At TS Lombard, we provide deep and early insight in order to help our investment management clients better assess macro economic and political drivers of the global economy and major asset classes. Unlike many other independent research firms, we look at both the economic and political landscape before giving you our recommendations based on the bigger picture – in a concise, clear and complete fashion.
We said:China slowdown would trigger policy put after the 6th Plenum. (October 2021), here (Oct 2021), here(Nov 2021), here(Nov 2021) Outcome: China moved to broad easing following the 6th Plenum. Fiscal policy became more expensive via frontloaded government bond issuance. The PBoC cut RRR by 50 bps in December.
We said -March 2021: The underperformance of Chinese equities reflects multiple factors, including tightening regulation. Our judgement is that these developments will adversely influence Chinese equity performance in the near term. Accordingly, we cut our call on China equities to modest negative. July 2021: The new data security legislation makes it clear that control and storage of data are now a matter of sovereignty, presenting a risk to investors in MSCI China. Our bottom line is that more regulation is to come. We cut our call on China equities to strong negative. Outcome: The regulatory tightening accelerated, raising concerns about the future profitability of many of China's most successful companies. MSCI China lost 9% between 22 March and 19 July, and a further 15% to the low point in August.
We said:China to promote Hong Kong as an offshore listing hub. VIE structure is acceptable in Hong Kong, VIE listing in the US is blocked. Outcome: Didi forced to de-list from US exchanges and re-list in Hong Kong using a VIE structure.
We said: MSCI China is cheap, but will struggle to break out of trading range due to regulatory and political risks. Outcome: MSCI China has moved sideways, with breakout attempts repeatedly knocked back by new regulatory efforts. Following a late December sell off the index is down 9% from publication date.
We said:China small caps and policy favourites will outperform (June 2021) and here (July 2021) and lots more publications throughout the year. Outcome: Our proxies for policy favourites (clean energy, and electric vehicle, battery and infrastructure EFTs) have risen by 27% and 30% respectively. MSCI China has fallen 30%.
We said:Property investment will slump to a record low in H2/21 (October 2020) again here (March 2021) and here (June 2021). Outcome: Tight liquidity and Evergrande default cause property FAI to drop sharply.
We said: Despite growing internal divisions, we think the Governing Council will resist mounting pressures from "hawks" to scale back accommodation in June. Outcome: The ECB left monetary policy unchanged, reiterating the pledge to buy assets at a "significantly" faster pace than in the first months of this year.
We said: We expected the ECB's unclear reaction function and a divided Governing Council to complicate the Bank's decision making process by increasing volatility and financing costs, by letting spreads widen. Outcome: In spite of the central bank stepping up asset purchases from March, EA financing costs continued to edge higher and the yield curve steepened. This trend has paused for now, but it will resurface as the ECB reassesses its policy stance at the end of summer.
We said: We expect a double-dip recession in Q1 and real GDP to expand by 4% this year. Outcome: Consensus expectations for Q1 output have been revised down from 0.6% q/q at the start of the year to -0.8% recently. Forecasts for the 2021 growth have been downgraded from 4.6% to 4.2%.
We said: Fiscal support will tighten next year, but “cliff edges” will be avoided. We expect authorities, even in the financially-constrained EA periphery, to stand ready to roll over furlough schemes, public guarantee schemes and loan moratoria until the pick-up in activity gathers pace in 2021H2. Outcome: EA governments have continued to roll over all measures, explicitly acknowledging “cliff edge” risks in case of abrupt phase out of fiscal support.
We said: While consumer spending could slow, the increased savings rate in Q3/20 should cushion a sharper drop in consumption in Q1/21. Outcome: Household savings accumulated during H2/21 offset the effects of the end of the first round of "coronavoucher" payments during Q1/21.
We said: From our perspective, the rebound looks rapid enough that by the time 2022 comes to an end, a 0.125% funds rate will be too low even for the FOMC. Outcome: The market moved in this direction, so too with our expectation of “taper” by the end of 2021.
We said: Add short USD/BRL. BRL is significantly overvalued, while inflation risks are rising and Banco Central is likely to take a more cautious stance. Despite fiscal uncertainty, our base case is that a crisis will be averted. Outcome: Banco Central raised policy rates successively in order to rein in inflation expectations, while improving fundamentals further boosted the currency. Short USD/BRL position closed on 7 June 2021 for a total return P&L of 8.8%.
We said: Rising yields to spur Growth-Value rotation, again. As regards the Growth-to-Value rotation, the latest attempt was predicated on expectations of a "blue wave" in the US election, which failed to materialize. But a vaccine may succeed where hopes of a large fiscal stimulus did not, namely, by delivering a sustained and faster-than-previously-thought recovery in growth, employment and inflation. All this points to higher yields, which would be good for Financials - still the largest US sector by net income terms, if not market cap. And with consumer and business behaviour likely to normalize, all sectors that have been hit hard by the pandemic (hotels, restaurants, airlines, physical retail etc.) should also begin to recover. Outcome: S&P 500 (large caps) Value +15%, Growth +6% ; Russell 2000 (small caps) Value + 39%, Growth +24%.
We said: Utilities, Real Estate and Staples do well amid declining yields, while Financials (especially Banks) and Energy do better when yields are rising. This chart below shows which sectors are likely to benefit the most in an environment of rising yields. It shows the beta of sector returns relative to the index vs the total returns of US Treasuries. A positive beta means that a sector outperforms the index when UST returns are positive (yields fall); a negative beta means underperformance. Interestingly, yields have no significant bearing on Tech in our analysis. Outcome: S&P 500 Energy +56%, Banks +36%; Utilities -8%, Staples – 1%, Real Estate +3%.
We said: If history is any guide, industrials are more likely to catch up with gold rather than the other way around. This would be consistent with a powerful turnaround in the global cycle, validating expectations for a steeper yield curve. Outcome: Gold/CRB Industrials ratio down sharply, exceeding our expectations.
We said: Euro area’s K-shaped recovery means German outperformance, struggling services but resilient manufacturing, and rising input costs but falling output prices. Outcome: Germany continues to outperform the EA. Manufacturing is resilient while the services sector remains fragile. Margin pressure on producers has worsened over the last year and is the most intense since the EA debt crisis.
We said: While nominal total credit growth could still accelerate in Q3/20 owing to large-scale government bond issuance, it could start to peak out thereafter. Easier monetary policy is behind us and there is far less room for interest rate cuts. We now expect no change in MLF rates for the rest of 2020. Outcome: Total credit growth peaked out in October at 13.7%. No rate cut after August in 2020.
We said: RMB bias to appreciate: China’s growth prospects remain on track, while the renminbi has held up well this year compared with most other currencies. At the same time, the PBoC has turned to more cautious easing, while the government uses fiscal policy to boost activity and fight deflation. Domestic fundamentals therefore remain supportive for the currency. Outcome: See Chart - RMB Exchange Rates
We said: For the time being… we feel that a wait-and-see stance is warranted as the sustainability of the market’s advance is bound to come under more scrutiny. Outcome: Prices rose another 6% in the following three weeks, then corrected lower by 18% over the next two months.
We Said: The inflation lessons of the expansion and demands to be responsive to minority employment mean the Fed’s new framework is employment first, and foremost. In the coming cycle, they will simply let employment run until inflation starts to rise. They give themselves the right to do this because the 2% ceiling is now a long-term average, and there have been many years with inflation under 2%. In the meantime, the essential promise of this policy is that the Fed is going to stay out of the way once the growth cycle takes hold. Outcome: The above policy was officially announced by Powell at Jackson Hole a month later.
We said: The positive impact of a weak dollar on EM currencies and assets is likely to moderate, but rising liquidity and easing of lockdown restrictions will nonetheless provide a boost for markets, even as lack of preparedness for a second wave remains a significant risk. Outcome: Equity markets in China and EM ex-China continued to rally in June and July before starting to trade sideways in August.
We said: China was first-in the Covid-19 crisis and would be first out. Korea and Taiwan also stood out for the management of the pandemic, their close linkages to China, and the weight of Tech in their stock market indices. In our AA model portfolio we’ve been o/w China Equities since March, and Korea and Taiwan since May. Outcome: China equities are up 48% (in USD terms) since March; Korea and Taiwan by 34% and 31% since May, respectively – outperforming the MSCI-ex US, which rose 36% and 18% over these periods. (Performance as of 23-Oct-2020.)
We said: Hard to see prices staying so low (and the contango so wide) for long, even as further downside volatility cannot be ruled out… By this time next year, do not be surprised if the market’s focus has shifted to upside oil price risks… the playbook might be different, but the cycle will still play out. Outcome: Market turned around, prices now already back at January 2020 levels.
We said: In April, we forecasted the economic outperformance of Korea and Taiwan based on; covid containment, electronic component-heavy exports and proximity to China and its recovery. We doubled down on our projections for East Asian economic strength in July. Ahead of the US election, we added a further structural driver to Korean and Taiwanese growth – the tech war – which promises to boost demand for Asian high end electronic components. Outcome: We went overweight Korean and Taiwanese equities in May 2020 and have been long the KRW in Macro Strategy since June. MSCI TW is the top performing index globally with MSCI KR just behind. As of 18/11/20 Our KRW trade is up 7.42%.
We said: A large negative output gap, huge labour income losses, and a sharp rise in uncertainty and precautionary savings will keep inflationary pressures subdued in the euro area for longer. Surging money and credit growth – usually considered precursors to rapid economic growth – mask fragile underlying credit trends. Outcome: Inflation has missed consensus forecasts since the pandemic. Inflation expectations for this year (according to a Bloomberg Survey) have been revised lower from 1% to 0.3%.
We said: Saudi Arabia cannot afford it, and the collapsing demand environment is completely unfit for a volume vs price strategy. The war will be over by June – i.e. replaced by renewed supply-side restraint, supporting an oil price recovery. Outcome: We were right, only too conservative on the timing: the Saudis folded five weeks later with the new OPEC+ agreement on 12 April slashing production by 25%.
We said: The Covid-19 pandemic will damage domestic demand, especially services. Countries in the EA periphery are the most exposed. Limiting the transmission of negative spill overs to firms’ cash flows and to employment is crucial to avoid more serious medium-term damage from contagion. Fiscal policy will need to be stepped up significantly. Don’t write off ECB easing: serious discussions about changing the ECB’s self-imposed limits on ECB QE should be on the cards by now. Outcome: Domestic demand collapsed, led by services, especially in tourist-dependent EA periphery. EA consensus growth forecasts for this year were revised down from 1% to -8%. EA governments strengthened or introduced income/employment support programmes and provided liquidity to firms via guaranteed loans and equity injections causing national budget deficits to widen dramatically. Few days later, the ECB launched new liquidity measures including a €750bn asset purchase programme – the PEPP – to which the traditional asset purchase constraints did not apply.
We said: CPI and PPI will slowly converge to 0-1% in early 2021. Outcome: Chinese PPI deflation rebounded from -2.1% in September 2020 to 0.3% in January. CPI declined from 1.7% in September 2020 to -0.3% in January.