Global Weekly: Again through the 3% level

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Ten-year US Treasuries traded through the psychological 3% level again this week. This time, it is more convincing and US Treasuries continued to rise above 3.1%. The US economy seems to have picked up pace again at the start of the second quarter.

In Europe, though, these signs are still missing. Recent core inflation numbers have come in soft, especially in Europe. However, trade tensions and the US withdrawal from the Iran deal are pushing up oil prices, sending tightening signals for policy makers. Overall, a sustained and sharp rise in yields still seems unlikely, as we expect the US Federal Reserve to finish raising rates in the middle of next year at 3%.

We do not expect significant actions soon from the European Central Bank (ECB), as long as economic data remain disappointing. The recent widening of peripheral spreads will also keep the ECB cautious. Italian populists from Lega Nord and M5S have come close to forming a new Italian government that would plan a 15% tax rate, a guaranteed income for everyone and a reduction of the pension age. Spreads widened further to pre-election levels, on rumours that a plan to write off Italian government bonds on the ECB balance sheet was considered at some point during the negotiations. Although such plans do not stand a chance, Italian politicians would be wise to kill such stories immediately before they do even more damage. We have adjusted our spread target for Italy versus Germany to 160 basis points (bp) for 10-year bonds at the end of this year. However, the additional yield on Italian bonds is enough to absorb 20 to 30 bp of spread widening over a year and still beat German Bunds.

Meanwhile, spreads on emerging market debt widened on the combination of a stronger US dollar, geopolitical tensions and specific issues in various emerging market countries. This may not be over yet, but seems more like a buying opportunity building than a structural development, as fundamentals remain strong.

Trump fighting medicine prices

In the beginning of the week, equity markets fell due to rising geopolitical tensions and  rising interest rates. Markets recovered again in the second part of the week and closed at the same level as last week. North Korea signalled that its leader, Kim Jong-un, might pull out of next month’s summit with President Donald Trump if the US insists on denuclearization of North Korea. Interest-rate sensitive sectors such as telecom and utilities were clear underperformers, now that the US 10 year bond yield rose to 3.1%, continuing its rise from 2.1% in September 2017. The sectors’ high dividends become less attractive when bond yields rise.

At the beginning of the week, President Trump gave its long-awaited speech on the American Patients First plan. He is determined to fight high medicine prices and to reduce out-of-pocket costs for American people.  As the US is the most important market for pharmaceuticals, investors were concerned that Trump would unfold plans to cap medicine prices. Fortunately, he chose not to interfere. Instead, one of his measures is to make plans to have foreign countries pay more for medicines for which research was done in the US. As countries outside the US now pay far less, this would be positive for the pharma sector. Although the chance of Trump succeeding is very low, the health-care sector performed above average last week, outperforming the MSCI world by approximately 0,5%.

On a company level, there was much focus on the Tencent results, reporting on Wednesday.  The Chinese social media and gaming giant reported strong numbers on both revenue as well as margins, beating even the most optimistic expectations. In the past months, the stock was under pressure from fears that increasing investments would dampen its margins. The company reported a 47% revenue increase, a 61% profit increase and rising margins from 39 to 42% compared to a year ago. That is despite a 200% increase in capital expenditures. This removed a lot of uncertainty among investors. The stock rose 5% on the figures.