Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
Summary: With Fed officials keeping up their rate hike rhetoric, swaps are now pricing in a 5% peak rate in the first half of next year. The benchmark 10-year Treasury yield rose 9 basis points to 4.23%, which weighed on equity valuation multiples. Snap earnings also send a warning on tech earnings ahead. UK PM Truss’ resignation would do little to help with the chaos in UK economy and politics. The dollar was mixed, oil was steady, gold retreated as bond-yields rose.
US stocks fell for the second day, after Treasury yields rose again, continuing to climb into territory not seen in more than a decade, with Fed officials keeping up their rate hike rhetoric. Swaps are now pricing in a 5% peak rate in the first half of next year. The benchmark 10-year Treasury yield rose 9 basis points to 4.23%, at one point hitting 4.239%, its highest level since 2008. The policy-sensitive yield, the 2-year Treasury traded up five basis points to 4.608%. As such this makes high PE tech stocks look expensive, particularly as the Nasdaq only offers a yield of 0.97%, and the S&P500 has an average yield of 1.8%, and the Dow Jones with a yield of 2.2%, all at a time when US corporate earnings are falling for the first time this year. The Nasdaq 100 fell 0.5% and the S&P 500 erased an earlier gain of more than 1%, before it ended 0.8% lower. Utilities down 2.5%, were the worst performing sector in the S&P 500. Communication Services outperformed, led by AT&T (T:xnys) which jumped 7.8% after the telecommunications giant reported earnings beating estimates and raising profit outlooks.
U.S. treasuries sold off for a second day in a row, with the 2-year yield climbing 5bps to 4.615 and the 10-year yield 9bps higher at 4.23%, the highest levels in 14 years. Yields surged after the Philadelphia Fed President Harker said he was expecting the Fed Fund rate to be “well above 4% by the end of the year” and Fed Governor Cook said fighting inflation “will require ongoing rate hikes and then keeping policy restrictive for some time.” Hedging for new issues in the corporate space also contributed to the rise in yields.
Hong Kong stocks tumbled with Hang Seng Index down 1.4% hitting 13-year lows. The bounce on the news of China shorting quarantine requirement for inbound travellers failed to hold. Higher U.S. bond yields and the Chinese Yuan weakening to new lows weighed on the markets. To add to the woes, investors have become increasingly concerned about the potential policy implications of the concept of “regulating the means of accumulating wealth” introduced in the Work Report delivered at the Chinese Communist Party’s National Congress last Sunday and the newswire report that the U.S. and Taiwan are in discussion of jointly manufacturing weapons. Chinese leading banks kept the 1-year and 5-year Loan Prime Rates unchanged. China Internet names sold off 3% to 8%. The EV space remained weak, with leading names falling by 2% to 6%. JD Health (06618:xhkg) rose 7.1% on share buyback news. Semiconductor stocks surged in Hong Kong and mainland bourses. Reportedly, the Ministry of Industry and Information Technology summoned executives of microchip manufacturers to discuss the latest moves from the U.S. to contain China’s access to U.S. semiconductor technology and pledged support to the domestic semiconductor industry. In addition, mainland securities firms published reports saying that China’s domestic chip-making industry will benefit from the whole-nation systemic initiatives to develop strategic technologies proposed at the CCP’s National Congress. Semiconductor names surged both in Hong Kong and mainland bourses, with Hua Hong Semiconductor (01347:xhkg) rising 5.6%, SMIC (00981:xhkg) climbing 1.6%, and Naura Technology (002371:xsec) limit up 10%. CSI 300 gained 0.6%.
The following companies reporting quarterly and revenue numbers are a focus today; with Australia’s second biggest lithium company, Allkem reporting (AKE) quarterly production that missed expectations, seeing its shares decline almost 4%. Investors focused on the mining giants guidance for the year ahead with Allkem noting it expects lithium carbonate prices to be higher by 15% this quarter, than the last. Meanwhile, it reported lower grades, flagged issues including logistics delays in South America and on-going labour and equipment shortages in Western Australia. As a result, production at its South American Olaroz Stage 2 project is now delayed and planned for Q2 CY23. In good news though for Australia’s second biggest lithium company, Allkem, its net cash rose to $447 million (as at Sept. 30, up from $28.9 million from June 30). In Coal news Whitehaven Coal (WHC) shares rocked 3.2% higher after 16.6 million in block trades pushed its shares up, with the block of trades equating to 2.1% of its float. Also in Coal news, Coronado Global (CRN) results are set to be released and pulled apart, with the coal price in record high neighborhood, despite falling 13% from its high. It will be interesting to glean into their outlook for the year, particularly as coal demand usually peaks in January. For Coronado, focus will also be on the potential merger with Peabody. Other companies to watch include, wealth and financial planning business, AMP (AMP) with focus to be on how they can return $1.1b capital to investors in FY23. And in industrials, eyes will be on rubbish business, Cleanaway (CWY), who is holding its Annual Meeting. Traders will be looking to see if Cleanaway changes its earnings (Underlying Ebitda) forecast that’s pegged to be between A$630m to A$670m.
USDJPY finally broke above the key 150 level yesterday, the level above which many expected intervention. Officials have been jawboning the pair, including FinMin Suzuki this morning saying that they continue to watch the markets with a sense of urgency. He also seemed cautioned by the rattle in the UK markets, as suggested by his comments that they will pursue fiscal health so that market trust isn’t lost. BOJ meeting next week is key, although a change in policy stance cannot be expected. The break of 150 now exposes 153 levels in USDJPY.
Gains in crude oil on the back of expectations of China easing inbound tourism policy restrictions, but gains were later reversed with focus still on US efforts to curb price increase in energy. While the 15mbbl of release announced by President Biden is a part of the larger 180mbbl release that commenced earlier this year, focus is also on how the US strategic reserves will be refilled. WTI futures were seen back below $85/barrel while Brent was close to $92.
After significant economic and political turmoil, Liz Truss resigned as Britain’s prime minister after just 44 days in office. The easy choice remains Rishi Sunak, former chancellor, who stood against Truss for the Tory leadership in the summer and predicted correctly that his rival would set off panic in the markets if she pressed ahead with a massive package of debt-funded tax cuts. The other alternative being ex-PM Boris Johnson or Penny Mordaunt, who also stood for the Tory leadership in the summer. Fiscal policy is unlikely top see a major shift with the new PM, as UK administration now remains extremely sensitive to market events. There is little they can do to prevent the upcoming recession or bring back asset allocation to UK assets.
Early 2023 Fed rate expectations have now reached over 5%, with the Fed funds rate now fully pricing in a 75bps rate hike for the November meeting and a strong probability of another 75bps rate hike at the December meeting. While the Fed has reiterated it will continue to hike more next year before it pauses, but the market pricing is now running higher than what the dot plot has hinted earlier. So the room for the Fed to surprise on the hawkish side in diminishing, especially if core inflation continues to surprise on the upside. Fed speakers are starting to turn slightly cautious looking at the market pricing, with Charles Evans last night saying that if the Fed pushes its policy rate much further than planned it could start to weigh on the economy and says he is worried that at some point rate increases could have a non-linear impact with businesses becoming more pessimistic. Harker (2023 voter) and Cook reasserted that the Fed needs to continue to hike but will noted that the Fed can pause sometime next year to assess the impact of its tightening on the economy. Another fall in weekly jobless claims for the Oct 15 week continued to suggest labor market strength despite the disruptions from recent hurricanes.
Reportedly, the Chinese authorities are considering to reduce the current 7 days in hotel plus 3 days at home quarantine requirement for people travelling into China to 2 days in hotel plus 5 days at home. While the move may be small in magnitude, and still not confirmed by the authorities, it may have signaling power in terms of more flexbility in the day-to-day implementation of the zero Covid policy which is constraining consumption, investment and tourism. .
Bloomberg reports, citing “people familiar with the situation”, that the Biden administration is considering, at an early stage, new export bans limiting China’s access to advanced computing technologies that can be used in quantum computing and artificial intelligent software.
A US official has warned that aggressive cyberattacks will rise from Russia, China, North Korea, Iran, particularly against Asian countries. It comes after a very strong spate of cyberattacks occurred globally this month, from Microsoft’s data being breached, along with the Japanese Securities Dealer Association, Australia’s Taxation Office batting three attempts per month, to the Indianapolis Housing Agency’s systems being breached as well, as well as one of Australasia’s telcos, and an ASX listed insurance group, Medibank. This reflects the need for companies and organizations to ramp up cybersecurity spending now and on an ongoing basis. This brings to mind perhaps the importance of remembering the need for diversification and possibly considering exposure to Cybersecurity stocks and ETFs. For more information, refer to our cybersecurity basket.
Japan’s core inflation touched 3% levels for the first time in over 30 years, matching expectations. Headline inflation came in higher-than-expected at 3.0% y/y while core-core ex fresh food and energy) measure was up at 1.8% y/y from 1.6% y/y previously. The stark yen weakness can prompt further import price pressures in Q4 as well, and demand is likely to push higher as well with Japan reopening its borders from the pandemic restrictions. Bank of Japan meets next week, and while policy change is hard to expect, it is expected that the central bank will raise the CPI forecast for fiscal 2022 (year ending March) from 2.3% to high-2% range.
Snap (SNAP:xnys) plunged 26.5% in the after-hour trading, following the company reported Q3 revenues growth at 6% Y/Y, largely in line with street estimates, but said its internal forecast for the Q4 revenues growth is decelerating to about flat year on year (vs market expectations of +6% Y/Y). The social media company said that they are finding “advertising partners across many industries are decreasing their marketing budgets, especially in the face of operating environment headwinds, inflation-driven pressures, and rising costs of capital.”
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