Beyond Bulls & Bears

Equity

Notes from the Trading Desk – Europe

Franklin Templeton’s Notes from the Trading Desk offer a weekly overview of what our professional traders and analysts are watching in the markets. The European desk is manned by eight professionals based in Edinburgh, Scotland, with an average of 15 years of experience whose job it is to monitor the markets around the world. Their views are theirs alone and are not intended to be construed as investment advice.

The Digest

Last week was choppy for equities. The Stoxx Europe Index 600 closed  down 1.95%, but European equities did outperform US equities, with the S&P 500 Index closing down 2.9%.1 Markets in the Asia Pacific (APAC) region were mixed in a holiday-shortened week, with mainland China and Japan managing to make small gains.

COVID-19 Resurgence Fears on the Rise

Clearly, the continued easing of lockdowns was in focus, with a close eye on an infection rates. For the most part, Europe tends to be faring relatively well, whilst the US rate is sharply on the rise, seeing record one-day increases in cases.

The midweek market selloff in Europe followed a move lower in the United States after reports on the resurgence of the virus. Dr. Anthony Fauci, the director of the US National Institute of Allergy and Infectious Disease., reported a “disturbing surge” in cases in the country. Headlines on 26 June that Texas would be rolling back some lockdown easing measures given the spike in cases dented sentiment, causing US equities to sell off and  close the day down 2.5%. Infrastructure is starting to be stretched again too, with intensive care units in the city of Houston reported to be at 100% capacity.

Meanwhile, negative Chinese macro data (car sales were -11% year-over-year), speculation around US/EU tariffs, and recently lowered global growth forecasts from the International Monetary Fund also played into bearish sentiment globally.

Europe: Return to Favour?

European equities have outperformed US equities for the past two weeks, and amid the cyclical rally last week, there was continued saw discussion about whether this dynamic has further to run. There are a number of potential catalysts feeding into the argument that it does. Some reasons we see:

  • European Central Bank (ECB): The ECB has been forthcoming in pre-emptive easing of financial conditions and is providing a wealth of liquidity for banks (as we saw further evidence of in the recent targeted longer-term refinancing operations (TLTRO) announcement).2
  • European Commission (EC) Recovery Fund: As we have covered in recent weeks, the collaborative nature and scale of the recovery fund demonstrates a strong commitment to Europe from member states. There are still details to be agreed upon, but the majority of observers appear to assume that the deal will be ratified in a form very close to what has been proposed. With this risk-sharing, the fiscal position of the European Union (EU) looks more comfortable than the United States.
  • Easing of Lockdown: Whilst we would caveat that we remain in uncharted territory, the re-opening of economies appears to be progressing well across Europe, with some forecasters looking for improvement in gross domestic product (GDP) readings in the year’s second half. It seems analysts are also expecting a faster and smoother rebound vs. the United States, as the EU is now ahead on controlling the virus. Despite the occasional emergency of new regional hotspots in Europe, the curve of new infections has remained suitably flat. In addition, EU governments have shown greater control in protecting the labour market.
  • US Political Headwinds: The overhang of the upcoming election weighs on the markets as US Democratic presidential candidate Joe Biden has gained traction against President Donald Trump as his support looks to have waned. Meanwhile, the often-turbulent European political backdrop has been (relatively) quiet of late, although we do have the spectre of Brexit to keep in mind.

On the macro data front, June Purchasing Managers Indices (PMIs) were released last week in Europe and came in ahead of expectations. The data showed a strong rebound across the board, with France moving out of contraction. We saw some other positive economic data releases; retail sales in Spain jumped 19.3% in May, whilst consumer confidence improved more than expected in both Italy and France.

We would note, however, that ECB President Christine Lagarde warned last week that Europe’s recovery will be “restrained” as increasing household savings hold back consumer demand. The negative impact of the pandemic on global trade is already extreme, and activity is likely to continue be “significantly reduced” by the fallout, according to Lagarde, who added that lower productivity owing to less efficient supply chains would lead to an incomplete economic recovery.

Last Week in Review

Europe

As noted, European equities lost almost 2% last week, but did outperform their US counterparts. Looking at sectors, the autos managed to only make a small loss with travel & leisure the clear underperformer. Better-than-expected PMI data was also in focus in Europe, and we saw more discussion over the potential for European equities to outperform their peers in other regions. The selloff came on lower volumes, with volumes 20% lower than year-to-date averages, suggesting there was not a great deal of conviction.

Banks came into focus over the weekend after the Financial Times highlighted global equity fund managers have reduced their exposure to European banks to the lowest level in more than a decade.3 The article cited data from Copley fund research, which tracks US$760 billion of global equity assets under management. The question now is whether valuations now become more attractive to investors, especially given the provision of stimulus from the euro area.

Whilst China/US relations tend to dominate headlines, there is increasing focus on the escalation of EU/US trade tensions. The United States is apparently weighing a fresh round of tariffs on US$3 billion in a number of different imports from France, Germany, Spain and the United Kingdom, according to a notice published by the US Trade Representative. There is a month-long US public comment period that will end on 26 July, so we will be watching for updates.

EU Foreign Policy Chief Josep Borrell also commented last week that the EU is considering retaliating in response to US sanctions against the Nord Stream2 pipeline; the US imposed sanctions at the end of last year on European companies working on the project given it is part funded by Russian company Gazprom. The EU is also moving towards putting a US travel ban in place—so, there are plenty of potential downside risks to be watching.

The other clear risk for the region is Brexit. Over the weekend, German Chancellor Angela Merkel downgraded her expectations of a deal, suggesting that the UK government may not even be interested in coming to an agreement. This has seen the pound slide back below 1.10 vs. the euro as we kicked off trading this week.

United States

US equities underperformed global equity markets, with all three major US indices lower last week. All sectors were in the red, with the energy and financial sectors the week’s losers. Clearly the main focus was the uptick in COVID-19 cases, with the seven-day average at 35,206 on 26 June from 24,567 the previous week—the highest since the outbreak started. It is somewhat of a mixed picture, with the southern and western parts of the country seeing the most pickup, notably the states of Texas, Florida, Arizona and California. Texas rolled back some lockdown easing measures on 26 June and Florida banned the sale of alcohol in bars and restaurants.

The White House has continued to play down the escalation and the risks, which only heightens concerns with the potential for slower action and a continued increase in cases.

There was some cautious action from the Federal Reserve last week, with the central bank telling the largest US banks to continue the blanket ban on stock buybacks until at least the end of September, whilst dividends are restricted from exceeding the level of the previous quarter. This saw the US banks -7.2% on the week.

APAC

Markets in the APAC region were mixed in what was a holiday-shortened week for China and Hong Kong. Mainland Chinese equities (with markets only open three days) made small gains, as did Japan, whilst Hong Kong closed the week down slightly. Midweek, the US Pentagon put Huawei and Hangzhou Hikvision on a list of 20 firms it says are owned or controlled by China’s military, possibly opening them up to more US sanctions.

China’s market was shut on Thursday and Friday of last week, so any negative impact on equities was spared, but equities in the region were weaker as trading kicked off this week. Geopolitical concerns continued to bubble over the weekend after reports that the US government warned Hitachi against selling a nuclear power project in North Wales to China. The EU also said that investment talks with China were reaching a critical stage, so there is plenty of risk on the geopolitical front.

Week Ahead

This week looks to be a relatively quiet week ahead on the macro front in Europe but there are a few releases to watch.

Most importantly, on 30 June we have EU inflation data (Flash Consumer Price Index (CPI); and on Wednesday we have the Global Manufacturing PMI for June as well as the Riskbank monetary policy meeting (expectations are for interest rates to remain unchanged). In the United States, the June employment report will be the highlight on 2 July. After the last upside surprise in non-farm payrolls, any revisions will be in focus.

In the United Kingdom, we have “fiscal Tuesday” this week. On 30 June, UK Prime Minister Boris Johnson will set out a “Big Plan” for prosperity. This is the first of what looks like a series of policy/fiscal statements over the next couple of weeks. The key to watch in the announcements is how much is new cash and how much is the same cash being re-announced. According to reports, relatively little is new cash for this year, £700 million (0.035% of GDP). It looks as though risks are to the downside, with figures likely to underwhelm.

Brexit negotiations continue and 30 June also marks the Brexit extension deadline. It is widely expected that the United Kingdom will not extend the transition period past the end of this year.

Market holidays:

1 July – Russia

3 July – United States

Calendar:

Monday 29 June

  • Economic/Political: Bank of England’s Andrew Bailey, Sarah Breeden and Gertjan Vlieghe speak; Brexit negotiations continue.
  • Data: Eurozone: economic survey; Germany: CPI; United Kingdom: M4 Money Supply, mortgage applications; United States: pending home sales; Japan: retail sales

Tuesday 30  June  

  • Economic/Political: Brexit extension deadline; BOE’s Sir Jon Cunliffe speaks; ECB’s Isabel Schnabel speaks; UK PM Johnson’s fiscal announcement; Brexit extension deadline.
  • Data: Eurozone: CPI, France: CPI; Italy: CPI; United States: consumer confidence; China: NBS Manufacturing and Non-Manufacturing PMIs

Wednesday 1 July   

  • Economic/Political: BOE’s Jonathan Haskel speaks; Riksbank interest-rate announcement
  • Data: Global: Manufacturing PMI; Germany: unemployment, retail sales; United States ADP employment report, ISM Manufacturing; China: Caixan Manufacturing PMI; Japan: Tankan Manufacturing and Non-Manufacturing Indices.

Thursday 2 July  

  • Economic/Political:
  • Data: Eurozone: unemployment report; United States: June employment report, initial jobless claims, trade balance

Friday 3 July

  • Economic/Political: ECB’s Klaas Knot speaks
  • Data: China: Caixan Composite & Services PMI

Views You Can Use

Insight from Our Investment Professionals

“Build Back Better”: COVID-19 Brings the “S” From ESG Into Focus

Dislocations resulting from the pandemic shine a light on environmental, social and governance (ESG) issues, which can be used as an additional tool to identify leading companies from the laggards, according to Franklin Templeton’s Global Head of ESG, Julie Moret. She explains why she believes the pandemic has propelled “S” issues to the forefront, and how this environment could cultivate a fertile backdrop for active management. Read More.

The Future for UK Dividends: Unprecedented Times Bring Shifting Dividend Policies

The coronavirus pandemic could shape how UK businesses think about dividends going forward, says Franklin Templeton UK Equity’s Colin Morton. He shares his on-the-ground thoughts on the UK economy, and how it measures up against the last global economic shock. Read More.

The New Emerging Market Landscape: Taking Leadership in Technology

In the final post of our three-part series, the Franklin Templeton Emerging Markets Equity Team explains how emerging market companies are innovating. Read More.

On My Mind: The Fed’s Final Frontier—Negative Rates or Yield Curve Control?

Given fears of a COVID-19 resurgence and US election uncertainties looming, many investors are wondering what comes next for policymakers in terms of supporting the economy. Our Fixed Income CIO Sonal Desai weighs in on the possibility of negative US interest rates or other measures. Read More.

Important Legal Information

This material is intended to be of general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any security or to adopt any investment strategy. It does not constitute legal or tax advice. The views expressed are those of the team and the comments, opinions and analyses are rendered as of publication date and may change without notice. The information provided in this material is not intended as a complete analysis of every material fact regarding any country, region or market.

Companies and/or case studies referenced herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton. The information provided is not a recommendation or individual investment advice for any particular security, strategy, or investment product and is not an indication of the trading intent of any Franklin Templeton managed portfolio.

Data from third party sources may have been used in the preparation of this material and Franklin Templeton (“FT”) has not independently verified, validated or audited such data. FT accepts no liability whatsoever for any loss arising from use of this information and reliance upon the comments, opinions and analyses in the material is at the sole discretion of the user. The companies and/or case studies shown herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton.

Products, services and information may not be available in all jurisdictions and are offered outside the U.S. by other FT affiliates and/or their distributors as local laws and regulation permits. Please consult your own professional adviser or Franklin Templeton institutional contact for further information on availability of products and services in your jurisdiction.

Issued in the U.S. by Franklin Templeton Distributors, Inc., One Franklin Parkway, San Mateo, California 94403-1906, (800) DIAL BEN/342-5236, franklintempleton.com—Franklin Templeton Distributors, Inc. is the principal distributor of Franklin Templeton’s U.S. registered products, which are not FDIC insured; may lose value; and are not bank guaranteed and are available only in jurisdictions where an offer or solicitation of such products is permitted under applicable laws and regulation.

What Are the Risks?

All investments involve risk, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Bond prices generally move in the opposite direction of interest rates. Thus, as prices of bonds in an investment portfolio adjust to a rise in interest rates, the value of the portfolio may decline. Investments in foreign securities involve special risks including currency fluctuations, economic instability and political developments. Investments in developing markets involve heightened risks related to the same factors, in addition to those associated with their relatively small size and lesser liquidity.

Past performance is not an indicator or guarantee of future performance. There is no assurance that any estimate, forecast or projection will be realised.

Links to External Sites

Franklin Templeton is not responsible for the content of external websites.

The inclusion of a link to an external website should not be understood to be an endorsement of that website or the site’s owners (or their products/services).

Links can take you to third-party sites/media with information and services not reviewed or endorsed by us. We urge you to review the privacy, security, terms of use, and other policies of each site you visit as we have no control over, and assume no responsibility or liability for them.

__________________________

1. Indices are unmanaged and one cannot directly invest in an index. They do not include fees, expenses or sales charges. Past performance is not an indicator or guarantee of future results.

2. The TLTROs are targeted operations, as the amount that banks can borrow is linked to their loans to non-financial corporations and households.

3. Source: Financial Times, “Equity fund managers retreat from European banks”, 27 June 2020.

Leave a reply

Your email address will not be published. Required fields are marked *