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Market Commentary 19th July 2021

Inflation is running sharply higher in the UK and also in the US where consumer prices ex food and energy rose 4.5%, or above the 4% expected. Half of the rise was due to temporary factors like used car sales and airline tickets as the economy reopened but the impact of more structural elements was tangible. Property prices should underpin the upward trend in coming quarters. The bond market's reaction was relatively subdued. The most notable development was some yield curve flattening as short rates rose, calling into doubt the Fed’s view that this inflation was merely temporary. Even so, Fed chair Jerome Powell reaffirmed his message when he appeared before Congress. He also said the focus would be on the jobs market. Meanwhile, the US dollar extended gains. In China, GDP came in at 7.9%, or less than before, in another sign of a return to normal. Taking out big base comparison effects, consumer spending and activity improved. In the previous week, China’s central bank had pumped in fresh liquidity by reducing minimum capital requirements for banks. This was a clear signal of Beijing's determination to ease the monetary restrictions currently affecting the economy. If maintained, this approach will provide fresh support for emerging countries and Chinese equities. Elsewhere, the sanitary situation remained worrying as the Delta variant spread. The strain causes fewer deaths but is much more contagious. Tracking strategies, mainly adopted by Asian countries, are forcing governments to bring back restrictions. On the other hand, vaccinations appear to be effective in preventing hospitals being overwhelmed. Australia has gone back into lockdown and Japan has declared a state of emergency. The UK, however, is accelerating reopening with a Freedom Day while France is trying to carry out massive vaccinations. We are maintaining our neutral stance on equities with a preference for Europe and China. In fixed income, we are still underweight duration and prefer corporate bonds. EUROPEAN EQUITIES

Investors limited risk-taking as the Delta variant continued to spread, signs of economies slowing appeared and worries that inflation was likely to last persisted. 10-year government bond yields remained under pressure while equity markets retreated last Thursday with cyclicals generally leading the trend. As the earnings season kicked off, Daimler reported upbeat preliminary figures illustrating its capacity to pass on higher input prices to customers while pursuing cost-cutting and the transition to electric cars. Volkswagen said that it expected half its sales to be electric by 2030. At the same time, governments, particularly in Europe, went for more ambitious green targets. Elsewhere, Siemens Energy fell after cutting guidance for its renewable energy division Siemens Gamesa. The division warned on its EBITA margin due to rising input prices and increased investment. Atos also issued a profits warning as demand for traditional digital management services falls and more and more companies switch to cloud solutions. Ericsson also said earnings would fall short of expectations. Sales in China have fallen significantly, and the group warned on its position in China in the future. It did, however, sign an $8.3bn multi-year contract with Verizon to speed up the 5G roll-out in the US. Trends in the luxury sector remained favorable with Richemont and Burberry both reporting higher sales. Hugo Boss also expressed confidence in its sales outlook for the coming months. The company said online sales would be a lasting engine for strong growth. Puma said preliminary second-quarter figures were better than expected and raised guidance for the full year. In M&A news, Avast confirmed it was in merger talks with cybersecurity firm Norton LifeLock in the US.


Over the last five trading sessions, the Dow gained 1.64% and the S&P500 0.91% but the Nasdaq edged 0.11% lower. Jerome Powell told a Congressional hearing that it was too early to tighten monetary policy as the rebound in inflation was only temporary. The Fed wants to see higher employment before reducing its support. This approach has, however, caused some debate. Steve Mnuchin, a former Treasury Secretary, thinks that inflation is not that fleeting, and that the Fed should start tapering now. Blackrock’s CEO Larry Fink also considers that inflation is set to continue. He added that his company’s 8% wage increase in September is one example. Producer prices in June rose by a substantial 1% MoM, or higher than the 0.5% expected. That took the YoY tally to a 11-year high of +7.3% vs. +6.8% expected. On the other hand, the Philly Fed index came in at 21.9, or much lower than the 28 penciled in by analysts, and down from 30.7in May. June industrial production rose 0.4% MoM, or less than the 0.6% expected, while weekly jobless claims were 360,000 vs. 350,000 expected. Amid this uncertainty, gold rose to a 4-week high of $1,827. Oil moved below $72 after a surprising rise in weekly inventories in the US and comments suggesting OPEC might after all reach an agreement on production quotas. Banks were as usual the first to report quarterly earnings. The results were good but largely due to writebacks of Covid provisions. Lending growth remained very weak even though the US economy has been seeing a strong rebound. Operating costs for many banks were also higher than expected. The good news is that share buybacks are to continue. The semiconductor sector rose after Broadcom said it was in talks to acquire software firm SAS Institute for $15/20bn. Disney gained ground after increasing prices for its ESPN+ streaming services from $60 a year to $70 (+17%). Moderna jumped 6% in after-hours trading on Thursday on news it was to join the S&P500 index. It will replace Alexion Pharma which has been bought by AstraZeneca.


As the quarterly earnings season began, the NIKKEI 225 and TOPIX gained 0.57% and 1.00%. The cabinet office released an upbeat survey of orders received at the beginning of the week. The market was mainly driven by expectations for upward revisions in manufacturing stocks amid solid demand from abroad. On the other hand, the yen’s appreciation weighed on exports including autos and machines. The TSE 2nd section revisited its high on the 13th. The market is focusing on 2nd section stocks which are expected to participate in the main market because of the TSE’s market restructuring plan. Other Financing (+3.61%) rose on the BoJ’s new scheme to offer zero-interest loans to financial institutions for investments that help fight climate change. Construction (+3.51%) and Fishery, Agriculture & Forestry (+3.34%) were also in vogue. On the other hand, cyclical sectors saw sharp declines, including Rubber Products (-5.32%), Marine Transportation (-4.46%) and Air Transportation (-3.22%). Japan Exchange Group (8697) gained 4.37% on expectations for robust earnings. Otsuka Holdings (4578) rose 4.19% with TOB and will be wholly owned by Yamada Holdings. Komatsu (6301) rose 4.06% on its stronger digital solutions. Elsewhere, Bridgestone (5108) and Central Japan Railway (9022) lost 5.72% and 4.54%. More than 40 million people had been vaccinated at least once as of July 14. Vaccine supplies are reportedly running short in metropolitan areas. The country will import 220 million vaccine doses by September and will review each region’s distribution channels.


The MSCI Emerging Market index was up by 2.3% as of Thursday’s close. Brazil outperformed other regions, rising 4.64% on a GDP growth guidance upgrade. China was also up by 3.07% on stronger-than-expected economic data and improved investor sentiment after the RRR cut. India underperformed but still rose 1.15%. In China, GDP grew 7.9% in the second quarter, or in line with expectation. In June, retail sales were surprisingly resilient, rising 12.1%, or better than the 10.8% estimated. Industrial Production grew 8.3%, or higher than consensus expectations for 7.9%. Exports rose 32.3% YoY, well above expectations of 23%, while imports were up by 36.7%, or 5 percentage points higher than estimations. The monthly FAI growth picked up to 6% YoY in June from 5.5% in May, largely driven by an acceleration in capex. In June, sales of new energy vehicles (NEV) soared 139% YoY and 17.6% MoM. China is reportedly to exempt Hong Kong IPOs from cybersecurity reviews. On the corporate side, East Money issued a positive profits warning with net profits rocketing 93.5/121.2% YoY on strong fund sales growth. Tesla plans to launch the Model Y equipped with LFP batteries supplied by CATL with a post-subsidy price starting at $42,000. Antitrust investigations progressed further: Tencent Music will have to give up its exclusive rights to music labels while its acquisition of Sogou, China’s second-largest search engine after Baidu, was approved by the anti-monopoly regulator. Tencent and Alibaba agreed to open up their ecosystems to each other. Alibaba is reportedly to bid for assets of Unisplendour, a cloud computing infrastructure firm owned by Tsinghua Unigroup. In Taiwan, TSMC’s second-quarter revenues rose 20% YoY, or in line with consensus while operating margins were slightly below estimating. The company increased its full-year sales growth guidance to above 20% for 2021 but guided for a lower-than-expected gross margin in the third quarter. In India, the RBI imposed restrictions on Mastercard from on-boarding new domestic customers, citing a data storage rule violation. Infosys announced last quarter results with a decent revenue beat, but margins missed on employee costs. TCS’s reported revenue rose for the fourth straight quarter on deal wins while margins narrowed sequentially. Zomato’s IPO book opened for a $1.2bn offering. Brazil’s economy ministry said GDP was expected to grow 5.3% in 2021, or far more than a previous forecast of 3.5%. Magazine Luiza announced the acquisition of Kabun for R$1bn. Renner also acquired, for an undisclosed amount, online platform Repassa which focuses on secondhand clothes and shoes, a rapidly expanding niche market that ticks ESG boxes. Biofuel producer Raízen, Brazil’s fourth-largest company by revenue, plans to list 8% of its outstanding share in what will be one of Brazil’s ten largest IPOs. The proceeds will go on projects including new plants for renewable products.


CREDIT It was a quiet week for credit market spreads. We are in what may be termed a Goldilocks period: strong growth and inflation which for the moment is not a cause for concern among central banks. Jerome Powell continues to view higher inflation in the US as a temporary phenomenon.The Main, Xover and IG and HY cash indices were unchanged over the period. Spreads on the BB vs. B-rated segment, however, widened by 6bp. Hybrid bonds outperformed, tightening by 5bp. Technical factors continued to look favorable. The IG segment took in €1.3bn in new money and the HY €74m. And the market is still easily absorbing issues from a dynamic primary market with a good break on the secondary market. In first half results, JP Morgan and Goldman Sachs beat expectations due to writebacks for Covid provisions and strong investment bank activity. The strong rebound in the US economy also helped. In a positive move for tourism, Joe Biden said the government was working on the possibility of allowing European visitors back into the country. This would be good news for airlines like IAG, Air France-KLM and Lufthansa as their transatlantic routes represented a hefty percentage of profits before the crisis. CONVERTIBLES The primary market took a breather this week so trading focused on the earnings season. In Europe, Telekom Austria posted solid first-half results that highlighted robust demand for high bandwidth products, mobile Wi-Fi routers and enterprise digitalization projects. The company delivered upbeat guidance for the second half as further easing of travel restrictions led to an increase in roaming again. On the other hand, Asos failed to reassure investors on the pace of top-line growth. The fashion online retailer said sales had started to soften, particularly in Britain, as a result of poor weather and supply chain pressures. Another company that failed to impress investors this week was Qiagen. Despite preannouncing a second quarter sales and EPS beat, the company proved to be more “covid dependent” than thought. 2021 targets were downgraded on declining COVID-19 related test sales. A planned $100m share buyback failed to offset the confidence hit. In Asia, the market continued to focus on ADRs and local listed HK internet stocks that are the object of a regulatory crackdown (Didi). The new Data Security Law provided further updates. Xiaomi was actively traded on news that the company had become the world’s second biggest smartphone maker over the past quarter following an 83% jump in shipments. In the US, travel sector stocks extended losses even as American Airlines brightened its outlook. The company forecast better-than-expected second-quarter results, a sign that a US travel industry rebound is bolstering results more quickly than expected. The company said domestic leisure traffic had fully recovered and that there was still room for a recovery in business and international travel. In M&A news, there were merger talks between Prague-based Avast PLC and Norton LifeLock. in the hot “cybersecurity” space.

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