Franklin Templeton’s Notes from the Trading Desk offers a weekly overview of what their professional traders and analysts are watching in the markets. The European desk is manned by eight professionals based in Edinburgh, Scotland, with an average of 15 years of experience whose job it is to monitor the markets around the world. Their views are theirs alone and are not intended to be construed as investment advice.
Last week global equities were weaker overall on what turned out to be a rather interesting week in terms of newsflow. The MSCI World Index finished down 1.5%, the S&P 500 Index was down 1.3%, the STOXX Europe 600 was down 1.2% and the MSCI Asia Pacific was down 2.3%. Headlines remain mixed as we progress towards some kind of loosening of the COVID-19 lockdowns. Toward the end of last week, it became apparent that we may be waiting for longer for a vaccination after Gilead announced its antiviral drug had suffered a setback during its first trial. Outside of that, the key headline was in the energy sector as oil prices moved into negative pricing for the first time in history.
Update on the COVID-19 Situation
Last week, we saw a number of regions tentatively moving towards easing lockdowns amid declining infection and death rates. It appears that Germany and Italy have peaked. Spain saw an uptick again in coronavirus cases last week, but it remains largely on a downward trajectory.
In terms of UK data, it is worth noting that whilst we may have seen a peak, the daily deaths in the United Kingdom are estimated by some to be much higher, as the official figure only includes deaths occurring in hospitals. Whilst there are falling death tolls across Europe, we are still far from understanding what recovery looks like, both socially and economically. We have seen some analysis that a return to 2019 levels for hotels could take at least six years, in a clear sign of just how drawn out this has the potential to be.
Oil Pricing Drama
Last week was an historic week for the oil market as we saw prices fall into negative territory for the first time. With the physically settled May West Texas Intermediate (WTI) futures due to expire on 28 April (for May delivery), holders began to sell out of their positions at any cost late on Monday, trading as low as -USD$40 per barrel at one point. This all centred around capacity issues, due to WTI being landlocked supply. WTI is stored in Cushing, Oklahoma, and with inventories rising at a rate of 6-7 million barrels per week, storage at the facility in Cushing will soon be near capacity with no room for additional oil supply.
As an example of the selling pressure on Monday last week, the United States Oil ETF (USO) held around 25% of the outstanding volume of the May WTI futures contract, a sizeable holding. Thus, as holders such as USO looked to sell out of their positions, and with a material lack of physical buyers at this time, prices in the May futures contract plummeted. (Futures contracts represent an agreement to buy or sell a commodity at a specified price at a date in the future.)
Despite the headlines, the extreme move to <USD$0 was only limited to one futures contract. Whilst the WTI and Brent oil June futures contracts did hit lows of ~US$6.50 and US$16 respectively last week, they have since recovered. We certainly are in unprecedented times as oil markets try to digest an overwhelming drop in demand combined with storage facilities nearing capacity—leading buyers to figure out where to store the oil upon delivery.
As OPEC+ countries start to make cuts to production in the background, naturally, focus remains on when to expect that return of demand. The third quarter has been cited as the period we might expect a sharp recovery in demand as lockdown guidelines loosen and people get back to work on some level. Of course, the return to some level of normalcy relies on the continuous management of contagion on a global scale.
The oil and gas sector in Europe has been notably volatile of late, with stocks in the sector regularly coming in as the daily underperformers or the outperformers over the last few weeks. The sector was one of the outperformers in Europe last week, but remains the third-worst performing year-to-date.
European Union Eurogroup Meeting: Recovery Fund Welcome, but Detail Lacking
Last week’s Eurogroup meeting had fine intentions, with leaders agreeing to the creation of a COVID-19 recovery fund. We saw European equities initially rally, but there was no clarity on the size of the fund, nor a clear decision on whether it would disburse its cash to troubled governments through loans or grants.
We have talked a lot about “coronabonds” in recent weeks. These did not materialise given the pushback from Germany and the Netherlands (as expected), but the joint recovery fund agreed to will hopefully diffuse the political tensions that had been rising around the refusal from the likes of Germany and the Netherlands to agree to jointly issued bonds. However, reports that several governments were opposed to a generous package suggest that reaching an agreement on the specifics may be difficult. A package involving grants would likely ease tensions (and Italian yield spreads), but a package involving loans would be less likely to.
In terms of financing, the preferred option, according to The Multiannual Financial Framework (MFF), seems to be to increase the long-term EU budget, but there are no details on how the budget would be increased. The group is expected to meet on the 6 May to work on the details, but the fund will not hit the economy until 2021. We could be looking at a drawn-out period of negotiation. Still, Italian Prime Minister Giuseppe Conte welcomed the creation of the fund as “great progress, unthinkable until a few weeks ago”.
Another theme we were watching last week was the high number of corporate placings, particularly in the United Kingdom. The investor appetite is certainly there for these, with very tight pricing in most cases. Also on the corporate front, the Financial Times reported on concerns that US banks are retreating to home territory, becoming highly cautious over lending to European companies. As an example, JP Morgan recently pulled out of talks over an additional credit line for BASF. This could prove important given current liquidity concerns.
Week in Review
European equities were broadly lower last week with headlines on COVID-19 developments, the unfolding oil pricing drama, and the Eurogroup’s meeting last week all at play. First-quarter (Q1) earnings season also kicked off properly in Europe, and we had some rather ugly economic data.
On the equity market front, the United Kingdom was the relative outperformer (albeit still down), helped by the weaker pound. Italian equities were also helped into the end of the week, by the more conciliatory response from the Eurogroup, with the Italian banks finishing up on the week. Spanish equities lagged on the week after they saw a return to growth in their COVID cases.
In terms of sectors, it was the year-to-date outperformer which won again for obvious reasons, health care. Equities in the oil & gas space showed some resilience too, despite oil prices being buffeted around, with the sector also finishing up. At the other end, it was travel and leisure which lagged, as all indicators pointed to a very slow and labored recovery for the sector. Retail stocks also remained under pressure, with most of Europe still in strict lockdown. Notably, the eurozone’s luxury stocks got hit again.
Macroeconomic data last week was particularly grim, with April Purchasing Managers’ Index (PMIs) sending a bleak message. Services PMIs fell to between 10 and 16 across the euro area, whilst manufacturing declined closer to 30.
After the close last week, Italy was spared a potential downgrade to its credit rating by credit rating agency Standard & Poor’s. The rating was held at BBB which is seen as a bit of a reprieve for the country’s bonds. Forecasts have shown an increase in Italy’s debt level to 153% of gross domestic product (GDP) by the end of 2020 as the government battles to fight the economic impact of the coronavirus.
A quieter week for US equity markets as investor focus was clearly watching any news on COVID-19. While a nuanced picture across different states remains, there were signs that new infections and deaths may be plateauing, and the picture in the US epicentre, New York, seemed to be easing. The debate around when and how to end lockdown was a key focus too, with the states of Colorado, Mississippi, Minnesota, Montana and Tennessee set to join several others in reopening some businesses. News that the US House of Representatives passed a US$484 billion package to aid small businesses and provide support for hospitals and virus testing helped support investor sentiment.
Looking at sectors, energy was the best-performing sector last week. In contrast, defensive stocks lagged, with the consumer staples and utilities both down on the week as we saw a little mean reversion for recent outperformers. Macro data remained weak, but broadly in line with market expectations: Weekly Initial Jobless Claims came in at 4.427million; March Durable Goods Orders were down -14.4% and the latest Markit US Composite PMI stood at 27.4.
An interesting barometer of investor sentiment is the CNN Fear/Greed Index. It does still show a “Fear” rating; however, the latest reading is well off the “Extreme Fear” levels we saw back in March, pointing to an improvement of mood.
Asia Pacific (APAC)
It was a quieter week in Asia as well last week, with the MSCI Asia Pacific Index -2.3%. Chinese equities saw small losses. South Korea equities were lower, too, as GDP (quarter-over-quarter) was actually not quite as bad as feared. North Korea was in focus as there was much speculation around the health of North Korean leader, Kim Jong Un. Rumours circulated he was “gravely ill”.
While the COVID-19 pandemic appears under control in a number of APAC nations including China, New Zealand and Australia, there are concerns over rising case numbers in Japan. This will remain a key focus going forward.
Asian equities were well supported as we kick off the new trading week, with the Nikkei finishing up 2.7% after the Bank of Japan (BOJ) raised quantitative easing measures. Policymakers vowed to increase purchases of corporate bonds and commercial paper from a combined ¥7 trillion to ¥20 trillion; remove the ¥80 trillion annual quota for Japanese Government Bond (JGB) purchases; and start cash handouts as early as possible in May in what is the second straight month of expanding monetary stimulus from the BOJ. The central bank also kept rates unchanged, as expected.
Tuesday 28th April:
- Economic Data: France: (April) consumer confidence; US (March) wholesale inventories, (April) consumer confidence; Japan (March) jobless rate.
- Monetary Policy: Riksbank interest-rate announcement: no change expected.
Wednesday 29th April:
- Economic Data: Germany: (April preliminary) CPI; US (Q1) GDP; eurozone (March) money supply.
- Monetary Policy: Federal Open Market Committee (FOMC) interest-rate announcement and Chair Jerome Powell press conference
Thursday 30th April:
- Economic Data: France: (1Q, preliminary) GDP, (April preliminary) CPI; Italy (1Q, preliminary) GDP (April, Preliminary) CPI; Germany: (April) unemployment; eurozone (Q1) GDP; US (April) jobless claims; Japan (March) industrial production; China (April) manufacturing and non-manufacturing PMIs.
- Monetary Policy: ECB policy meeting.
- Holiday: Hong Kong
Friday 1st May:
- Economic Data: UK: (March) M4 Money supply; US (April) ISM manufacturing; Japan (April) Tokyo CPI; OPEC+ supply cuts are scheduled to take effect.
- Holidays: Germany, Italy, Spain, France among many other markets closed in Europe on 1 May for Labour Day. Hong Kong also closed.
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