Equity Monthly: Light at the end of the tunnel? Equity Monthly: Light at the end of the tunnel? Equity Monthly: Light at the end of the tunnel?

Equity Monthly: Light at the end of the tunnel?

Equities 8 minutes to read
Peter Garnry

Head of Equity Strategy

Summary:  A dovish Federal Reserve and a stimulus-pushing Beijing are leading equities higher, but the key outstanding thing remains a trade deal between China and the US.

January was a big comeback month for global equities, which rose 7.8% in the wake of Federal Reserve chair Jerome Powell's significant U-turn on January 4, when he acknowledged that the Fed was open to ending quantitative tightening faster than anticipated and stated that the current interest rate trajectory was put on hold.

Immediately thereafter, the Chinese government enacted several key stimulus programmes, from cutting taxes to cutting interest rates and banks’ reserve requirements. While global equities have responded positively to these events, Chinese investors are still holding back. Key levels in the CSI 300 Index (China’s leading stock market index), however, may soon be broken to the upside which could change the dynamics altogether. From our sources in China, sentiment has changed for the positive lately which will likely drive risk-on sentiment in equities but hard economic data will not show the change until as late as Q4 this year.

The crucial thing required if the economy is to avoid slipping into recession is more monetary stimulus (most likely to come) and a comprehensive US-China trade deal. We use the USDCNH exchange rate as the best proxy for estimating the probability of a trade deal, and the signal here is clear: a trade deal is coming. We put the probabilities at 25% (no trade deal) and 75% (trade deal). But what's more important is the nature of the deal. Will it be comprehensive or not? If it is not comprehensive, the market's reaction will likely amount to a short-lived rally and then a fade. If it is comprehensive and China has responded forcefully enough against its economic slowdown then equities could fight back to new all-time-highs.

What we hear from sources in China is that the two parties (US/China) are moving closer to each other but some key bottlenecks remain in place. Ultimately, however, the process is most likely so advanced that the deal will be extended (the current deadline is March 1). Two things stand out: first, the US wants China to close the trade deficit gap much faster than China can accept given the impact on its economy. Second, this trade deal is highly bilateral, circumventing the World Trade Organisation and in this way potentially representing a new chapter in globalisation. It could potentially represent a new chapter in the globalisation process, and one based more on national interest than is the contemporary norm.
iShares MSCI World ETF
Source: Saxo Bank
Where is the business cycle?

Using the OECD’s Composite Leading Indicators, we see that the the data suggest the OECD countries are currently growing below trend and contracting. This is the most difficult phase in the business cycle because this is when policymakers realise that the economy is quickly losing steam and enact measures to remedy the slowdown. The question then becomes whether policymakers responded quickly and severely enough to avoid deviating further from trend growth and slipping into a recession.

This is exactly the situation facing the global economy right now and also the key driver behind why investors and companies are worried about the future.

The OECD’s data cover until November, but December’s figures are just around the corner and the interesting question is whether the contraction has accelerated or decelerated. The print will most likely reveal the worst business cycle dynamics since late 2009. If the Fed’s U-turn came fast enough and China did its par, then the economy might take a 2012-style path where recession is avoided and global growth is resumed.
OECD Composite Leading Indicators (amplitude adjusted)
OECD Composite Leading Indicators (amplitude adjusted, source: Bloomberg)
What does the current business cycle mean for sector exposure?

Based on data going back to 1995, business cycle phases with contracting growth (both above- and below-trend growth) are the most negative ones, and correlate to declines in the equity market. This fits very well with what we have observed as the global economy went from a boom cycle to a downswing in February 2018 and then shifted into a “recessionary” phase in August 2018. This period saw equities down globally and feature great downside volatility, scaring investors.

In the current phase, the preferred sectors are communication services, information technology and healthcare, and the least preferred are financials, energy and materials. When the business cycle turns into the recovery phase, the best sectors to be exposed to are real estate, financials and industrials while the underweight sectors should be communication services, utilities and materials.
These months are the most important ones for investors since the euro area crisis in 2011/12 and the great financial crisis of 2008-9, so we recommend investors be more active and stay alert to changing conditions. In our next Equity Monthly we will give an updated picture on the business cycle and hopefully more clarity on the US-China trade deal.

Saxo Capital Markets (Australia) Limited prepares and distributes information/research produced within the Saxo Bank Group for informational purposes only. In addition to the disclaimer below, if any general advice is provided, such advice does not take into account your individual objectives, financial situation or needs. You should consider the appropriateness of trading any financial instrument as trading can result in losses that exceed your initial investment. Please refer to our Analysis Disclaimer, and our Financial Services Guide and Product Disclosure Statement. All legal documentation and disclaimers can be found at https://www.home.saxo/en-au/legal/.

The Saxo Bank Group entities each provide execution-only service. Access and use of Saxo News & Research and any Saxo Bank Group website are subject to (i) the Terms of Use; (ii) the full Disclaimer; and (iii) the Risk Warning in addition (where relevant) to the terms governing the use of the website of a member of the Saxo Bank Group.

Saxo News & Research is provided for informational purposes, does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. No representation or warranty is given as to the accuracy or completeness of this information. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. No Saxo Bank Group entity shall be liable for any losses that you may sustain as a result of any investment decision made in reliance on information on Saxo News & Research.

To the extent that any content is construed as investment research, such content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication.

None of the information contained here constitutes an offer to purchase or sell a financial instrument, or to make any investments.Saxo Capital Markets does not take into account your personal investment objectives or financial situation and makes no representation and assumes no liability as to the accuracy or completeness of the information nor for any loss arising from any investment made in reliance of this presentation. Any opinions made are subject to change and may be personal to the author. These may not necessarily reflect the opinion of Saxo Capital Markets or its affiliates.

Please read our disclaimers:
- Full Disclaimer (https://www.home.saxo/en-au/legal/disclaimer/saxo-disclaimer)
- Analysis Disclaimer (https://www.home.saxo/en-au/legal/analysis-disclaimer/saxo-analysis-disclaimer)
- Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)

Saxo Capital Markets (Australia) Limited
Suite 1, Level 14, 9 Castlereagh St
Sydney NSW 2000

Contact Saxo

Select region


The Saxo trading platform has received numerous awards and recognition. For details of these awards and information on awards visit www.home.saxo/en-au/about-us/awards

Saxo Capital Markets (Australia) Limited ABN 32 110 128 286 AFSL 280372 (‘Saxo’ or ‘Saxo Capital Markets’) is a wholly owned subsidiary of Saxo Bank A/S, headquartered in Denmark. Please refer to our General Business Terms, Financial Services Guide, Product Disclosure Statement and Target Market Determination to consider whether acquiring or continuing to hold financial products is suitable for you, prior to opening an account and investing in a financial product.

Trading in financial instruments carries various risks, and is not suitable for all investors. Please seek expert advice, and always ensure that you fully understand these risks before trading. Saxo Capital Markets does not provide ‘personal’ financial product advice, any information available on this website is ‘general’ in nature and for informational purposes only. Saxo Capital Markets does not take into account an individual’s needs, objectives or financial situation. The Target Market Determination should assist you in determining whether any of the products or services we offer are likely to be consistent with your objectives, financial situation and needs.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the US and other countries. AppStore is a service mark of Apple Inc.

The information or the products and services referred to on this website may be accessed worldwide, however is only intended for distribution to and use by recipients located in countries where such use does not constitute a violation of applicable legislation or regulations. Products and Services offered on this website is not intended for residents of the United States and Japan.

Please click here to view our full disclaimer.