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Climate warming

3 March 2014, Wealtheon

Whereas numerous macroeconomic indicators were published in the United States, affected by an exceptionally cold winter, in Europe the main events in February were the revolution in Ukraine, the possibilities of defaults and the change of government in Italy.

Equities

After the fall in emerging currencies in January, the equity markets recovered rather well in February. Across the Atlantic, the forward indicators were somewhat mixed. The particularly icy temperatures were partly to blame, with the economy fairly seriously paralysed. The ISM index for manufacturing was down heavily for January, ending up at 51.3 compared with 57 previously. More locally, Philly Fed and Empire State also retreated. Real estate obviously took a beating, with a 16% decline in housing starts in January. The sector also saw a slump in morale, down from 56 to 46 according to the NAHB. But there’s nothing to worry about: purchases of new homes jumped 9.6% to 468 000 units, the highest since July 2008. The Conference Board reported a slight fall in household confidence, to 78.1 compared with 79.4 in January. Even though the equity indices gained 4 to 5% last month, only the Nasdaq has managed to provide any yield since the beginning of the year.

Back on this side of the Atlantic, the European Commission revised its growth forecasts upwards, stating, “The worst of the crisis is behind us, but this is not an invitation to be complacent”. After two years of recession, the 18 members of the eurozone should return to growth, with a rise of +1.2% this year and +1.8% in 2015. On a broader scale, the European Union – all 28 member countries – should see a 1.5% increase in GDP this year and 2% next year. On the other hand, Slovenia and Cyprus are likely to make a negative contribution to this growth in 2014. Meanwhile, France has said it could miss out on its commitment to reduce the public deficit to under 3%. In Italy, Matteo Renzi carried out a sort of putsch within his own party by dismissing Enrico Letta and becoming Prime Minister. He also won his first vote of confidence in the Chamber.

In Ukraine, the temperature is on the high side. Situated the gates of the European Union, civil war broke out between opponents to the authorities and the forces of law and order. This prompted President Yanukovych to flee the country. The EU has had to intervene diplomatically and may also have to do so financially. But beware of tomorrows that fail to deliver! First of all, the east of Ukraine remains very pro-Russian, particularly in Crimea, where a sort of cold war is being conducted. Second, the country is on the brink of bankruptcy. Ukraine needs to find the means to repay $9 billion in debts this year, whereas it barely has double that in foreign reserves and its currency is falling sharply. The IMF will have to factor in new aid and Russia has begun military manoeuvres.

In Europe, however, the markets performed well: + 4.5% for the Eurostoxx 50 (1.3% YTD) and a slight outperformance in Italy.

In Asia, the yen is weaker. The Nikkei remained stable in local currency and +2% for the Hang Seng. We remain positive (and overexposed) about the United States. We are also positive on Europe and the Asia Pacific (+ Japan), although negative on emerging countries.

Interest Rates & Credit

In terms of interest rates, the market remained fairly quiet in February. After clearly relaxing in January, sovereign rates stayed relatively stable. In the USA, the 10-year rate didn’t budge (+5 bps). The Fed continued its tapering, which is scheduled to each this autumn. In Europe, the Bund only gave up 4 bps to 1.6%. The OAT / Bund spread did not move. This meant that the yield differential between the two countries remained stable, whereas France was criticised for its management of public deficits, which was rather surprising.

Rates on peripheral debt relaxed again. The BTP in Italy is now at 3.53% (-38 bps), as is the Bonos in Spain (-25 bps) for the same term. Also, having raised its outlook for Italy to positive, Moody’s also recognised Spain’s efforts by lifting its sovereign rating a notch to Baa2. The agency also acted on bank ratings and Cedulas (Spanish covered bonds), but kept an eye on the quality of bank assets. Doubtful debts in the Spanish banking sector reached a new high at the end of December: 13.6%. The region of Andalusia should also return to primary status after meeting its deficit reduction targets. Portugal, now below 5%, eased 14 bps to 4.83%. Greece was down 174 bps to 6.66%, which was the first time since May 2010 whereas there had been talk of a new debt extension and aid for the banking sector. The latter sector saw unpaid debts soar. .

On credit, paper Hypo Alpe Adria is beginning to make a noise. HAA? In difficulties, the Austian bank whose senior lines are guaranteed by the Province of Carinthia (hence indirectly by the Austrian government) may need a haircut according to the wishes of the new finance minister. Just as a reminder, Austria (AAA) is neither Greece nor Cyprus! Spreads on the iTraxx indices tightened again, including 45 bps for the Xover. Also, for the March roll call, the index will be enlarged to 75 names in the future, compared with 50 at the moment. The money market continues to keep a very close eye on possible action by the ECB, which itself remains under pressure. Inflation remained low at 0.8%.

Commodities 

In soft commodities, February was particularly noteworthy for the sharp rise of 43% in coffee prices (60% YTD). The severe drought in Brazil, the world’s leading producer and exporter, is impacting production. Foreshadowing lower harvest yields, the May 2014 contract closed at $178 cents per pound. The same went for sugar, which rose 11%, wiping out its losses in January, and indirectly ethanol (sugar cane). Despite the lack of supply, cocoa remained stable at $ 2914 per ton. With difficult weather conditions in South America and the Midwest, cereal prices pushed upwards. As a major exporter of wheat, Ukraine also carried some weight.

Precious metals gained more ground. The yellow metal has returned 10% YTD, helped by the weakness in the dollar. Copper stayed still and remains linked to growth in China.

In energy, the coldest American winter for thirty years reduced stocks, putting them under price pressure, particularly for natural gas (Henry Hub), which is used by one household in two.

Foreign currency

The rather lukewarm statistics in the United States, resulting from the exceptionally cold weather, weighed down on the greenback against the European currency. The dollar moved from 1.348 to 1.365 against the euro. The yen remained stable in February, after playing the role of safe haven currency in January. With the tensions in Ukraine, the currency fell, as did the Russian rouble. We remain long on the dollar (vs euro) and our exposure to the yen remains covered.


Macroeconomics


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