Overnight funding issues, FOMC junction and FedEx shock

Equities 5 minutes to read

Peter Garnry

Head of Equity Strategy

Each new week adds another dimension. This week oil markets saw massive volatility as the attack on Saudi Arabia’s largest oil processing facility sent oil prices higher before giving back most of the gains yesterday as Aramco announced that production would be back to pre-attack levels by end of September. On top of oil market volatility, the past two days have seen jumps in the general collateral overnight repo rate (see chart) and the FRA-OIS spread which measures credit risk in the banking system.

Source: Bloomberg

The jump in overnight repo rate has been due to several colliding factors from large Treasury auctions and corporate tax payments. However, both events are well-known beforehand so one must wonder how the repo market could be so unprepared. Our sources also tell us that Saudi Arabia pulled USD from the system to offset weakness domestically from the attack which naturally has added funding stress. The expectation is that the Fed intervenes again today in the repo market but in general market consensus is that the spillover effects are low as the constraints in the repo market can easily be solved short-term.

But the jump overnight repo rates put the Fed in a difficult situation tonight at the FOMC rate decision because the narrative has definitively changed from being that of excess reserves and temporary slowdown coupled with some uncertainty over US-China trade war. The narrative seems to be tight USD funding markets, strong USD is slowing global growth, Fed cannot reduce balance sheet while the US government increases its fiscal deficit and the US-China trade war will persist deep into 2020. The Fed Chair Powell must steer away from the story of a mid-cycle adjustment to that of the world flirting with recession.

The base scenario tonight is a 25bp rate cut with language likely to the hawkish side against current market expectations. It should be clear by now that the Fed is close to losing control over monetary policy and is perceived by the market as being behind the curve.

In Europe this morning car sales showed significant weakness in August and growth turning down again (see chart) whereas China seems to have managed a sustained improvement in its car market. Yesterday’s better than expected ZEW figures on expectations would normally have lifted markets but the current conditions index still declined and today car sales figures show that Europe is in need for more stimulus. However, the ECB cannot do more to help the economy and apparently Draghi’s cry for help from the fiscal side has started talks among governments in Europe. The Dutch government announced yesterday plans for increased government spending in 2020 and cutting taxes.

FedEx shares plummeted 10% in extended trading as the company significantly downgraded its FY EPS guidance. In June the logistics company guided minus 5% EPS growth in current fiscal year. But yesterday that guidance was lowered to minus 16-29% which is a shocking development. FedEx is impacted by the US-China trade war which is softening the demand for logistics services globally but also the recent split from Amazon as FedEx now perceives the e-commerce retailers as a competitor has hurt the outlook.

Source: Saxo Bank

On top these events FedEx is integrating an acquisition in Europe so the economic slowdown could not happen at a worse point in time. In terms of valuation FedEx is valued at a significant discount to US equities but investors and analysts are not really biting. FedEx has accumulated a massive debt exposure over the years with the net debt expanding from $2bn in 2013 to around $32bn as of August 2019. This debt accumulation has come while operating earnings have only increased by around 30% so the credit quality has obviously deteriorated for FedEx. The company will strategically be stuck for years to come due to the ongoing US-China trade war, the loss of Amazon and need to reduce balance sheet leverage.

Disclaimer

Saxo Capital Markets (Australia) Pty Ltd 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 Combined 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.

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) Pty Ltd.
Level 25, 2 Park Street
NSW 2000
Sydney
Australia

Australia

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) Pty Ltd 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 & Combined Financial Services Guide & Product Disclosure Statement 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. Trading in leveraged products such as CFDs and Margin FX products may result in your losses surpassing your initial deposits. 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.

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.