Commodities & Energy Sector
Central Banks remain in thrall to the mistaken impression that backwardated oil futures markets are signaling lower headline inflation over the next 2-3 years. This is not the signal the markets are sending: Backwardation is an indication inventories are being drawn down to cover a physical supply deficit brought about by strong demand. We remain long broad equity-market exposure to energy producers via the XOP ETF, and to outright commodity exposure (and backwardation) via the COMT ETF.
China’s housing market adjustment will be protracted, causing several years of sub-par growth in the world’s second largest economy. We go through the major investment implications.
Global demand for new energy vehicles (NEVs) remains in a long-term uptrend, propelled by falling battery prices, improved driving range and an upgraded charging infrastructure. That said, diminishing policy support in China and Europe will spark a drop in the growth rate of global NEV sales to about 35% this year, down from about 60% last year. Global NEV-related stocks are likely to rise on a structural basis, but we recommend that investors wait for a better entry point given that valuations remain high.
The rebound in growth is pushing up inflation. More aggressive monetary policy is likely to trigger recession over the next 12 months or so. Investors should stay defensive.
Investors should avoid / stay underweight Turkish stocks and local currency bonds versus their respective EM benchmarks. Stay underweight Turkish sovereign credit.
In Section I, we address the recent improvement in several data releases over the past three months, and explain why we do not believe that these developments have increased the odds of a soft landing. US monetary policy likely became tight in November, which has started the recessionary clock. We continue to recommend a conservative investment stance over the coming 6-12 months that anticipates eventually lower long-maturity bond yields. In Section II, we explain why the Fed’s unreasonably low neutral rate forecast is the main risk to a conservative investment stance over the coming year, as it could lead to interest rates falling back into easy territory before a recession begins. For now, this remains a possible but not probable outcome.
