Market Returns

A stunning 9.9 million-barrel build in U.S. oil inventories this week failed to arrest the upward climb in prices.

Beyond the ongoing short-term rebound, EM currencies have more downside, and will depreciate by more than is implied by their forward rates on a 6-9 month horizon. This makes us reluctant to recommend buying local currency bonds to absolute-return investors. A new trade: Long Russian/short Malaysian equities. We also reiterate our short MYR/long RUB trade.

The Treasury market is now discounting too slow a pace of Fed tightening, while junk spreads are discounting too rapid an increase in the default rate. This week we examine the risk/reward proposition of temporarily leaning against some prevailing long-run macro trends.

Inflation expectations in the Developed Markets have been adjusting down to the lower trend of actual inflation, although the bulk of this adjustment now appears complete.

For the month of February, the model underperformed both global and U.S. equities. For March, the model has modestly pared back its equity risk exposure, shifting the allocation into bonds. While Europe remains the largest equity overweight, EM and Canada also received some allocation. The U.S. and New Zealand were slightly downgraded. In the fixed-income space, the model is sticking with Italy and Spain.

The remarkable admission by OPEC's secretary-general, Salem el-Badri, earlier this week that with "any increase in (oil's) price, shale will come immediately and cover any reduction" in output only hints at the larger impact of light-tight-oil (LTO) going forward.

This month's Special Report reviews the main factors driving the "lower for longer" bond yield view. A key finding is that the demographically-driven portion of the expansion in world capital spending has come to a virtual standstill, representing a major hit to underlying demand growth.

Credit growth acceleration in China is a bearish development in the long run. Potential non-performing loans at Chinese banks could wipe out 40-55% of their equity capital. "Muddling through" for China, from its own internal standpoint, is possible. However, Chinese stocks and China-related equities worldwide will remain in a bear market. From the perspective of the rest of the world, China is now in recession.

Lean against rally attempts until leading profit indicators improve. The conditions for a tradable oilfield services rebound remain elusive. Capital markets may bounce, but we would sell on strength.

The agreement to freeze oil production should reduce tail risks, even if it does not improve overall corporate sector health and profits.