We remain positive on the main mature equity markets for the medium term
Central bank efforts led to a significant stock market upturn. It will take some time for improving fundamentals to be confirmed: volatility could increase in the short term.
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We change our recommendation on global equities from strongly positive to positive, likewise for the European and Japanese markets, and become neutral on the US market. Continuing economic growth will enable profits to grow, albeit at a very slow rate. Equities nonetheless remain the asset to favour over the long term. We a become positive on gold for its safe haven/diversification role.
Very accommodating central banks
The Fed has repeated that the US economy is growing moderately despite the global economic slowdown and capital market difficulties in recent months. It has, however, lowered its interest rate increase intentions for this year and become more dovish than expected. We stick to our scenario of one interest rate hike by the Fed this year, probably in September.
The ECB has acted by cutting its rates further into negative territory and by increasing its monthly bond purchases to €80 bn per month, including purchases of, non-financial, Investment Grade, corporate bonds. In addition, it will ensure liquidity for the banking sector by conducting 4 new LTRO programmes.
We think that the Chinese and Japanese central banks will take further measures in the coming weeks.
Although all the central banks have been accommodating, the biggest surprise came from the Fed. It is therefore the US yield curve that has declined the most because the revisions to US short-term interest rates were significant (4 Fed fund hikes expected last December versus 1 or 2 now). Moreover, the Fed communicated on a terminal rate (the end of the hiking cycle for Fed funds rates by end-2018) of 3%, i.e. an historically very low rate.
Consequently, the dollar depreciated against all currencies, including euro and yen.
We think that appetite for the US currency will return thanks to an interest rate increase later in the year. The US economy is outperforming the Eurozone and, overall, the ECB is conducting a strong Quantitative Easing that excludes any long-lasting re-appreciation of the European currency in our view. We keep our target at 1.08.
We temper our positive opinion on equities
Since their lows on 11 February, stock markets have posted a considerable recovery, pushing global indices to major resistance levels, namely the 200-day moving average. The latter is trending downwards, indicating that a period of transition is necessary before a lasting move into an upward trend.
Fundamentally, we remain positive on equity markets: corporate earnings should rise in 2016/2017 because of persistent economic growth, valuations that are reasonable in absolute terms and very positive compared with bonds, since the level of bond yields is very low.
However, we temper our view on stock markets, changing it from strongly positive to positive: return on equity investments should be positive in 2016, including a significant amount from dividends, but the short term (the next 3 months) risks being volatile still. The markets have to digest several points: the earnings season for the 1st quarter is just beginning, with its share of uncertainties linked to oil prices (very negative impact on profits in this important sector) and to forex trend repercussions, particularly re-appreciation of euro and yen.
Several political deadlines risk weighing in the coming months, particularly the referendum in the UK and likely new elections in Spain.
Several geographical changes
We remain positive on mature markets but change our stance on the US from positive to neutral, and on Europe and Japan from strongly positive to positive.
The US market has performed very well in the last few years, supported by a growing economy, record corporate earnings and, more recently, by a weak dollar. It is therefore now very advanced in the economic cycle, companies have again increased their leverage and overall we no longer consider the upside potential of the US stock market sufficient for remaining positive.
We therefore take profits on this market that has almost reached its all-time high.
We temper our opinion on the Eurozone equity markets, changing our view from strongly positive to positive because the short term is uncertain owing to the euro’s recent strength (risk on profit earnings announcements by international companies) and to the general political climate (refugee crisis, June referendum in the UK, coming elections). In the longer term, we remain positive: potential for growth to recover, determined steps by the ECB, favourable earnings improvement trends, very cheap valuation.
Regarding Japan, a very disappointing market this year owing to the yen’s strength and unfavourable wage negotiations, we also temper our optimism in the short term. Our medium-term optimism remains based on the expectation of new measures by the authorities - either by the BoJ or by Abe’s government through fiscal stimulus, of a forthcoming cut in corporate tax, of renewed M&A activity, of rising dividends or of corporate share buyback programmes.
It is still too soon to invest again in emerging markets as a whole. The emerging zone is increasingly dis-similar from an economic viewpoint and its economic fundamentals are not currently improving. The recovery of emerging markets since the beginning of year is linked to the dollar’s weakness and to the Fed. We consider it excessive in Latin America. We become negative on Brazil (instead of neutral) and neutral on Mexico (instead of positive). We upgrade our opinion on India and Indonesia to positive (instead of neutral); in both these Asian countries, the growth and inflation fundamentals are improving and the monetary policies still have leeway.