50 Days of Grey.

50 Days of Grey.

It’s been just over 50 days of active policy enforcement by President Donald Trump and one thing is for sure, that the US equity market has seen better days. There are a lot of articles across the street that have started questioning the US exceptionalism idea and discussions are abrupt, regarding the US economy and if it can “weather this recent storm”.

But let’s look at some quantitative facts to analyze the above question. The S&P equity index is officially on correction territory. What this implies is a 10% move lower than its recent peak, which was on the 9^{th of} February, currently trading around the 5570 level. Secondly, the 10yr US treasury yield has tightened by almost 50bps, currently circa 4.3%, which implies additional worries about the economy and consumer demand. Previous studies have shown that the imposition of tariffs coincided with a lower growth perspective and by default deflation. Now, no one really knows the right answer here and only time and hard data will show, but what the bond market is showing us is that it agrees with this notion of diminished growth. A lot of market participants have taken a step further implying that a US recession is on the cards implying a range of 30-40% probability. There are so many moving parts and so many different possible outcomes to all these eventualities which makes it impossible to predict in my humble opinion. Hence, we at Athlos Capital keep a healthy cash balance across our investment products (Athlos Balanced Strategy AMC) ready to take advantage of any dislocations in the market, which are only a matter of time to come through.

Moving on to data, we saw both US CPI and PPI surprise to the downside this week, but the market had a muted reaction. Stocks felt heavy all week and US treasuries saw good inflows across the curve. On the other side of the pond, the German political parties have reached an agreement with regards to the debt package. On the back of that, we saw more weakness in the European government bond market, now trading 50-60bps wider in the last 2 weeks and with a curve steepening bias. (see below graph)

On the equity side, EU defense companies have traded quite strongly with DAX outperforming all other European indices. There are a few schools of thought with regards to what this spending implies in terms of economic growth, but one thing is a fact; when you start from a very low base it is easy to outperform. We mentioned in our previous newsletter that a paradigm shift has taken place from the EU fiscal perspective, and we believe that the out performance of European risk assets will continue.

Moreover, in the UK we had a batch of bad data with monthly GDP coming at -0.1% versus 0.1% expected and bring the country in a contraction phase. In China, the technology positive momentum is still strong with local equities outperforming the rest of the world, currently up 20% YTD.

Looking ahead…

Next week it is all about the FOMC meeting with the markets pricing that there won’t be any change in the US interest rates. We expect to see some kind of dialogue forming between Ukraine, US and Russia with an imminent ceasefire potential. Now if this is going to be prolonged or rejected by the Russian counterparts, it is difficult to say. At the time of writing, we wait for University of Michigan data which will define inflation expectations in the US and by default the US Treasury price action. Note that, the differential of 10yr US versus German government bonds persists around 138bps, at the tights of the last 1 year.

Written by: Michael Konstantinou, Senior Portfolio Manager