Detecting markets turning points
CAST risk perception failed to show a structural increase. EPS revisions started moderating (reducing the gap with negative data surprises) but CBs are still keeping credit risk premia low and the USD momentum softened on the margin. All in all we are lacking evidences of structural de-risking, yet visibility on the next steps keeps deteriorating.
We consider five inputs which we call “Sentinels”: USTW$, Moody’s Baa-Aaa, EPS revisions, Earning Yield risk adjusted and Cash Flow yield risk adjusted. These sentinels are used to reposition our tactical asset allocation. Once sound thresholds are detected, the five variables are aggregated as an indicator that anticipates the market’s stress conditions, with a certain level of conviction. The pentagon visualizes the five sentinels where the red line represents the alert threshold. The greater the distance above the red line, the higher the risk perception, and eventually the need to move closer to a defensive asset allocation.
1 - The energy crisis should be temporary
Natural gas prices have surged, contributing to global resource inflation.
China and Europe are seeing the largest demand/production imbalance.
Despite the rally, natural gas prices are not out of control, and, as the world is expected to ultimately be in net surplus, naturalgas flows will rebalance imports in Europe and Asia.
Central case: no power crunch this winter in European and Chinese energy, but pressure persisting.
2 - China’s growth forecast downgraded and impact on EM countries
Slowdown in China to affect Chile and Peru the most via trade and commodity exports.
3 - EM short- and medium-term economic backdrop update
Economic momentum tracked by CEMI deteriorated more than expected, driven by GEM component (specifically China).
Inflation looks more persistent, putting pressure on monetary policy and nominal (and real) rates.
Medium-/long-term: atypical normalisation: growth to potential and inflation at last-decade highs.
In the short term, this is a less benign environment for valuation in risky assets, which markets have not yet priced in, despite the recent pullback.
4 - G10 FX in a narrow range
Most of our year-end targets were reached in September 2021, with cyclical currencies hitting lower levels than what wepreviously expected.
Main FX themes currently:
As we enter the winter season in the northern hemisphere, the rising number of Covid cases is reviving fears of a new wave. China is witnessing a resurgence of the outbreak, despite its mass vaccination campaign, albeit with a less effective vaccine. In western Europe, several countries including France and Germany are seeing an increase in weekly cases, although the level of Covid-related deaths is still limited. The UK is an outlier with three times more cases than on the Continent and eight times more casualties. But the main concern relates to Central and Eastern Europe, where the vaccination rate remains low and the infection and death rates are among the highest in the world. In Romania, Bulgaria and Moldavia, which are at the heart of this new wave, the number of daily deaths per one million inhabitants is 10 to 15 times greater than in the West. A lack of trust in authorities, inefficient public health structures and political instability explain the low vaccination rate (20-30% on average) which translates into a high death rate. Across emerging countries, the Covax programme backed by the WHO has not (yet) provided enough vaccines to limit the circulation of the virus, which means we could see the emergence of more virulent strains with far reaching consequences for advanced economies.
Pierre BLANCHET, Head of Investment Intelligence
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