Global Weekly: Calm before the August storm?

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Tensions between the US and China, with the US administration taking politically motivated steps, are unlikely to ease before the upcoming US elections at the beginning of November. However, investors do know that the current verbal attacks are just means to detract the attention from domestic issues such as the ongoing spread of the coronavirus.

Despite the quick decrease of the level of unemployment since the easing of the lockdown measures, the pace of a further recovery of the labour market seems to be waning as the absolute unemployment level is still very high. A similar pattern was seen in the aftermath of the Great Financial Crisis, when continuing claims for unemployment benefits declined but the unemployment rate remained high.

As more concerns remain, US Treasury yields stay muted at current low levels, too. Technically, the 10-year US Treasury yield could trade around its current strong support level between 0.59% and 0.54% in the next couple of days. Still, a break below the latter figure cannot be ruled out, as we are heading into the August which has been the most volatile month in interest rate markets for many years now. Next week, Fed policymakers will gather for a meeting of which the outcome is unlikely to surprise market participants. However, the release of some consumer-related data could give more hints about current economic conditions, even though a large part of consumer spending now seems to be financed by government income support schemes. Nonetheless, a pick-up in US growth appears to turn more modest. This is reflected in the current yield curve – represented in the spread difference between the 2-year and 10-year Treasury yields – which keeps moving sideways and is slightly tilted to the downside (enabling a further decline by a couple of basis points).

After a couple of days of negotiations, EU member countries finally managed to mark an important shift towards a centralised fiscal policy. The difficulties in agreeing on a common deal might pose more challenges going ahead. That said, the situation has definitely shown that the EU’s very well-known inability to agree on much also means that the EU generally does not throw its weight around in global matters, which can be seen as a positive sign in a time of rising nationalism. However, we expect the current honeymoon for peripheral bonds to remain short-lived. The reason for this is that growth will remain muted, even though a determined ECB reaffirmed that it will keep buying assets until 2021 and stretch reinvestments until the end of 2022. We still expect the ECB to exercise discretion in terms of what to buy and the size of its purchases. Investment-grade corporate bonds are expected to benefit from this, either through direct transactions or its correlation to government bonds to some extent.

Equities – Cautious despite positive earnings surprises

With infection rates in the US showing a rather steady upward trend, leading to local lockdown measures, markets are displaying some indecisiveness. In addition to worries concerning the spread of the virus, US-China tensions are dampening the mood of investors, creating another source of ongoing uncertainty. Nevertheless, reviewing the big picture over the past five days, major US and European stock indices showed some cautious optimism.

Besides lingering corona and trade war worries, investors focussed on incoming earnings results. So far, reported earnings have been relatively positive, meaning relative to rather low expectations. Positive surprises were reported by a number of US investment banks – an observation made in our previous comment and confirmed by the numbers presented by Bank of America and Morgan Stanley towards the end of last week.

In Europe, earnings numbers released on Thursday by German carmaker Daimler came in below expectations. Daimler’s sales, however, were better than estimated. Even more important under current market circumstances is the reassuring outlook the carmaker provided for the second half of the year. What helped for Daimler, as well as for other larger players in the market, is the potential for large-scale cost savings, allowing to guide for positive earnings and cash flow towards the end of the year. This positive outlook caused the EUROSTOXX Automobiles & Parts index to rise and thus underlines the lingering hopes for improvement in sectors markedly hit by the pandemic.

Companies within sectors seen as more favourably positioned during the recent crisis, such as health care and IT, proved their potential to still beat expectations. In Europe, Philips surprised with better-than-expected earnings and revenue and signalled upside in earnings for the second half of 2020. In the US, Microsoft provided positive surprises. Results were especially driven by cloud servicing, due to stay-at-home activities related to both work and entertainment. As such, the company is well-positioned for another quarter in which the impact of Covid-19 will still be felt. Texas Instruments and STMicro were also part of the recent winners within the tech sector.

Apart from the rather optimistic sentiment during this first full earnings season after the outbreak of the Covid-19 virus, positive market reactions appear to be based more on the hope for a speedy economic recovery than on the solution of the underlying cause of the crisis. With trends in infection rates ambiguous across the world and the timing of availability and effectiveness of a vaccine unclear, we prefer to remain underweight equities for longer.