Initiated exposure into US-listed ADRs of SFUN and ATHM that will benefit from further monetary easing from Beijing
Full report below
The turnaround in policy stance by Chinese authorities, beginning with the RMB 1 trillion stealth QE program last month, has driven bullish sentiment much higher than expected by analysts. The H-share index has entered a new bull market, rising more than 20% since the March lows this year, on speculation that Beijing is finally turning to further easing to meet its widely-announced growth targets.
As mentioned, we have initiated some exposure to the Chinese market, namely property and automobile sectors, through US-listed ADRs of SFUN and ATHM that will benefit from any monetary stimulus moving forward. It is clear that fiscal measures have brought with them broad-based financial risks and targeted rate measures will likely be the policy tool of choice moving forward.
Also, we recognize the enormously cheap valuations in Chinese equities and will gradually become our focus over the longer term, next 5 years, as developed market economic policies currently remain the most accommodating.
August inflation figures on Friday will play a significant role in the ECB's decision to enact new policy action to combat deflationary pressure. In last week's speech, Draghi gave a dovish outlook by commenting that the ECB could be edging closer to more Quantitative Easing. He cites a decline in inflation expectations at all horizons in August, as indicated by the financial markets.
True to his name in "doing whatever it takes", Draghi also stated that the shift in expectations is duly noted and that the Governing Council will use all available instruments within its mandate to ensure price stability over the long term. In the same vein, the French Prime Minister also reinforced the view that the Euro was still overvalued, and urged the ECB to do more in response to tackle excessive low inflation.
Draghi's Jackson Hole speech last week had already weakened the Euro significantly, which some believed has somewhat lowered the need for QE in the interim. However, we note that further QE is likely to place downward pressure on the Euro and boost market confidence.
Economic data out of Europe has been nothing short of weak with Germany, the leading economy, now facing economic contraction as a result of the slowing recovery. While European services PMI data continues to hold up, manufacturing PMI is moving closer to the contraction level of 50.0, providing a bleak overall outlook for Europe. With the recovery now in reverse gear, the pressure is well and truly on the ECB to take further action in September.
Most commentators insist that the ECB prefers to remain on hold since previous policy measures will only be enacted in September, but several developments have occurred that potentially negates this. Firstly, Draghi’s preferred gauge on inflation expectations, the 5yr-5yr swap rate, has crossed the 2% Rubicon indicating a decline in medium term inflation outlook. Secondly, Draghi’s speech at Jackson Hole included a statement that was delivered off the cuff, excluded from the prepared text, which he said “The Governing Council will acknowledge these developments and within its mandate will use all available instruments needed to ensure price stability over the medium term.” In other words, ABS purchases or QE is a done deal, to be delivered over the following months.
A curious development we have observed in financial markets is such that the European sovereign bond markets, both core and periphery, seem to have been expecting these events all along, over the past few months. Yields have remained low, despite the equity market correction in July, and have now plumbed new all time lows. Clearly, the sovereign bond market has clearly always been expecting ECB QE, from here the equity markets should be next in its adjustment.
As mentioned above, with ECB QE is more or less signed, sealed and soon to be delivered, European equities should regain their footing soon and perform strongly over the coming months.
Our focus currently remains on the banking sector due to the impending AQR stress tests and TLTRO take-up that will alleviate balance sheet concerns about European banks and promote capital investment in them. Some specific names we are looking at include Santander, ING Group, and Bank of Ireland, that currently have the best performance metrics. Overall, the entire banking sector should see a sustained lift over the coming months.
The headline news event over the past week for the Fed has been the Jackson Hole meeting, which has traditionally been used by global central bankers to make policy-changing announcements. With most market observers over-hyping the possibilities in policy stance by Janet Yellen, the result was almost certainly going to disappoint. Indeed so, as Yellen continues to remain neutral in her policy stance, with the pace of rate hikes determined by employment and inflation data. As neither of these data points has moved significantly recently, we expect the Fed to remain on hold until mid-2015 as is currently expected.
As such, this bodes well for US equities, with low inflation, strong earnings growth and low interest rates over the next year and places stocks in a sweet spot in this bull market.