Markets - 02.05.2019

Monthly Pulse #05 19: Central banks have the room to be patient

The FED stays in its patient and neutral stance. As core inflation remains muted in many countries, despite higher wage growth, central banks have the room to be patient. Markets are still pricing in two cuts by end of 2020. If history is anything to go by, they will not shift back to a tightening bias anytime soon.

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In the past it was common to hear the world economy being described as Goldilocks: an economy in a perfect balance - neither overheated nor in recession. Judging by equity markets, some are starting to think this state could be returning. Last week, US equities hit new all-time highs. More broadly, financial conditions have eased impressively since the turn of the year, reversing the tightening that occurred in the final quarter of last year.

This reversal was triggered by the volte-face of the FED and now most central banks have either scrapped or delayed interest rate hikes. The FED stays in its patient and neutral stance. As core inflation remains muted in many countries, despite higher wage growth, central banks have the room to be patient. Markets are still pricing in two cuts by end of 2020. If history is anything to go by, they will not shift back to a tightening bias anytime soon.

So where do we go from here? There has been some progress on trade policy uncertainty too. Reportedly, the US and China are close to a deal. Talks continue soon in Beijing and Washington. If so, it would be quick based on the average of 18 months it takes for the US to sign a trade deal. So, this uncertainty will accompany us even further through the summer. Speaking of China. The country's growth stabilized in Q1, suggesting the monetary and fiscal easing measures taken over the last year are having the desired effect. The latest credit stimulus is likely to see the global manufacturing PMI stabilize soon and then move somewhat higher over the rest of the year. Looking at the US macro picture, GDP expanded a better than expected 3.2% annualized in Q1, although the details were weaker as volatile net exports and inventories contributed more than half of total growth. . However, the corporate debt has risen quite sharply since the financial crisis and much of the funds have gone into share buybacks. As the earning cycle turns, overleveraged firms will be most vulnerable.The earnings season in the US has so far seen profits down around 4% YoY but there is likely more to come.

Fixed Income markets have not changed for one month. Credit Spreads tightened further by 16bp for junk bonds. Risk on mode was also reigning bond markets. However, bond markets are still pricing in a recession in 2020. We, therefore, only see limited upside of credit and interest rates and change therefore to an underweight in bonds.

Equity valuations have become more expensive after the strong rally of the past four months. Even though the PE ratios have risen, they are still below the levels of the beginning of 2018 but above their historical average. This should be a call for caution at least in the medium term. We expect price gains to become rather modest and market fluctuations greater again. We further reduce equities to a slight underweight.

EUR/USD is rather sideways after the pair found a bit of a base ahead of 1.1100. As CFTC data suggests market positioning has already been bearish with largest net short position since end of 2016. With carry trades in favour of the USD the pair is limited to the upside for the time being. Gold has lost its safe-haven appeal for now and may face further bearish pressure as the real interest rates in the US are likely to rise. Last week’s sharp down move in oil oil came after President Trump criticised the high crude prices, suggesting at the same time the OPEC to pump further oil to counteract the imminent termination of the US waiver programme for Iranian exports. With Saudis talk of extending cuts and Venezuela escalates, oil remains vulnerable.

This document has been prepared by Clarus Capital Group AG ("Clarus Capital"). This document and the information contained herein are provided solely for information and marketing purposes. It is not to be regarded as investment research, sales prospectus, an offer or a solicitation of an offer to enter in any investment activity or contractual relation. Please note that Clarus Capital retains the right to change the range of services, the products and the prices at any time without notice and that all information and opinions contained herein are subject to change. This document is not a complete statement of the markets and developments referred to herein. Past performance and forecasts are not a reliable indicator of future performance. Investment decisions should always be taken in a portfolio context and make allowance for your personal situation and consequent risk appetite and risk tolerance. This document and the products and services described herein are generic in nature and do not consider specific investment objectives, financial situation or particular needs of any specific recipient. Investors should note that security values may fluctuate and that each security’s price or value may rise or fall. Accordingly, investors may receive back less than originally invested. Individual client accounts may vary. Investing in any security involves certain risks called non-diversifiable risk. These risks may include market risk, interest-rate risk, inflation risk, and event risk. These risks are in addition to any specific, or diversifiable, risks associated with particular investment styles or strategies. Clarus Capital does not provide legal or tax advice and makes no representations as to the tax treatment of assets or the investment returns thereon, either in general or with reference to specific client's circumstances and needs. Recipients should obtain independent legal and tax advice on the implications of the products and services in the respective jurisdiction before investing. Certain services and products are subject to legal provisions and cannot be offered world-wide on an unrestricted basis. In particular, this document is not intended for distribution in jurisdictions where its distribution by Clarus Capital would be restricted. Clarus Capital specifically prohibits the redistribution of this document in whole or in part without the written permission of Clarus Capital and Clarus Capital accepts no liability whatsoever for the actions of third parties in this respect. Neither Clarus Capital nor any of its partners, employees or finders accepts any liability for any loss or damage arising out of the use of all or any part of this document. Source of all information is Clarus Capital unless otherwise stated. Clarus Capital makes no representation or warranty relating to any information herein which is derived from independent sources. Please consult your client advisor if you have any questions.

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