Mechelany Advisors' WEEKLY MARKET REVIEW highlights the salient feature of the past week, details specific issues of the moment and reviews the Mechelany Advisors' MODEL PORTFOLIO, CHINA DEEP VALUE PORTFOLIO and the CHINA BANKS PORTFOLIO
Federal Reserve Chair Jerome Powell said the central bank could begin reducing its monthly bond purchases this year, though it won’t be in a hurry to begin raising interest rates thereafter.
The economy has now met the test of “substantial further progress” toward the Fed’s inflation objective that Powell and his colleagues said would be a precondition for tapering the bond-buying, while the labor market has also made “clear progress,” the Fed chief said Friday in a virtual speech to the Kansas City Fed’s annual Jackson Hole symposium.
At the Fed’s most recent policy meeting in late July, “I was of the view, as were most participants, that if the economy evolved broadly as anticipated, it could be appropriate to start reducing the pace of asset purchases this year,” Powell said.
“The intervening month has brought more progress in the form of a strong employment report for July, but also the further spread of the delta variant,” he said. “We will be carefully assessing incoming data and the evolving risks.”
Investors took the news of the coming taper in their stride — avoiding any hint of the so-called 2013 “tantrum” when the Fed surprised markets by unexpectedly announcing it would start to pare back asset purchases.
The S&P 500 rose during the much-anticipated address to stand more than 0.6% higher. Ten-year Treasury yields nudged slightly lower to around 1.33% and the dollar fell.
Powell cautioned that a move to begin winding down the bond-buying program should not be interpreted as a sign that rate hikes would soon follow.
“The timing and pace of the coming reduction in asset purchases will not be intended to carry a direct signal regarding the timing of interest-rate liftoff, for which we have articulated a different and substantially more stringent test,” Powell said.
“We have said that we will continue to hold the target range for the federal funds rate at its current level until the economy reaches conditions consistent with maximum employment, and inflation has reached 2% and is on track to moderately exceed 2% for some time,” he said.
“We have much ground to cover to reach maximum employment, and time will tell whether we have reached 2% inflation on a sustainable basis.”
Many of the regional Federal Reserve presidents who spoke on Friday morning — including Atlanta’s Raphael Bostic, Cleveland’s Loretta Mester, Dallas’s Robert Kaplan and St. Louis’s James Bullard — repeated their views that they favor the taper starting soon.
Quarterly projections published in June showed seven of 18 FOMC participants thought it would be appropriate to begin raising rates next year, while six more expected rate increases would become appropriate by 2023.
Total U.S. employment is still about 6 million jobs below pre-pandemic levels. June and July were strong months for hiring as restrictions on service industries were lifted across the country, but the recent spread of the coronavirus delta variant is raising uncertainty about prospects for the months ahead.
The Fed chair stuck to the central bank’s message that the current bout of inflation is likely to be transitory, emphasizing that the recent rise “is so far largely the product of a relatively narrow group of goods and services that have been directly affected by the pandemic and the reopening of the economy” and should be expected to dissipate.
Powell noted that there is little evidence of a “wage-price spiral,” where pay increases might threaten excessive inflation.
He pointed to inflation expectations measures as a sign that consumers, businesses and investors also share that assessment, and highlighted the risk that downward pressures on inflation, of the kind observed over the last decade, could reassert themselves once the pandemic ends.
The FED is massaging the message but the announcement is there : The Fed will start reducing its bond purchases this year and not next and, depending on inflation measures, rates may follow suit.
As we have argued all along, the FED cannot maintain negative real bond yields for too long and the announcement, although seen by liquidity-addicts markets as a non-event, is a significant turn in monetary policy.
We will be watching the markets for the right time to start shorting bonds…
Risks are building Up in Global Equities
The US S&P 500 hit another record on Friday after Jerome Powell’s dovish taper speech reassured investors. However, the mood seems more cautious compared with a few weeks ago, when companies were in the middle of a record-setting earnings season.
All the concerns boil down to one big debate: Has the recovery from the pandemic already peaked? That’s a question that will only be answered in the months ahead. For now, investors say they’re scouring through management commentary and economic data for any hint about what’s to come.
Overvalued Equity indexes have recorded the longest stretch of continuous record highs ever, while we ahem clearly seen the best of the earnings recovery, with cumulative earning still below their 2018 and 2019 record levels.
As a result, we have been increasing our Short US equity positions and re-balanced our long biased towards a more neutral posture.
What are the risks ahead ?
The Delta Variant
Even with the delta variant raging in many countries, the conventional wisdom among investors on the pandemic at this point is that vaccination will keep the coronavirus in check. The risk is that the hospitals again get overwhelmed, forcing another round of lockdowns globally that slam the economy and key sectors such as travel, which is already one of the worst-performing groups in Europe and the U.S. in the second half. Asia is coming late to the crisis but the recent economic data coming our of Jpana have demonstrated the impact of the Delta Variant on the economy.
Rising Bond yields
As the economies keep chugging along, the prospect that Central Banks will reduce their Bond buying is increasing and Jerome Powell’s testimony on Thursday confirmed that it would tale place in Q3 / Q4 2021.
As the Fed owns 50 % of the stock of US Treasuries in circulation, less buying by the FED and more selling by the US Treasury will tilt the valance of demand and supply, leading to higher yields ahead.
Stock prices have benefited from more than a decade of ultra-low borrowing costs that have pushed investors to invest in equities. TINA, TRINA and TINAAA ( There is No Alternative At All ) may be coming to an end and sky high valuations based on near zero discounted cash flow rates would spell trouble for equity markets.
Higher rates will hit the stocks with the highest valuations, such as tech and chipmakers. Any rise in bond yields will ultimately lead to a derating of equities.
The second-quarter earnings season was one for the record books — 87% of companies in the S&P 500 reported better-than-expected results, a record number not matched in almost 30 years of historical data.
With beats being so widespread, there is a risk that expectations for coming quarters are too high. Investors have now got accustomed to companies beating analysts’ projections.
Moreover the pace of the economic recovery and therefore of earnings recovery is clearly slowing down while stocks valuations are still climbing up.
Besides the shortage of chips that will last until 2023 at least and affects many industries, an undersupply of raw materials, shipping containers and labor is causing a surge in prices. Many companies such as Tyson Foods Inc. and Henkel AG are among the big names that have voiced concerns concern that a rise in costs could hurt margins.
The US / China Stupid war
After his election, Joe Biden had a n opportunity to re-normalise relationship with China and create a more appeased climate. Unfortunately, the anti-China sentiment has become such in America that it does not pay to calm things down. The constant antagonisation of China will only push China further into its own retrenchments. A prominent group of US Business leaders is warning the Biden Administration that America should veer course and they are re-establishing working relationship with the Chinese authorities, but this may not be enough to prevent China from restricting US corporations’ access to the Chinese market in the future.
The Week in Review
Gold rose 1.5% to $1,818 an ounce on Friday, its biggest daily gain in two weeks after the Fed Chair Powell said the Federal Reserve will likely begin to ease off its monetary stimulus packages but added that interest rate hikes are still off in the distance. At the same time, worries over the rapid spread of the Delta strain persisted, as some countries in the Asia-Pacific imposed fresh restrictions. For the week, gold advanced more than 2%.
Silver was close to the $24/oz level, the highest in 3 weeks.
Shipping Costs at 11-Year High
The Baltic Exchange Dry Index rose 1% to 4,235 on Friday, a more than 11-year high as gains in the larger capesize segment countered a retreat in panamaxes. The capesize index, which tracks iron ore and coal cargos of 150,000-tonnes added 2% to 6,162 and the supramax index went up 33 points to an all-time high of 3,470. On the other hand, the panamax index which tracks cargoes of about 60,000 to 70,000 tonnes of coal and grains, decreased 0.9% to 3,874. For the week, the Baltic Exchange’s main dry bulk sea freight index climbed 3.5%, its sixth straight week of gains buoyed by both the capesize index (2.8%) and the panamax index (6.1%)
Oil jumps 10 % ahead of Ida
WTI crude futures jumped 10.6% to $68.74 a barrel in the fourth week of August, the highest close since August 12th and the biggest weekly gain since June of 2020 as energy companies in the US Gulf of Mexico started shutting production ahead of Hurricane Ida which is expected to hit the coast early next week.
Meantime, investors remained confident that fuel demand would recover after China managed to curb its recent coronavirus outbreak and Pfizer-BioNTech got full approval for the covid-19 vaccine from the FDA. However, fears over rising cases of the Delta strain persist as some countries in the Asia-Pacific region including Australia, Japan, and New Zealand imposed fresh restrictions to battle new outbreaks.
US Consumer Sentiment at record Low
2021 from a preliminary reading of 70.2. It is still the weakest reading in more than a decade, mainly due to a slump in the expectations gauge (65.1 vs 79 in July), as personal financial prospects continued to worsen due to smaller income gains amid higher inflationary trends.
Consumers’ extreme reactions were due to the surging Delta variant, higher inflation, slower wage growth, and smaller declines in unemployment. The extraordinary falloff in sentiment also reflects an emotional response, from dashed hopes that the pandemic would soon end and lives could return to normal. Current economic conditions also worsened (78.5 vs 84.5 in July). Inflation expectations for the year ahead eased to 4.6% from 4.7% in July while the 5-year outlook went up to 2.9% from 2.8%
Macau’s economy rebounds 70 % Year on Year
Macau’s economy expanded 69.5 percent year-on-year in Q2 of 2021, rebounding from a 0.9 percent contraction in the previous period. It was the highest growth rate since the series began in 2002, ending a more than two years of contraction with the pick-up in external demand and the epidemic under control helping growth.
Exports of services soared 555.6% from a year earlier, particularly gaming services (1,089.7%) and other tourism services (1,328.3%); and exports of goods surged by 606.9%. Meanwhile imports of goods swelled by 173.5% while imports of services rose by 54.2%. Elsewhere, inventories (219% vs 85.5% in Q1) and government expenditure (0.4% vs 0.2%) advanced faster while consumer spending slowed (11.5% vs 14.8%) and gross fixed capital formation declined (-10.1% vs 20.3%).
Malta’s GDP expands the most since 2001
The economy of Malta expanded 13.4% year-on-year in the second quarter of 2021, after a downwardly revised 1.3% fall in output in the previous three-month period.
It was the highest expansion recorded since at least 2001, after a record 14.7% slump last year due to the coronavirus crisis. Most sectors showed big increases: wholesale & retail trade (25.5%), recreation & culture (19.2%), mining & quarrying (14.5%), sewerage, waste management & remediation activities (13.0%), financial & insurance activities (11.6%), real estate activities (10.8%), information & communication (9.8%), public administration (8.9%), agriculture & fishing (8.4%) and construction (2.3%). On the other hand, public administration & defence shrank 1.1 percent.
Mechelany Advisors MODEL PORTFOLIO
28 August 2021 + 47.24 % YTD
Our Model Portfolio rose almost +2 % last week lifted by the rebound in Chinese shares and constrained by the continuous rise in US equity indexes and tech stocks. With a +47.24 % rise since the beginning of the year, our MODEL Portfolio is way ahead of the world indexes despite what is proving to be another bumper year in global indexes, with a +16.49 % advance in the MSCI World Index and a 20 % rise on the SP500 Index.
We are still way ahead of the world indexes and our IRR or 21.65 % over the past 7 2/3 years eclipses the IRR of any stock market.
In the commodity space, we benefitted form the advance in Silver and Gold Miners but were affected by the bounce in Oil, Copper and soft commodities .
Our US special situations did well with BIOMARIN and QuantumScape delivering double digit performances.
Europe was a s neutral as our exposure there which amounts to 0.74 %. We sold our position in VALNEVA too early.
In China, ALI HEALTH and JD HEALTH surged 20 %, while mots of our tech stocks rose by 10 to 12 %. China Power International made a new high and we sold the stock oil our CHINA DEEP VALUE PORTFOLIO, while China Merchant ports also rose strongly. China Zhen g TONG rose 20 % ahead of its results next week. TCOM and IQIYI also rebounded well.
Our three Emirati positions climbed for the week, and our biggest losers as always are our portfolio of US tech short positions and long volatility.
The rally isn Cryptos is showing signs of fatigue and we increased our short ETHERS .
Last week, we covered and re-instated our Short positions in Chip makers NVIDIA and AMD, the two mots expensive stocks trading in the universe, with Price / enterprise value ratios exceeding 20 and 27x.
We increased our position in China Zheng Tong and re-instated the Auto financing company Shanghai Dong Zheng ahead of their corporate results on August 3,
Finally we increased our shorts in MSFT and NETFLIX, the SP500 and the Nasdaq while increasing our volatility position and taking some Profits in EUR, keeping an 11 % exposure.
We also took advantage of the strength in cryptocurrencies to increase our Short ETHERS:
As we took advantage of the big correction in Chinese technology shares to boost our exposure there, ahead of the strong Q 4 rally that we expect, we also took advantage of the US indexes flying at record highs to increase our shorts there and re- balance our pure equity exposure with 83 % long and 74 % short.
We are now out of bonds, have 20 % exposure to long and short positions in commodities and have n 8 % short in cryptocurrencies.
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