for a while longer and we don’t see a return to positive growth until Q1 2017 at the earliest. In 2017, Real GDP growth is projected at 3.5%. Inflation will be up between 12 and 17%. Primary fiscal deficit equivalent to 4.2% of GDP (up from the 3.3% expected in January 2016). 32% increase in capital expenditure, which will include the funds used for the Belgrano Plan (1% of GDP), an ambitious infrastructure plan for the densely populated and underdeveloped northern part of the country. Central Bank Despite the fall in inflation being temporary, the central bank cut its key interest rate further this month (See Chart 1). International reserves remain stable at US$31bn as of 09/13/16. YTD Argentina has issued 30.9bn in external debt (19.2 treasury, 4.5 provinces and 2.2 corporations). There were also extraordinary payments totaling 14.2bln (9.4 holdouts, 2.7 past due interest to exchange bondholders, 2.1 Paris Club). There was therefore 16.8 bn of issuance, net of these extraordinary payments. Reserves have increased 8.4bn YTD, so the country ran an External Cash Flow Deficit of 8.4bn during this period explained by Current Account Deficit + residents’ outflows. Latest developments 8/23/16 Moody’s: “Argentina is the most attractive option in Latam” 7/25/16 Government declares tax amnesty and enacts law to pay retirees. The Macri administration is confident that it will attract large amounts of funds through a tax amnesty plan. According to government figures, Argentineans hold more than 200bn in assets outside Argentina, of which less than 10% is declared. Financial Markets !FX. Depreciation stalled as expectations about tax amnesty are high and inflation pressures are diminishing. We are therefore reducing our Year-end target for ARS/USD to 16 (from 17) Fixed Income. 10yr Govt bond in USD target yield stable at 6%. We prefer short term bonds, with low repayment risk. Global 12 22/4/19, Bueno 14/9/18, Bonar 7/5/24, YPF 4/4/24
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Equity Markets GLOBAL EQUITY INDICES - FUNDAMENTAL ASSESSMENT Sales per Share 2015
EPS 2015
1.130
117,6
10,4%
4,6%
1.182
301
21,7
7,2%
0,0%
301
7.875
641,4
8,1%
0,7%
Mexico IPC GRAL
28.542
1.888,1
6,6%
Brazil BOVESPA
55.578
3.377,2
6,1%
Japan NIKKEI 225
20.408
1.018,6
China SSE COMP.
2.652
HK HANG SENG India SENSEX
Index USA S&P 500 Europe STXE 600 Spain IBEX 35
MSCI EM ASIA
Andbank's Sales Andbank's Net Margin Sales Growth per Share Net Margin 2015 2016 2016 2016
EPS 2016
EPS Growth PE ltm PE ltm 2016 2015 2016
9,7%
115
-2,5%
7,4%
22
2,6%
15,79 15,00
7.927
8,1%
642
0,1%
13,72 14,02
7,7%
30.739
7,3%
2.254
19,4%
25,25 21,74
5,5%
58.635
6,5%
3.811
12,9%
17,28 15,22
5,0%
2,0%
20.816
5,0%
1.041
2,2%
16,15 16,00
233,9
8,8%
7,0%
2.838
8,8%
250
6,8%
12,86 13,00
13.064
2.015,3
15,4%
2,0%
13.325
15,4%
2.052
1,8%
11,61 10,00
12.559
1.432,9
11,4%
11,0%
13.941
11,8%
1.645
14,8%
19,40 18,00
411
34,1
8,3%
7,0%
37
7,0%
21,25 20,00
440
8,3%
18,30 17,44
INDEX CURRENT PRICE 2.151 343 8.796 47.672 58.351 16.450 3.009 23.390 27.790 725
2016 TARGET PRICE 2.000 334 9.000 49.000 58.000 16.653 3.247 20.521 29.610 730
2016 E[Perform.] % Ch Y/Y -7,0% -2,6% 2,3% 2,8% -0,6% 1,2% 7,9% -12,3% 6,5% 0,7%
ANDBANK ESTIMATES
RISK-OFF PROBABILITY
Andbank's Global Equity Market Composite Indicator (Breakdown)
Buy signals Positive Bias Neutral Negative Bias Sell signals FINAL VALUATION
Previous
Current
Month
Month
5 2 3 9 3 -0,7
5 2 6 7 2 0,2
Andbank’s Global Equity Market Composite Indicator Preliminary assessment of the level of stress in markets
previous
0
-5
-10 Market is Overbought
current
+5
Area of Neutrality Sell bias
Buy bias
+10 Market is Oversold
o Score: NEUTRAL. Our Andbank GEM Composite Indicator has moved from -0.7 to 0.2 (in a -10/+10 range), suggesting that the market is no longer overbought and is still trading in a zone of no-stress or neutrality. Therefore, and strictly under a flow, positioning & sentiment analysis, we cannot say that the equity market in general is expensive. At current levels, a risk-off probability in the equity markets seems unlikely (in the absence of highly disruptive events). If a risk-off shift takes place, the market would quickly become oversold again. o Positioning indicators: NEUTRAL-POSITIVE reading. Cash level raised to 5.5% by a bearish view on markets (42% of respondents), and preference for cash over low-yielding equivalents (20%). Equity allocation relative to cash allocation at levels which have historically been a good entry point to stocks. Equity beta of Discretionary Macro hedge funds was little changed, as these investors were slightly short equities. Option skew monitor still places its negative skew with higher demand for puts than calls. o Flow indicators: NEUTRAL-POSITIVE reading. BofA states $16.7 Bn inflows in US Equity ($11.4 Bn inflows via SPY). Japan and Europe received relevant inflows too $5.1 Bn and $2.0 respectively. Bonds, precious metals and emerging markets equity suffered outflows ($3.3 Bn, 0.2 Bn and 2.2 Bn respectively). o Sentiment: NEUTRAL-NEGATIVE reading. Many sentiment indicators are flagging short position: 1. Ned Davis Crowd Sentiment Poll stays in the optimist area thus our position is bearish. 2. NAAIM Survey of Management Sentiment shows that firms that are active money managers are also in the optimist area. 3. Bloomberg Percentage of NYSE Stocks Closing above 200 Day Moving Average shows that 70% of the names are quoting above, suggesting some stress in the market.
TECHNICAL ANALISYS: Short-term (ST) and medium-term (MT) o o o o o o
S&P: SIDEWAYS-BULLISH. Supports 1&3 month at 2075/1993. Resistance 1&3 month at 2213/2298. STOXX50: SIDEWAYS-BEARISH Supports 1&3 month both at 2860/2678. Resistance at 3156 IBEX: MOD. SIDEWAYS Supports 1&3 month at 8229/7500. Resistance 1&3 month at 7500/9360 €/$: SIDEWAYS-BEARISH Supports 1&3 month at 1.09/1.07. Resistance 1&3 month at 1.1432/1.17 Gold: SIDEWAYS-BEARISH Supports 1&3 month at 1251/1191. Resistance 1&3 month both at 1391 Oil: SIDEWAYS-BEARISH Supports 1&3 month at 39.24/37.64. Resistance 1&3 month at 50.53/51.64
13
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Fixed Income – Core Country Bonds: UST 10Yr BOND: 2016 target 1.7%, Buy at 2.7% yield, Sell below 1.70% / Ceiling 3.00% 1. Swap spread: Swap rates continued recovering some ground and rose to 1.55% (from 1.47%). The 10Y Treasury yield rose to 1.70% (from 1.60%). Thus, the swap spread ticked down to -15bps (from -12bps). For this spread to normalize towards the 20-30bp area, with 10Y CPI expectations (swap rate) anchored in the 2% range, the 10Y UST yield would have to move towards 1.70% (this could be considered a floor). 2. Slope: The slope in the UST yield curve rose to 90bp (from 87bp). With the short end normalizing towards 1.25% (today at 0.81%), to reach the 10yr average slope (of 179bp), the 10Y UST yield could go to 3.04% 3. !Given the new normal of ZIRPs, a good entry point in the 10Y UST could be when the real yield hits 1%. Given our revised 2016 CPI forecast of 1.7%, the UST yield would have to rise to 2.7% to become a “BUY”.
BUND 10Yr BOND: 2016 target 0.2%, Buy above 0.90% , Sell below 0.60% 1. Swap Spread: Swap rates fell to 0.31% in the month (from 0.36%), and the Bund yield also fell to -0.16% (from -0.08%). Thus, the swap spread widened to 47bps (from 45bp). For the swap spread to normalize towards the 30-40bp area, with 10Y inflation expectations (swap rate) anchored and also normalized in the 1% area, the Bund yield would have to move towards 0.60% (entry point). 2. Slope: The slope of the EUR curve fell to 51bp (from 53bp). When the short end “normalizes” in the -0.25% area (today at -0.66%), to reach the 10yr average slope (113bp), the Bund yield would have to go to 0.88%.
Fixed Income – Peripheral Bonds: Spain: Target for the 10yr bond yield stable at 1.30%. Less political risk compared to Italy deserves a lower yield target but the political gridlock, combined with the ultra low yields in these bonds, makes us to think that it is maybe time to reduce duration. Italy: Target stable for the 10 yr bond at 1.4%. Growing political concerns that have led to a spread widening vs. Spain. Coming closer to the referendum (though there is no official date) for the Senato reform, the “no camp” could be slightly ahead according to latest polls but number of undecided remains high. Should it fail, Mr Renzi could resign(?). Should it succeed it would be positive for the Italian and economic system. Portugal: Target stable at 2.8%. Lots of noise. DBRS will review Portugal rating again on 21 October; short term support from S&P that kept its rating for Portugal unchanged last Friday. Renewed focus on bank risks connected to political turmoil. Slowdown of QE PGB purchases during 2Q, reaching its limits… Growth prospects have been revised downward leading the deficit target to 2.6% GDP for 2016, not far away from the target agreed with the EC (2,5%). Fiscal measures to be presented in the following weeks to comply with 2017 deficit target. We see value though lack of positive triggers. !Ireland: New target set at 0.50%. Post APPLE affair regarding the firm having to pay Ireland circa 5% of its GDP. It should now trade at levels closer to the semi-core area.
14
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Fixed Income – Corporate Bonds & EM Govies FIXED INCOME – CORPORATE CREDIT US$ IG & HY US Investment Grade: Current Spread level in the ML HG index at level 141 bp. 2016 objective 135 bp. Low yields on government and corporate bonds globally have been a key driver for the strong demand for US HG credit recently, helping to absorb the significant supply. Going forward, we believe that demand for HG bonds will remain strong (due to the lack of yield) despite the increase in FX hedging costs. Foreign demand to remain material as long as the current large yield differences persist. In addition, some European money managers are now being charged 40bp for cash they hold at European banks, giving them further incentive to diversify. Overweight: Financials – Materials – Technology. Underweight: Utilities – Healthcare – Industrial US High Yield: Current Spread level in the ML HY index at 510 bp we keep our target for 2016 in 430. The global reach for yield has resumed as the BoJ’s yield cap and Fed dots arrested a budding bond tantrum which had been weighing on risk appetite. Default rates are likely to end 2016 in-line with the long-term average at 3.5% to 4.0%, the rate falls to a mere 0.5% when excluding the impact of commodity credits. September has been the second most active calendar month for bonds, overall, new-issue trends continue to be skewed toward upper- and middle-tier volume and refinancing as a use of proceeds. Year-to-date inflows for high-yield continue strong (first annual inflows since 2012). Overweight: Financials, Media, Retail, Technology, Telecommunications. Underweight: Metals and Mining – Energy
EUR IG & HY ECB corporate purchases remain on track and may intensify in the coming months to make up for the minor purchases during the summer. This could be supportive for European credit. Nevertheless, spreads have widened as government yields have gone up. The question is, will credit suffer if government bond yields continue to rise and duration losses persist? European credit fundamentals are solid (though US credit seems to be trading at more attractive levels). Despite fundamentals being supportive, targets have already been reached and we are even approaching those more optimist targets set at the beginning of the year. We stick to our tactical underweight but move to neutral with a longer term view (strategic view) Some fine-tuning of the QE program still expected: Extension of the program beyond March 2017, accompanied by an amendment to the criteria/limits applied: Purchases allocated as a percentage of the market value (debt weighted) rather than the current ECB capital key criteria. Limits per ISIN being lifted up. Removal of the depo rate as the threshold for purchases. Recent outperformance of financials. Positive spillovers from ECB purchases into non-buy candidates (e.g. financials). We prefer bond picking rather than a sector approach and a “quality” oriented portfolio. !Credit Targets: IG Itraxx 75 (currently at 71). HY Itraxx to 325 (currently at 325)
FIXED INCOME - EMERGING MARKETS (GOVIES): “The two conditions are not met” 10 Year
Yield
Last reading
Real
3,45% 5,71% 1,90% 1,90% 2,04% 0,35% -1,63% 0,74% 0,91%
3,51%
Taiwan
6,96% 7,01% 3,58% 2,73% 3,54% 2,09% 1,78% 1,33% 0,72%
Turkey
9,43%
7,64% 7,50%
1,79%
Russian Federation 8,13%
11,63% 6,00% 7,08% 6,39%
9,49% 2,53% 8,75% 3,37%
2,14%
Philippines EM ASIA
10 Year
Yield
India China Malaysia Thailand Singapore South Korea
EME
CPI (y/y)
Govies Indonesia
LATAM
To date, our rule of thumb for EM bonds has been “buy” when the following two conditions are met: (1) US Treasuries are cheap or at fair value; and (2) Real yields in EM bonds are 175bp above the real yield in UST. Is the UST cheap or at fair value? Historically, a good entry point in the 10Y UST has been when real yields are at or above 1.75%. However, given the “new normal” (ZIRPs & NIRPs), a good entry point in the 10Y UST bond could be when the real yield is 1%. Given our !New 2016 target for US CPI of 1.7% (from 1.3%), UST bonds should be at 2.7% to be considered cheap. So the first condition is not met. Do real yields in EM bonds provide sufficient spread? If the first condition is met, under the “new normal” (ZIRPs), a good entry point in EM bonds could be when EM real yields are 100bp above the real yield of the UST. Since the projected annualized real yield of the USTs from now on is 0.10% (1.6%-1.70%), the real yield of the EM bonds should be at least 0.90% (see table).
Brazil Mexico Colombia Peru
1,30% 1,68% 0,83% 1,51% 1,74% 3,41% 0,59% -0,19%
0,63%
3,47% -1,67% 3,02%
15
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Commodities ENERGY (OIL): Fundamental target at $40. Range (Buy at $30. Sell at $50). Trends The benchmark Brent crude price rebounded some 23% in the first three weeks of August to within a whisker of US$50/bbl and reversing much of its -21% correction since early June. Why? Oil price rallied after chatter began to circulate about an hypothetical agreement to be reached by oil producers (Saudi, Russia and Iran) to freeze production in September. As a result, funds rushed to cover their short positions by putting new longs in the futures market and prompting the oil price rally. On September 28th, OPEC members announced that they had agreed a production target of 32.5m-33.0m b/d at a meeting in Algiers. The target implies a production cut of between 240,000 b/d and 740,000 b/d from August levels. This would be the first agreed cut since 2008. Important details on the OPEC accord must still be clarified. Production limits and the surveillance framework must await their November summit. Outlook: Fitch points that the target itself is largely symbolic. The announcement supports the view that oil prices could recover some ground, but does not make a strong rebound materially more likely. Admittedly this agreement reduces downside risk to oil prices, but many are the elements that still feed our doubts and could cause that this agreement to result in something merely symbolic: i. While the OPEC cut, if agreed, makes a modest deficit more likely next year, this will not be enough to normalize OECD stock levels, which OPEC estimates at 341 million barrels above their five-year average. ii. There were talks in April that Saudi Arabia and Russia had agreed a freeze in production to stabilize prices. This came to nothing and prices fell subsequently. iii. The agreement to cut output has resulted in higher prices (+6.11% since it was announced). In our view, while supportive for oil prices, it could be too early to raise our target price. Important details on the OPEC accord must still be clarified. iv. Saudi Arabia has between 60 to 70 years of proven oil reserves, but with mounting concern about climate change, growing environmental problems, etc. that will likely continue to put big pressure in the market for fossil fuels over the coming decades, Riyadh’s most serious risk is of sitting on a big chunk of “stranded reserves” that it could no longer extract and sell. Therefore, it is legitimate to think that Saudi Arabia has a powerful incentive to monetize as much of its reserves as soon as possible by pumping as much oil as it can (if only to fund the construction of a less oil-dependent economy). v. Riyadh’s immediate objective is to generate as much oil revenue as it can in order to prevent any deterioration of its fiscal deficit (that is running at 13% of GDP this year). vi. Saudi officials have repeatedly declared that they will only limit their own output if other producers – especially Iran– play along. Thus, a permanent deal to freeze production would only make sense if Saudi could be absolutely confident that all the other signatories would comply. If Saudi were to limit its output while others did not, Riyadh would lose market share without any compensating increase in price, and its revenues would decline. Thus, in the absence of any such confidence, the least risky course is for Saudi to keep pumping as fast as it can. vii. Hopes for a resurrected deal rest on the belief that Russia can influence Teheran’s decisions. Indeed, Russian and Iran’s interests are aligned in some areas –such as Syria, where strategic cooperation is clear– however some experts pointed out that Russian influence on Iran does not go beyond this. viii. Iranian authorities seem convinced that Saudi stepped up production in 2015 and early in 2016 in order to harm Iran’s oil prospects following the lifting of international sanctions. This makes any hypothetical cooperation between Iran and Saudi Arabia highly unlikely (even in the case of an agreement to stabilize oil prices). ix. Just some weeks ago Iran’s oil minister pledged to increase production from 3.6mn bbl/day currently to 4mn by the end of this year. Iran’s state oil company talks of pumping 6mn. In sum, all these factors make any coordinated work to limit production highly vulnerable. This is why we prefer to wait for more details before we rise our fundamental target. As such, we continue putting a ceiling on the price of crude somewhere in the vicinity of US$50 bbl
16
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Commodities GOLD: Buy at US$ 900/oz. Sell above US$1,100. Target price 1,000 Negative drivers: 1. Gold in real terms. In real terms the gold price (calculated as the current nominal price divided by the US Implicit Price Deflator-Domestic Final Sales, base year 2009, as a proxy for the global deflator) rose to $ 1202 (from $1195 last month) and continues to trade well above its 20-year average real price of $769. Given the global deflator (now at 1.1137), for the gold price to stay near its historical average in real terms, the nominal price (or equilibrium price) must remain near US$856. 2. Gold in terms of Oil (Gold / Oil): This ratio has ticked down to 30.2x (from 31.32x) but still remains above its 20-year average of 14.44. If the average oil price stays at $40 (our central target), the nominal price of gold must approach US$577 for this ratio to remain near its LT average level. 3. Gold in terms of the DJI (Dow Jones / Gold): This ratio has moved to 13.63 (from 13.99 last month), still below its LT average of 20.4x. Given our target price for the DJI of $17032, the price of gold must approach US$834 for this ratio to remain near its LT average. 4. Gold in terms of the S&P (Gold / S&P500 index): This ratio has moved to 0.62x (from 0.61x last month), still above its LT average of 0.5811x. Given our target price for the S&P of $2000, the price of gold must approach US$1,162 for this ratio to remain near its LT average. 5. Positioning in gold points to further falls: CFTC - CEI 100oz Active Future non-commercial contracts: longs fell to 326k (from 366k). Shorts also fell to 70k (from 81k) => Net positions decreased to +256k (from +285k). Speculators still remain very long in gold => Negative reading. 6. Financial liberalization in China. Higher “quotas” each month in the QFII are widening the investment alternatives for Chinese investors (historically focused on gold). 7. Central bank gold buying. Gold stocks at central banks are still considerably higher than 2008 levels. 8. Monetary stimulus by ECB and BOJ continues, but not by the Fed (the price of gold is in USD and therefore much more affected by the Fed’s decisions). This points to the following dynamics: gold stable or downward in terms of USD; gold price following an upward trend versus the EUR and JPY, which means that the USD must rise relative to the EUR and the JPY. Positive drivers: 1. Negative yields make Gold attractive. The disadvantage of gold relative to fixed income instruments (gold does not offer a coupon) is now neutralized, with negative yields in a large part of global bonds. 2. Amount of gold in the world: The total value of gold in the world is circa US$6.9tn, a fairly small percentage (3.2%) of the total size of the financial cash markets (212tn). The daily volume traded on the LBMA and other gold marketplaces is around US$173bn (2.5% of the world’s gold and just 0.08% of the total in the financial markets).
17
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Currencies – Fundamental Targets The global USD position has decreased during the summer and is now net long against the other currencies to the tune of US$8.9bn (from US$+10.8bn in August). The global position in USD is still well below the US$+44.3bn net USD position seen in April 2015, which means that long positions could still be much larger. In the other side, the shortest positioning in the USD was US$-6.8bn (seen last May).
• EUR/USD: Fundamental Target (1.05) Speculators remain short in EUR (vs USD) to the tune of US$-11.85bn (from US$-13.7bn last month) ending a steady cut in EUR positions that started in November. Despite their net short positions, there is still plenty of room for speculators to reach the lower end of the range (-24.3bn) seen during the last 12 months, meaning that they can still build shorter positions in EUR. In Z-score (3-year) terms, the EUR is now positioned in the upper half of the 12 month range, and is now among the longest (relative its past positions) currencies held by investors. All this suggests that the EUR is now slightly expensive in relation to it historical pattern.
• • • • • • • • •
JPY/USD: Target (110) JPY/EUR: Target (115.5) GBP/USD: Target (0.86) GBP/EUR: Target (0.90) CHF/USD: Target (1.00) CHF/EUR: Target (1.05) !MXN/USD: Target (20) MXN/EUR: Target (21) !BRL/USD: Target (3.1) BRL/EUR: Target (3.26) RUB/USD: UW RUB AUD/USD: NEUTRAL CAD/USD: UW CAD CNY/USD: Fundamental Target (6.45). Values of Change vs Net positions last week 1-yr Max (Bn $) (Bn $) (Bn $)
Currency USD vs All USD vs G10 EM EUR JPY GBP CHF BRL MXN RUB AUD CAD
8,87 7,14 -1,73 -11,85 7,23 -4,76 1,07 0,29 -2,26 0,24 0,52 1,24
1,01 0,38 -0,63 -0,43 0,30 2,07 0,90 -0,01 -0,53 -0,09 -2,20 -0,06
44,3 43,6 0,1 -3,1 8,2 0,7 1,4 0,4 0,0 0,3 4,6 2,0
1-yr Min (Bn $)
1-yr Avg (Bn $)
-6,8 -7,1 -2,2 -24,3 -8,0 -7,8 -3,2 -0,1 -2,3 -0,1 -4,7 -4,7
13,8 12,8 -1,0 -11,9 3,3 -3,6 0,1 0,1 -1,2 0,1 0,1 -0,8
Current Z-score 3-yr -0,78 -0,94 -0,71 0,04 1,69 -1,15 0,99 0,61 -1,19 1,59 0,59 1,35
3-year Z-Score: Current Position - 3 year average position 3-year Standard Deviation
Values above +1 suggest positioning may be overbought Values below -1 suggest positioning may be oversold
ANDBANK
4,0
Max Min Current
SPECULATIVE POSITION IN THE FX MARKETS (3Yr - Z SCORES. Max, Min & Current in 1Yr)
3,0 2,0 1,0 0,0 -1,0 -2,0 -3,0 -4,0
ANDBANK -5,0 USD vs All
USD vs G10
EM vs USD
EUR vs USD
JPY vs USD
GBP vs USD
CHF vs USD
BRL vs USD
MXN vs USD
RUB vs USD
AUD vs USD
CAD vs USD
18
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Market Outlook â&#x20AC;&#x201C; Fundamental Expected Performance Performance
Performance
Current Price
Target
Expected
Last month
YTD
30/09/2016
Year End
Performance*
USA - S&P 500
- 1,1%
5,2%
2.151
2000
-7,0%
EUROPE - STOXX 600
- 0,6%
-6,3%
343
334
-2,6%
SPAIN - IBEX 35
1,3%
-7,8%
8.796
9000
2,3%
MEXICO - MXSE IPC
0,0%
10,9%
47.672
49000
2,8% -0,6%
Asset Class
Indices
Equity
29/09/2016
BRAZIL - BOVESPA
- 0,4%
34,6%
58.351
58000
JAPAN - NIKKEI 225
- 1,6%
- 13,6%
16.450
16653
1,2%
CHINA - SHANGHAI COMPOSITE
- 2,1%
- 15,0%
3.009
3247
7,9% -12,3%
HONG KONG - HANG SENG INDIA - SENSEX MSCI EM ASIA
1,6%
6,7%
23.386
20521
- 2,0%
6,4%
27.786
29610
6,6%
1,5%
9,4%
725
730
0,7%
0,2%
7,4%
1,56
1,70
0,4%
- 0,5%
11,4%
0,71
1,00
-1,6%
Fixed Income
US Treasury 10 year govie
Core countries
UK 10 year Guilt German 10 year BUND
0,2%
6,5%
-0,12
0,20
-2,7%
Fixed Income
Spain - 10yr Gov bond
0,4%
8,2%
0,91
1,30
-2,2%
Peripheral
Italy - 10yr Gov bond
- 0,7%
4,3%
1,21
1,40
-0,4%
Portugal - 10yr Gov bond
- 2,1%
-4,6%
3,29
2,80
7,2%
Ireland - 10yr Gov bond
0,5%
7,4%
0,31
0,50
-1,2%
Greec e - 10yr Gov bond
- 1,2%
3,2%
8,08
6,50
20,7%
Fixed Income
Credit EUR IG-Itraxx Europe
- 0,1%
0,7%
72,57
75
0,0%
Credit
Credit EUR HY-Itraxx Xover
- 0,8%
1,7%
342,77
325
1,3%
IG & HY
Credit USD IG - CDX IG
- 0,2%
2,3%
78,24
63
0,9%
Credit USD HY - CDX HY
- 0,2%
6,5%
401,08
325
3,6%
Turkey - 10yr Gov bond
2,3%
16,0%
9,43
9,25
10,9%
Fixed Income
1,6%
19,9%
8,13
8,75
3,2%
Fixed Income
EM Europe (Loc) Russia - 10yr Gov bond Indonesia - 10yr Gov bond
2,1%
21,8%
6,91
7,00
6,2%
Asia
India - 10yr Gov bond
1,4%
11,8%
7,01
7,00
7,1%
(Local curncy)
Philippines - 10yr Gov bond
- 0,7%
6,8%
3,57
3,00
8,1%
China - 10yr Gov bond
0,4%
2,7%
2,73
2,80
2,1%
Malaysia - 10yr Gov bond
0,7%
8,1%
3,55
3,25
5,9%
Thailand - 10yr Gov bond
0,0%
4,7%
2,09
1,50
6,8%
- 0,3%
7,7%
1,85
1,25
6,7%
0,1%
7,3%
1,38
1,40
1,2%
Taiwan - 10yr Gov bond
- 0,4%
3,1%
0,72
1,00
-1,5%
Fixed Income
Mexic o - 10yr Govie (Loc )
- 1,1%
6,7%
6,00
6,50
2,0%
Latam
Mexic o - 10yr Govie (usd)
- 0,5%
11,1%
3,07
3,50
-0,4%
Singapore - 10yr Gov bond South Korea - 10yr Gov bond
Brazil - 10yr Govie (Loc )
4,9%
51,0%
11,63
12,00
8,7%
Brazil - 10yr Govie (usd)
- 0,1%
29,9%
4,65
5,00
1,8%
5,71
6,00
3,4%
Argentina - 10yr Govie (usd) Commodities
Fx
CRY
1,6%
5,5%
185,8
190,0
2,2%
Oil (WTI)
3,2%
29,1%
47,8
40,00
-16,4%
GOLD
0,7%
24,4%
1.320,1
1.000
-24,2%
EUR/USD (pric e of 1 EUR)
0,7%
3,3%
1,122
1,05
-6,4%
GBP/USD (pric e of 1 USD)
0,9%
13,7%
0,77
0,86
11,5%
GBP/EUR (pric e of 1 EUR)
1,7%
17,6%
0,87
0,90
4,3%
CHF/USD (pric e of 1 USD)
- 1,8%
-3,6%
0,97
1,00
3,5%
CHF/EUR (pric e of 1 EUR)
- 1,1%
-0,4%
1,08
1,05
-3,1%
JPY/USD (pric e of 1 USD)
- 1,9%
- 16,0%
101,01
110
8,9%
JPY/EUR (pric e of 1 EUR)
- 1,2%
- 13,1%
113,36
115,50
1,9%
MXN/USD (pric e of 1 USD)
3,9%
13,7%
19,52
20,00
2,5%
MXN/EUR (pric e of 1 EUR)
4,4%
17,4%
21,90
21,00
-4,1%
BRL/USD (pric e of 1 USD)
0,5%
- 17,7%
3,26
3,10
-4,8%
BRL/EUR (pric e of 1 EUR)
1,2%
- 15,0%
3,66
3,26
-11,0%
2,3% - 0,2%
18,7% -0,2%
15,35 6,67
16,00 6,45
4,2% -3,2%
ARS/USD (pric e of 1 USD) CNY (pric e of 1 USD)
* For Fixed Inc ome instruments, the expec ted performanc e refers to a 12 month period XX (Target cut)
XX (Target raised)
19
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Principal Contributors
Alex Fusté. – Chief Global Economist – Global & Asia & Oil: Macro, Rates, FX +376 881 248 Giuseppe Mazzeo. – CIO Andbank US – U.S. Rates & Equity. +1 786 471 2426 Eduardo Anton. – Portf. Manager US – Credit & Quasi governments. +1 305 702 0601 J.A Cerdan. – Equity Strategist Europe – European Equity. +376 874 363 Renzo Nuzzachi, CFA. – Product Manager LatAm – Rates & FX. +5982-626-2333 Jonathan Zuloaga. – Analyst, Mexico – Macro, bonds & FX. +52 55 53772810 Albert Garrido. – Portfolio Manager Andorra – European Equity. +376 874 363 Ricardo Braga. – Product Analyst Brazil – Products. +55 11 3095 7075 Gabriel Lopes. – Product Analyst Brazil – Products. +55 11 3095 7075 Andrés Davila. – Head of Asset Management Panama – Venezuela. +507 2975800 Mª Angeles Fernández. – Product Manager, Europe – Macro & Rates. +34 639 30 43 61 David Tomas. – Wealth Management, Spain – Spanish Equity. +34 647 44 10 07 Andrés Pomar. – Portfolio Manager Luxembourg – Volatility. +352 26 19 39 25 Carlos Hernández. – Product Manager – Technical Analysis. +376 873 381
20
ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
Legal Disclaimer All notes and sections in this document have been prepared by the team of financial analysts at ANDBANK. The opinions stated herein are based on a combined assessment of studies and reports drawn up by third parties. These reports contain technical and subjective assessments of data and relevant economic and sociopolitical factors, from which ANDBANK analysts extract, evaluate and summarize the most objective information, agree on a consensual basis and produce reasonable opinions on the questions analyzed herein. The opinions and estimates contained herein are based on market events and conditions occurring up until the date of the documentâ&#x20AC;&#x2122;s publication and cannot therefore be decisive in evaluating events after the documentâ&#x20AC;&#x2122;s publication date. ANDBANK may hold views and opinions on financial assets that may differ partially or totally from the market consensus. The market indices have been selected according to those unique and exclusive criteria that ANDBANK considers to be most suitable. ANDBANK does not guarantee in any way that the forecasts and facts contained herein will be confirmed and expressly warns that past performance is no guide to future performance, that analyzed investments could be unsuitable for all investors, that investments can vary over time regarding their value and price, and that changes in the interest rate or forex rate are factors which could alter the accuracy of the opinions expressed herein. This document cannot be considered in any way as a selling proposition or offer of the products or financial assets mentioned herein, and all the information included is provided for illustrative purposes only and cannot be considered as the only factor in the decision to make a certain investment. Additional major factors influencing this decision are also not analyzed in this document, including the investorâ&#x20AC;&#x2122;s risk profile, financial expertise and experience, financial situation, investment time horizon and the liquidity of the investment. As a consequence, the investor is responsible for seeking and obtaining the appropriate financial advice to help him assess the risks, costs and other characteristics of the investment that he is willing to undertake. ANDBANK expressly disclaims any liability for the accuracy and completeness of the evaluations mentioned herein or for any mistakes or omissions which might occur during the publishing process of this document. Neither ANDBANK nor the author of this document shall be responsible for any losses that investors may incur, either directly or indirectly, arising from any investment made based on information contained herein. The information and opinions contained herein are subject to change without notice.
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ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW OCTOBER-16
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