Market Returns
The euro area's nominal GDP and wage bill are growing at 3%, suggesting that fears of deflation are overdone. But a higher wage bill has implications for profits growth.
EM/China growth improvements and the associated rally will falter on their own without tightening by policymakers. The short duration of these mini-cycles and a lack of observable catalysts make it impossible to precisely time selling out of EM positions. This makes us reluctant to chase the rally. Regardless how the impeachment process proceeds, Brazil is heading into a fiscal/public debt crisis.
The balance of risks favors accelerating wages and stable core inflation during the next few months. This will result in a move higher in rate hike expectations, benefitting Treasury curve flatteners.
Japanese policymakers are in the process of shifting away from negative rates and fiscal consolidation, leaving JGB yields exposed to any move to weaken the yen that could raise depressed inflation expectations.
Bearish sentiment is a red herring, as most other measures of investor positioning point to a strong undercurrent of bullishness. That is contrarily worrying.
The equity bear case is obvious. Prices are approaching overhead resistance and face fundamental headwinds.
This week <i>Global Alpha Sector Strategy</i> in conjunction with <i>Emerging Markets Strategy</i> is sending out a <i>Special Report</i> on EM deep cyclical sectors, discussing debt and cash flow dynamics, identifying how far advanced the capital expenditure down cycle is, and determining if recent EM deep cyclical strength should be bought or faded.
Japan is in a liquidity trap: bad economic news is good for the yen while good economic news is bad for the yen. Chinese reflation could help risk assets in the months ahead, but poor EM fundamentals will reassert themselves later this year. The yen bull market is not over yet. The BoC was more positive on growth than anticipated. The BoE's Super Thursday was a non-event.
A stronger yen is hampering efforts to revive the Japanese economy and the BoJ's failed NIRP experiment leaves open the option of direct currency intervention. Probability is also high that the April 2017 sales tax hike will be postponed, perhaps indefinitely. A major stimulus package, "helicopter drops" of money, and a 4% inflation target may be the only way to permanently overcome deflation. Near-term, further yen strength is likely, but the long-term path is down.
A weaker USD resulting from more dovish forward guidance from the Fed, and evidence of continued production declines in non-OPEC and OPEC countries will continue to buoy oil prices.