New catalysts are needed for the equity market rally to be sustained, as GDP growth worries persist
Markets paused for breath in the past week, following five consecutive weekly gains totaling 8.5%, as global growth concerns prevailed and negative headlines regarding US-China trade tensions hurt sentiment. Nevertheless, high-level talks are expected to take place in Beijing this week between US-Sino officials, with the possibility of an extension to the March 1st deadline (when US tariffs on $200bn worth of Chinese imports are scheduled to increase to 25% from 10%).
The MSCI ACWI ($) declined by 0.6% wow (+7.3% ytd), with emerging markets underperforming developed market peers by 90 bps wow – they have moved in tandem ytd. A dovish Fed and the accelerating pace of Chinese fiscal and monetary stimulus is expected to support EM equities, with valuations appearing more favorable than historical averages.
Indeed, the MSCI EM P/BV of 1.4x trades at a 32% discount vs MSCI DM P/BV (17% discount on average), while the MSCI EM 12-month forward P/E of 11.5x trades at a 21.1% discount vs MSCI DM P/E (21.4% discount on average).
Regionally, the DAX30 ended the week deep in the red (-2.4%) and has lagged other European bourses by a wide margin year-to-date (150-250 bps) as a large percentage of its constituents’ revenue stems from abroad, particularly China. Moreover, note that the Department of Commerce Section 232 investigations on automobile and automotive parts is due by February 17th, and could recommend the imposition of tariffs, which would put further strain on the German auto industry.
Regarding company earnings, with circa ⅔ of S&P500 companies having reported results, so far, results are mixed. 71% of companies have exceeded analyst estimates, broadly in line with historical averages. EPS growth hovers at 13% yoy compared with 26% yoy on average in 9M:2018. Moreover, out of the 65 S&P500 companies that have issued EPS guidance for Q1:19, 82% have issued negative guidance, which is significantly above the 5-year average of 71%. As a result, 2019 EPS growth is expected at +5% yoy, versus +20% yoy in 2018.
On the other side of the Atlantic, corporate results are average, with Eurostoxx financials (SX7E) reporting growth of -8% yoy in Q4:2018, so far, as flat euribor curves hurt net interest margins and heightened volatility in Q4 squeezed capital market revenues. Moreover, the severe slowing of euro area economic activity has caused the SX7E to underperform by 320 bps ytd (-1850 bps in 2018 -- see graph below).
As the loss of momentum in the euro area continues, investors sought the safety of German Bunds, with yields declining by 8 bps to 0.09% (the lowest level since late 2016).