Macro:

  • The US Fed raised interest rates by 0.25% as widely telegraphed and expected. The minutes of the meeting will only be available in three weeks but the press release indicated no change in pace, that is three hikes in 2017. Economic data had been strong and some parts of the market were expecting more hawkish language. US treasuries rallied and the USD fell.
    The BoJ announced no change to policy in any area from rates to asset purchases or yield curve control targets. This was widely expected.
  • The BoE held benchmark rates and backed away from more stimulus as it awaits more data and clarity on the impact of Brexit. The market had expected a rate cut.
  • The PBOC raised rates as expected. The central bank is managing the potential hangover from a year of significant credit infusion which has kept China’s GDP growth on target.
  • Two weeks ago, the ECB signalled the possibility of raising rates before the end of its asset purchase programs.

It would appear that global growth is in a synchronized recovery, inflation was normalizing and central banks were as a group no longer in rate cutting mood. The Fed, already in rate hiking mode, was careful to signal the gradual pace of its planned rate hikes while the ECB and BoJ were unlikely to be raising rates soon. While a recovery is underway it remains a fragile one, particularly in Japan, and central banks are unlikely to want to choke it off before it gains traction. The PBOC’s actions are a little bit different, normalizing from a highly expansionary policy in 2016 rather than outright tightening.

Equities:

Equities continued to edge higher after the Fed’s rate hike. Asia ex Japan, China and India are leading the pack year to date as a manufacturing and trade rebound drive emerging markets.

In Japan, an incipient recovery is driving small caps to outperform the large cap benchmarks.

While in India, the resilience of growth relative to expectations of a demonetization slowdown is similarly propelling small and mid caps to outperform broad benchmarks.

VIX is an interesting quantity. Volatility is bounded above and below and is therefore mean reverting. It tends to spike and fade thus spending less time at elevated levels and more time at lower levels. The frequency or separation of spikes varies from a two to six months with locally consistent intervals. The last volatility spike was Nov 2016. We are now approaching a five month lull in volatility and VIX is at 11.2, certainly close to the low of its historical range.

Bonds:

With what appears to be a global turnaround in central bank policy, bond yields can reasonably be expected to rise, especially where policy has been least priced in, such as the Eurozone. The JGB curve is under tight BoJ control and is likely to sit where it is until the BoJ changes course.

We saw high yield spreads bottom out early March and widen. Investment grade spreads were more stable. However, credit is no longer cheap on a historical basis. That said, spreads relative to falling default rates remain attractive. Technicals may see some profit taking and some market fatigue.

In the loan market prices have risen to par and returns are now coming from coupon which limits somewhat the potential upside. Defaults continue to improve which counter the extension of valuations.

FX:

EUR has seen strength on the back of stronger European PMIs and HICPs and was also boosted by the ECB’s speculation about the future path of rates. The relief after the PVV was defeated in the Dutch elections also supported the EUR. Next up is the French elections where Marine Le Pen’s prospects of making it through both rounds are slim. Given the data and some easing of political concerns, EUR is likely to see short term strength.

The pace of the recovery in Japan is still quite moderate and the BoJ is unlikely to want to tighten monetary conditions so early in a recovery. On top of this is the potential for de facto monetization which would keep financial conditions loose. JPY is likely to remain weak under these scenarios.

Commodities:

Gold is often regarded as an inflation hedge yet the steady increase of inflation through 2016 has seen gold volatile and range bound between 1125 and 1350. Unless political risk rises significantly gold is unlikely to rise significantly.

In less than a year, the US rig count has gone from 318 to 617. US inventories have been volatile adding to crude oil price volatility. A week ago inventories surged, last week they retreated. Saudi production was raised unexpectedly albeit well within quota to restock depleted inventory, but the news was taken badly. Oil is a complex and volatile market and short term noise can interfere with signal. On balance we maintain a bullish bias on longer term demand and supply dynamics as well as the strategic intentions of Saudi Arabia ahead of the Aramco IPO.

Industrial commodities too are complex and volatile but the long term prospects are highly dependent on global growth. We believe the world is in a correlated growth phase and that this should support industrial commodities and carry them further than the initial impulse of China’s 2016 efforts to maintain a target GDP growth.

Week ahead:

Mar 20

  • EU finance ministers meeting
  • UK Rightmove house prices
  • UK CBI Industrial trends

Mar 21

  • UK CPI
  • BoJ minutes
  • Juncker & Tusk to meet Abe in Brussels
  • Japan customs cleared trade
  • BoJ’s Funo speaks

Mar 22

  • Taiwan unemployment
  • US existing home sales

Mar 23

  • Singapore CPI
  • UK retail sales
  • German consumer sentiment
  • French manufacturing confidence
  • Fed’s Yellen and Kashkari speak
  • US new home sales
  • Eurozone consumer sentiment

Mar 24

  • France, Netherlands GDP
  • France, Germany Mfg and Services PMI
  • Eurozone Mfg, Svc and Composite PMI
  • Singapore industrial production
  • US durable goods
  • Fed’s Evans and Bullard speak