The Daily Prophet: Trade Jitters Take a Much-Needed Day Off
(Bloomberg View) -- Stock investors are always looking on the bright side. It’s in their DNA. They buy shares in a company and then root for it to do good things so profits rise over time, boosting the stock price. That tendency was on full display Monday as equities shrugged off their big declines on Friday -- which were sparked by fears of a brewing trade war between the U.S. and China -- and instead on focused on the impending start of earnings season.
At one point, the S&P 500 Index was up by the most in two weeks -- just days before the biggest U.S. banks kick off the quarterly reporting season -- before it pared most of the gains in late trading. By most accounts, it should be a good one. Members of the S&P 500 are forecast to say that earnings per share jumped 15 percent on average in the first quarter from a year earlier. Results like that, which would be in line with the fourth quarter’s results, should help relieve some of the concerns investors may have that a trade war could lead to slower economic -- and earnings -- growth. It wouldn’t take much to get stocks moving higher again. The selloff of the past two months has left the S&P 500 trading at about 16 times projected earnings, down from 18.5 in January and the lowest since mid-2016.
“Our market forecasts see returns of about 8 percent in global equities over the remainder of the year,” Citigroup strategists led by Mark Schofield wrote in a research note Monday. “However, risks are rising. The cycle is maturing, which is likely to bring higher interest rates and yields, wider credit spreads, and increased volatility.” The strategists noted that currently, just 2.5 of the 18 “red flags” are showing up on its bear market checklist, but that “could quickly become 6 or 7 as the cycle moves into the next phase.”
BONDS GET WHAMMIED
Bond traders got hit with a triple-whammy of bad news Monday. Not only did the rally in equities sap some of demand away from haven assets such as Treasuries, but data from Japan’s Ministry of Finance showed that the nation’s investors sold a net 3.6 trillion yen ($33.6 billion) worth of U.S. bonds in February, the second-most on record and the fifth straight month they reduced their holdings. Global investors, economists and government officials closely watch what the Japanese do in this space because they are the largest foreign holder of U.S. Treasuries after China, controlling $1.07 trillion of the debt. As such, the U.S. relies on demand from foreign investors such as Japan to finance its budget deficit. That’s where the third whammy comes in: Also on Monday, the nonpartisan Congressional Budget Office said the U.S. budget deficit will surpass $1 trillion by 2020, two years sooner than previously estimated, as tax cuts and spending increases signed by President Donald Trump do little to boost long-term economic growth. So if the Japanese are pulling back, and the Chinese follow through on their threat to slow or even stop their purchases of U.S. debt, who will step up to fill the void? Diminishing demand could force the U.S. to pay ever higher rates to attract investors, reducing the value of bonds that are currently outstanding.
THE EURO GETS A BOOST
After falling on Friday to its lowest against the dollar since the start of March, the euro began the week with a bang as top European Central Bank officials expressed confidence in the euro-area economy following a series of disappointing data. The euro surged as much as 0.4 percent in one of its biggest gains of the past few weeks. “We expect the pace of economic expansion to remain strong in 2018,” President Mario Draghi said in the ECB’s annual report. The Bloomberg Euro Index rose 9.80 percent last year, but has been stuck in a tight range since January. Citigroup’s economic surprise index for the euro area, which measure the data that exceed estimates against the data that fall below estimates, dropped below zero in late February, and is at its lowest since mid-2012. Perhaps the only reason the euro hasn’t fallen is because of the dismal performance of the greenback, which is down 3 percent this year as measured by the Bloomberg Dollar Spot Index, following an 8.52 percent drop in 2017. The Trump administration’s “irreconcilable” goals of cutting trade imbalances while funding large fiscal stimulus pose the biggest challenge to the international monetary system since the breakdown of the Bretton Woods agreement in the 1970s, George Saravelos, global co-head of FX research at Deutsche Bank, wrote in a research note. The only way to resolve these conflicting objectives is via a weaker dollar, he wrote.
Talk about bad timing. On Friday, investors poured about $20 million into the $1.88 billion VanEck Vectors Russia ETF, the largest exchange-traded fund focused on that country’s stocks. It was the ETF’s biggest inflow since mid-January, according to Bloomberg News' Carolina Wilson. It proceeded to tumble as much as 10.2 percent on Monday, its biggest drop since December 2014, the first trading after dozens of Russian tycoons and companies were slapped with the most punitive U.S. sanctions yet. Here’s the damage report: Moscow-traded stocks suffered their biggest drop in four years, the ruble slumped as much as 4.22 percent in its biggest decline since 2015, and the cost to insure Russian bonds against default soared. “The situation is ever more reminiscent of 2014,” Kirill Tremasov, director of the analysis department at investment company Loko-Invest in Moscow, told Bloomberg News. He was referring to a market crash that year following President Vladimir Putin’s annexation of Crimea and subsequent slump in oil. The speculation now is whether the credit ratings firms will turn negative. S&P upgraded Russia to BBB- from junk in February, matching Fitch. Moody’s has kept its rating at Ba1, or one level below investment grade. “With this latest round of sanctions likely to hit hard, we see downside risks to (economic) growth forecasts,” the strategists at Brown Brothers Harriman said in a research note.
LOAN DEMAND SOARS
Is it a sign of Animal Spirits, or just a case of getting while the getting’s good? That’s what investors and analysts are trying to figure out right now after Fed data late Friday showed that commercial and industrial loans outstanding surged by $14.2 billion in the week ended March 28, the most in two years. The $27.2 billion increase in all of March was also the biggest in two years. The optimists would say that the surge is just a reflection of confidence among business executives, who are looking for money to expand to take advantage of a growing economy. In each of the last two months, a record number of respondents to the NFIB Small Business survey said it was a good time to expand. The pessimists might say that it reflects concern among executives that a budding trade war and a wobbly stock market may upset credit markets restrict their access to financing down the road, so it makes sense to secure it now while it’s available. In recent days, financial conditions turned the most restrictive since November 2016 amid the turbulence in equities and higher short-term interest rates, according to data compiled by Bloomberg.
In a few hours, Chinese President Xi Jinping will either tamp down the rising rhetoric over a potential trade war with the U.S. or add fuel to the fire when he delivers the keynote speech during the opening ceremony of the Boao Forum for Asia taking place in Hainan Island, China. The speech is expected to happen sometime between 9:30 p.m. and 11:30 p.m. EDT. Since U.S. President Donald Trump’s latest threat to increase the value of imports from China subject to higher tariffs by $100 billion, Chinese officials have largely been quiet, meaning how Xi responds -- if at all -- will be a key signal for investors seeking to deescalate the conflict, according to Bloomberg News. “It’s not in anybody’s interest to go down to a full-blown trade war,” James Barty, Bank of America’s head of global cross-asset and European equity strategy, said on Bloomberg TV.
Trump Has Lost the Confidence of Investors: Robert Burgess
Treasuries Will Weather the Coming Debt Storm: A. Gary Shilling
Reports of the Death of U.S. Retail Are Premature: Neil Dutta
A Millionaire Mindset Never Made Anyone Rich: Barry Ritholtz
Life After Global Economy's Synchronized Upswing: Daniel Moss
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Robert Burgess is editor of Bloomberg Prophets.
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