The week that was: Oil Prices crash
Oil markets remained in focus as the current extremes in supply/demand mismatch created unprecedented price swings. While the economy keeps undershooting lowered expectations, some signs of stabilization can be felt. The earnings season is showing a wave of scrapping guidance, as corporates are in blind flight too.
The world is running out of superlatives yet again. This week brought some of the most extremes swings in terms of oil prices. The expiring WTI crude oil contract for May was trading in extreme negative territory on Monday night. Granted, this was a technical glitch. However, spot markets followed with another 25% drop over the week. The relatively sanguine reaction of oil stocks shows that investors see this as a particular situation that will be resolved in some way. Yet any overconfidence in the recent recovery of risk assets was washed out of the market.
There are not too many positives to write home about: US jobless claims were less disastrous than last week, Europe is slowly implementing a ‘back to normal’ situation and is endlessly haggling about corona bonds issuance, the Bank of Japan (BoJ) is trying to go more than all in by declaring unlimited bond buying as a potential way forward, and the earnings season is seeing an overwhelming scrapping of corporate guidance, as no one dares to project anything given the uncertainties at present. From a performance perspective, Swiss assets led the charts this week, as did Swiss real estate within the alternative investment space. Inflation-linked bonds did the best in fixed income. The oil price drop was the most extreme across all asset classes.
Christian Gattiker, Head of Research, Julius Baer
Market View: Pause on weak economic data, Poor remdevisir study
The jury is still out on whether the market will continue its impressive rally since late March, but signs are mounting an intermediate pause at least is in order.
The S&P 500 index, which had traded up as high as 1.6% in the morning session yesterday, ended down 0.05%, after the World Health Organization published the results of a failed test of Gilead’s drug remdesivir in the treatment of coronavirus patients in China. A successful test using the same drug in Chicago last week had helped buoy the market. Economic data continues to make new historic lows in many time series. For example, unemployment insurance filings in the US were reported at 4.43 million for last week. While down from the 5.24 million of the week before, it means 26.5 million jobs have been lost in the past month, and unemployment which was 4.4% in March is around 20% today. The halt to immigration, the tariffs, and the blaming of China for coronavirus, are understandable in this light. With the exception of Ronald Reagan, no Republican president has been re-elected in the past century when unemployment was above 6%.
Economic data in Europe was equally bad. The IHS Markit flash eurozone manufacturing purchasing managers’ index (PMI) fell from 44.5 in March to 33.6 in April, while the service’s series fell from 26.4 in March to 11.7 in April. Meanwhile, the US dollar continues to strengthen, a weight on most risk assets. Nikkei news reported the Bank of Japan will consider replacing its annual asset purchase target of JPY 80 trillion with an unlimited quantity at its meeting next Monday. In China, the Politburo introduced the concept of the ‘six ensures’ to complement its existing ‘six stabilities’ as they have over the last year or so. This is to ensure employment, basic livelihood, market entities, food and energy security, stability of the supply chain and grassroots institutions. The combination suggests more fiscal stimulus ahead, aimed at both old and new infrastructure.
Mark Shirreff Matthews, Head Research Asia, Julius Baer
US earnings season remains weak but negative revisions stabilize
Q1 US results continue to be weak, but earnings revisions have now started to stabilise. The outlook for next quarter is gloomy, but the S&P 500 does not trade on Q2 results. Timing of the H2 recovery will be key and equities anticipate recovery with a lead-time of 3-6 months. Short-term upside is limited after 25% rally, but 12-month bull case is intact.
Based on market cap, 25% of the S&P 500 have reported Q1 results so far. Earnings growth is on track with -15% (consensus at the start of the earnings season was -10%). Most of the earnings miss is due to financials, which have reported a 50% earnings decline due to higher provisions for credit losses. Excluding financials, earnings are on track with a 11% decline so far. Earnings revisions have stabilized this week after a big drop last week and we expect the positive trend to continue next week (we expect earnings to decline 12% in Q1). Consensus expectations for the full year of 2020 are still far too high and have to be revised down, particularly for Q2. It is important to keep in mind that the S&P does not trade on Q2 results.
Equity markets bottom ahead of the earnings trough and Q2 will most likely be the low point in earnings followed by a significant rebound in H2. After the 25% equity bounce back from the March lows, short-term upside is limited in our view. The news flow from the Covid-19 front will probably continue to be the major driver behind the moves. New infection and reproduction rates have come down virtually everywhere in the northern hemisphere. More clarity with regard to the prevention of a second wave of infection may be needed to drive equities higher. This may take some time, but we continue to believe that markets will move higher until year-end.
Patrik Lang, Head Equities & Global Equity Strategy, Julius Baer
Clean energy: Solid business, Thematic darling
The corona crisis and equity sell-off open an entry opportunity into the clean energy business. The fundamentals remain sound thanks to competitive costs, the crisis should bring only minor headwinds, and the growing demand for climate-friendly investments is likely to fuel a valuation rebound. We lift our view on the clean energy theme to Constructive, which particularly applies to the utility and less to the equipment segment.
The energy transition is in full swing, especially in the electricity business. Solar and wind technologies dominate the power plant additions alongside natural gas. These clean energy technologies have become cost competitive across key regions and no longer depend on public subsidies. An important element is the growing demand from business to source clean power directly via so-called power purchase agreements, driven by the push from consumers to offer climate-neutral products and services. Thanks to competitive prices, these climate efforts no longer come with a cost penalty. The corona crisis dents power consumption, but the evidence so far is that the brunt of these headwinds are borne by coal and nuclear power plants. These increasingly struggle because of high costs and limited flexibility.
The crisis of course delays project work, reduces installation activity somewhat and raises counterparty risks. However, we believe that the broader business conditions for clean energy utilities still look favourable. Moreover, thanks to solid cash flow generation and more prudent balance sheet management in recent years, the average of companies look financially solid. Importantly, the trend towards sustainable investing and climate-friendly portfolios cyclically lifts valuations. Matching the assessment from our bottom-up equity analyst, we lift our view on the theme clean energy to Constructive.
Norbert Rücker, Head Economics and Next Generation Research, Julius Baer