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London Quick Take - 5 Things to Know in Markets Today - 16 Oct
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5 things to know in markets today
1.Dip buyers defend key level for Nasdaq-100
What a weird day...the bulls circled the wagons and kept the campfires burning. They were not prepared to allow the big 'crescendo selloff' to happen, not with rates coming in. The Nasdaq Composite closed up on the day after plunging –1.4% at one point. The Nasdaq-100 closed above its 50-day moving average, over 500pts off its lows of the day. CoreWeave had been obliterated on its debt costs but rallied sharply in the end to finish up 6%. The S&P 500 snapped a three-day losing streak to end 0.3% firmer while the Dow Jones jumped 1%. There was a definite sense of positive rotation rather than broad derisking, and chips held firm in the end after a brutal selloff. The FTSE 100 continued to act as a safe haven with defensives and rate-sensitive sectors benefitting, while the near total absence of anything related to AI meaning there isn’t much to unwind. The blue chips added another 1% to a 5-week high. Shares this morning are off to a bit of a mixed start with stocks in London and Paris backing off a touch while the DAX is pushing up +0.6%. Back on the chips-rebound train, the Kospi rallied 2% but still posted an almost 15% loss for the week.
2.Fed rate hike bets collapse despite hot inflation data
Supporting the rebound in risk sentiment, Federal Reserve chair Kevin Warsh refrained from signalling a rate hike was likely at the central bank’s late October meeting. Speaking at the IMF summit in Bangkok, Warsh said recent inflation data had not swayed his opinion on the US economy, which saw markets scale back bets for a hike this month. Hotter-than-expected CPI inflation data had driven traders to price in back-to-back rate hikes, after the Fed raised the fed funds rate last month for the first time in three years. But his comments saw traders scale back those bets. Combined with pretty dovish comments from some other FOMC members this week it suggests the Fed is minded to stay on hold until December despite two strong inflation prints this week...odds of a hike now down to 15% from as high as 55%.
3.Inflation remains way too hot
Following the slightly hotter-than-expect CPI number, the PPI print was super hot. US producer prices jumped 1.3% in September and rose 6.3% y/y, the fastest pace in more than four years, primarily driven by a 10.8% jump in energy prices. Excluding food and energy, the core index was 5% higher than a year ago, reaching levels last seen in early 2023. Retail sales were solid but maybe weaker than headline gains suggest as inflation did most of the work. Retail sales rose 0.8% on the month, after a revised 1.3% gain in August and above the 0.3% forecast.
4. Bank stocks get hit by Budget report
Comments from the Chancellor about banks in the last day or so suggested windfall taxes were less likely, which supported the FTSE 100 to rally 1% yesterday. Speaking in Bangkok this week at the IMF he said banks are “hardwired into the economic fabric of this country and our future prospects”. Then, to Bloomberg, he described banks as the “jewel in the crown” of the UK economy. A romantic flourish perhaps but one that I suggested did not shout a hike to the bank surcharge is in the offing.
But today bank stocks got the treatment after a report in the Guardian that the Chancellor is now likely to hike the bank levy. Classic Budget rumours...but worth unpicking a bit.
Britain’s big four high street banks (Lloyds, HSBC, Barclays and NatWest) generated £200bn in profits in the last five years, which has left lenders exposed to attack and maybe more vulnerable to additional tax burdens than at any time since the 2008/09 period. Indeed, shares have jumped to the highest since the global financial crisis. Calls are growing to tax the sector more although UK banks currently face one of the highest tax regimes among developed countries. In addition to paying the main corporation tax rate of 25%, UK banks pay an additional 3% surcharge. But this levy is down from 8% in the past – a return to this level is not out of the question, although today’s higher rate of corporation tax (up from 19% to 25% in 2023) means a rise to 5-6% is more likely. This would take the combined corporate tax burden to 31%. Any % increase in the surcharge would likely hit earnings per share by a similar or slightly greater level, lowering profits, return on equity and potential dividends or buybacks.
Already UK banks face a higher rate of tax than elsewhere. Lobby group UK Finance data shows UK banks were taxed 46.4% when employment taxes and VAT is taken into account, vs 38.9% rate in Frankfurt and 27.9% in New York. There are strong countervailing arguments to raising bank taxes. One of these is hobbling UK's competitiveness vs the likes of Frankfurt and NY, which could further narrow the tax base by attracting labour and capital away from the City. The other major worry is that raising taxes on banks would hurt lending to businesses and consumers. However, given the fiscal position and ideology it looks like bank taxation is a relatively low-hanging fruit for the Burnham/Healey regime. It could be that the Chancellor takes with one hand and gives with another - hike the levy and loosen capital requirements to encourage lending.
Britain’s big four high street banks (Lloyds, HSBC, Barclays and NatWest) generated £200bn in profits in the last five years, which has left lenders exposed to attack and maybe more vulnerable to additional tax burdens than at any time since the 2008/09 period. Indeed, shares have jumped to the highest since the global financial crisis. Calls are growing to tax the sector more although UK banks currently face one of the highest tax regimes among developed countries. In addition to paying the main corporation tax rate of 25%, UK banks pay an additional 3% surcharge. But this levy is down from 8% in the past – a return to this level is not out of the question, although today’s higher rate of corporation tax (up from 19% to 25% in 2023) means a rise to 5-6% is more likely. This would take the combined corporate tax burden to 31%. Any % increase in the surcharge would likely hit earnings per share by a similar or slightly greater level, lowering profits, return on equity and potential dividends or buybacks.
Already UK banks face a higher rate of tax than elsewhere. Lobby group UK Finance data shows UK banks were taxed 46.4% when employment taxes and VAT is taken into account, vs 38.9% rate in Frankfurt and 27.9% in New York. There are strong countervailing arguments to raising bank taxes. One of these is hobbling UK's competitiveness vs the likes of Frankfurt and NY, which could further narrow the tax base by attracting labour and capital away from the City. The other major worry is that raising taxes on banks would hurt lending to businesses and consumers. However, given the fiscal position and ideology it looks like bank taxation is a relatively low-hanging fruit for the Burnham/Healey regime. It could be that the Chancellor takes with one hand and gives with another - hike the levy and loosen capital requirements to encourage lending.
5.Unpicking the AI selloff
Back to the AI drama which remains critical to the direction of equity markets...CoreWeave sits at the heart of the debt financing angst. The stock was near its Situational Awareness lows of just above $60 hit in late July but bounced 6% yesterday after a bruising few days. Gartner predicted 80% of neoclouds will be bust by 2030 at the current pace of spending. Aside from CoreWeave, the list of neoclouds includes Digital Ocean, Hut 8 Nebius, IREN, Cipher Digital and Applied Digital. This story is more about the cost of financing and the economics of data centre leasing, rather than arguing against AI in the round or the whole investment thesis. Through 2030, Gartner says, AI data centre owners would need to generate a cumulative $8.5 trillion in revenue to cover announced capital spending, financing costs, and a 12% return on invested capital (ROIC), but total enterprise and consumer AI revenue is forecast to reach no more than $3.6 trillion. I kind of agree with the bearish thesis on a lot of these stocks but that is not being bearish on AI.
Concerns that enterprise spending won’t justify the buildout hit makers of data centre servers and other backend equipment like Dell, which have benefitted from increased spending on kit by hyperscalers et al. Barclays downgraded Dell, HPE and NetApp, “after a significant run and on enterprise AI timing.”. Analysts at the bank warned that revenue growth for these firms is a bit illusory, noting that “strong enterprise revenues are more of a function of memory costs than a move to enterprise AI at this time.” Dell led the S&P 500 decliners, down about 7%, while HPE also shed 7% and NetApp was –3.4% lower. Coherent, which manufactures components for AI datacentres, was another big faller down 5%.
The memory chip selloff seems way too aggressive if it’s only based on this CXMT China story and oversupply of memory from 2029 on. Of course, it’s also wrapped up in the broader cost-of-capital story but it’s important to note Citi analysts think selloff in memory stocks over global DRAM supply is “overdone” since CXMT is not running the same tech and not about to get ahead of Western counterparts. Nevertheless, Counterpoint Research sees the price of DRAM falling around 23% in 2028 from 2027. Micron, Seagate and Western Digital added to their declines for the week.
Concerns that enterprise spending won’t justify the buildout hit makers of data centre servers and other backend equipment like Dell, which have benefitted from increased spending on kit by hyperscalers et al. Barclays downgraded Dell, HPE and NetApp, “after a significant run and on enterprise AI timing.”. Analysts at the bank warned that revenue growth for these firms is a bit illusory, noting that “strong enterprise revenues are more of a function of memory costs than a move to enterprise AI at this time.” Dell led the S&P 500 decliners, down about 7%, while HPE also shed 7% and NetApp was –3.4% lower. Coherent, which manufactures components for AI datacentres, was another big faller down 5%.
The memory chip selloff seems way too aggressive if it’s only based on this CXMT China story and oversupply of memory from 2029 on. Of course, it’s also wrapped up in the broader cost-of-capital story but it’s important to note Citi analysts think selloff in memory stocks over global DRAM supply is “overdone” since CXMT is not running the same tech and not about to get ahead of Western counterparts. Nevertheless, Counterpoint Research sees the price of DRAM falling around 23% in 2028 from 2027. Micron, Seagate and Western Digital added to their declines for the week.