Stagflation and debt ceiling at the forefront of investor minds

Chief Investment Officer's team

03 October 2021

Q3 starts with questions about an unfavorable mix of growth and inflation and debt-ceiling angst

AT A GLANCE

Q3 starts with questions about an unfavorable mix of growth and inflation and debt-ceiling angst
Investors will be parsing company reports seeking possible inflation spill overs to earnings
Our outlook remains constructive with markets climbing a steeper wall of worry

As central bankers barely start to acknowledge that price pressures are lasting longer than initially projected, inflation has reached new highs in the United States and in Europe on rising energy prices and supply bottlenecks restraining the recovery. Inflation gauges reached 4.3% in August on a yearly basis in North America, the largest increase since 1990, and 3.4% in the Eurozone. Energy costs rose on average in the low double digits across the Atlantic, compounded by an energy crisis in Europe fueled also by the phasing out of coal and a bad year for wind production.

If inflation is not showing signs of letting up, it is important that growth rebounds sooner rather than later, for markets to remain resilient. We could be seeing the first green shoots of a pickup in economic growth rates with the Citigroup US Economic Surprise Index coming off very depressed levels. In China the latest PMI reading was seemingly discouraging, although the details pointed to improving internal demand. Investors will be closely watching the forthcoming reporting season for possible signs of spill over into corporate earnings. In the three months ending September “inflation” was mentioned the most across the last two decades in global earnings transcripts.

In the month of October the US debt ceiling issue will be coming to a head, forcing the Democrats and Republicans to bridge the large rift dividing them, unless a political accident engenders the first default in US history, which would not be our base case.

Overall, we remain constructive on the outlook, while acknowledging that market volatility is unlikely to subside in the shorter-term.

Cross-asset Update

Four leading central bankers on Thursday warned about lingering supply bottlenecks, as Jay Powell found it “frustrating” that they hold back the recovery and Christine Lagarde said that how long it will take for them to fade out is “a question we are monitoring closely”. The Fed chair also acknowledged that “scope and persistence of the supply-side constraints were missed”. Taken at face value, these declarations imply that the very monetary authorities steering the economy have such low visibility on the inflation outlook, that one may wonder about the kind of foresightedness others enjoy. Or maybe not. This year in March Larry Summers, ex Treasury secretary, went so far as to claim that inflation is caused by the Fed dismissing it as transitory; Jeffrey Gundlach, founder of the investment firm Double line Capital, in April mentioned that “there’s plenty of indicators that suggest that inflation is going to go higher, and not just on a transitory basis”; and Mohammed El Erian, renowned Wall Street investor and now Allianz advisor, said in May that supply bottlenecks “are not going away anytime soon”, citing macro data, and anecdotal evidence from many prominent CEOs complaining about their inability to secure imports, which would force them to increase prices. Many others have since joined the growing chorus of experts not buying into the “transitory” narrative, from JPMorgan’s Jamie Dimon, to Blackrock’s Larry Fink just to mention a few.

If one rightly wishes that central bankers were wearing a different pair of glasses, at least as far as price pressures are concerned, then one may as well wish that the Fed and other central banks know what they are doing with Quantitative Easing. Is there any reason to keep extraordinary stimulus going in the US, in a measure much bigger than after the Great Financial Crisis, if the current economic issues are more supply- than demand-side related? With excessive stimulus the Fed would eventually be forced to slam on the brakes of tighter policy, nobody wants that and markets could not afford it.

As stagflationary issues remain largely unaddressed by the authorities, investors had better do at least something about it. Protecting a portfolio from inflation can be achieved for instance by partially replacing the share of global Treasuries with Treasury Inflation Protected Securities, or TIPs. The only large and liquid market is in the United States, where currently one has to accept a negative real rate of almost 0.9% for the privilege of investing. For investors who are willing to take more risk a better option would be to look into oil stocks, boasting a dividend yield of slightly more than 4% in the US and 5% in Europe. The oil market is still tight due to the strong post-Covid recovery and the energy crisis in Europe should induce some gas-for-oil substitution effects, pointing to further tightening for the crude outlook.

Fixed Income Update

Two narratives currently dominate the fixed income landscape, at the opposite ends of the credit spectrum.

Firstly, the focus is on the movement in the US Treasury yields. The yields are on the move post FOMC meeting, where Chairman Powell announced taper timelines that were slightly faster than market anticipation. The 10- year US treasury yields crossed 1.5% for the first time since June but settled at 1.46% on Friday, driven by uncertainties. The 30-year Treasury yields increased to 2.02%. There are critical macro data, including the September Jobs report and FOMC meeting minutes in the next couple of weeks which would affect the movement of the yields. The steepening of the yield curve resulted in a sea of red across the various segments of the asset class. EM Sovereign and GCC Debt, which have longer durations, had the lowest returns of -0.5% last week. The only segments which were relatively unscathed are Developed Market Treasuries and China Investment Grade bonds.

Secondly, Evergrande weighed on the minds of the Emerging Market investors even though we continued to see state intervention and flow of positive developments. After an eventful previous week where the company "settled" its onshore bond payments and defaulted in the payment to local banks, Chinese authorities have directed the company not to default on the offshore bonds in the short term. Moreover, Evergrande said on Wednesday that it had reached a deal to raise $1.5 billion from selling its stake in Shengjing Bank to the local Shenyang government. In addition, Evergrande paid its first 10% instalment on wealth-management products due September, which may indicate improvement in its liquidity, at least for now. According to Bloomberg, there have been other signs of this in the last few days, for example, Evergrande resuming construction at about 20 property projects in Guangdong. But the saga is far from over, with Asia HY spreads further widening to 979 bps at the end of the week. As a result, we believe there is limited downside from current levels for Asia HY investors.

Outflows from Emerging Market bond funds have picked up space. In the last two weeks, the total outflows have reached $4bn, which is the highest outflow since the onset of the pandemic. According to S&P, the 2021 global corporate default tally remained at 59, with no defaults in the last couple of weeks. There has only been one default in September so far and 12 in the third quarter, the lowest since 2014.

In a piece of exciting news for GCC markets, S&P revised Oman's outlook to positive, according to a report published yesterday. This could lead to the first upgrade for the nation in a decade. The rating rationale mentions that the authorities have outlined a solid path to reduce the historically high fiscal deficits, backed by a strong political will to implement the related reform measures. In its medium-term fiscal plan (MTFP) for 2021-2025, the government has set an ambitious target to achieve fiscal balance by 2025. We like the 7-10 years part of the sovereign curve and the Quasi sovereigns, including OMGRID, OMANTEL, and OQ.

Equity Update

It is a good start to October for the UAE with the most inclusive opening of the Expo 2020, rebounding visitor arrivals and an increase of permanent residents with rents and real estate prices on the upswing. A successful listing of the ADNOC Drilling IPO. And amongst the best performing equity markets year to date, though September saw a mixed performance, with Dubai equities losing close to 2% and Abu Dhabi equities flat, in line with global market performance.

September was a volatile month for global equity markets, not uncommon as per statistical data. While virus fears are somewhat abating with global travel picking up, a number of factors led to last month’s market downturn. For developed markets it is the approaching reduction of fiscal and monetary stimulus alongside rising sovereign bond yields, the already strong stock performance with markets priced for perfection, and inflation and supply chain imbalances as the world reopens. A common worry for EM and DM is rising energy costs related to oil, natural gas and coal. Brent is up around 50% ytd. In September global equities fell -4%, the S&P 500 -4.8%, the Eurozone -5.9% and China -2.6% whilst the U.S. 10 year treasury yield rose by 25bps to 1.48%. Last week was negative for most markets, though the US had an up day on Friday and has begun October well with a partial government shutdown averted. EM performance dominated by China also suffered in September as China overseas listed companies, particularly in the tech payment space or those with a large number of users continue to see increasing regulatory scrutiny. Last week however, saw China equities +0.4%, very small but a nice turnaround from the continuing negative news flow. Lingering worries over real estate leveraging remain. The A share market is now closed for the national holiday week.

We remain constructive on equity performance for Q4. We anticipate slower gains and more persistent volatility with peak earnings and economic growth for the developed economies having been achieved in Q2, though the higher base itself forms a constructive backdrop. An expected 27% y/y EPS growth for S&P 500 companies in Q3 is good following 88% in Q2, with even higher expectations for Eurozone earnings growth. Our fair value for the S&P 500 is at 4400 for the year end based on a P/E of 23X and earnings growth of 37%. With upside surprises, earnings growth should be higher at 42% as per consensus. Emerging markets have different stories with China on a longer term trajectory of common prosperity and India quick to take the baton and welcome foreign investment and technological advances, reflected in their ytd performance with the MSCI China Index -17% and MSCI India +26%.

Our global sectoral preference remains for financials on higher yields and healthcare as a defensive positioning.

Inflation worries globally remain centred around rising energy costs, chip shortage and labour. The continuing semiconductor shortage could cost the global auto industry $210 bn in lost revenues this year, with US September auto sales 25% below last year’s. Tesla, the most valuable auto maker in the world, is however on track to achieve a growth rate of 50%.

Written by:

Anita Gupta Head of Equity Strategy , Anitag@EmiratesNBD.com
Giorgio Borelli Head of Asset Allocation , GiorgioB@EmiratesNBD.com
Maurice Gravier Chief Investment Officer , MauriceG@EmiratesNBD.com
Satyajit Singh Fixed Income Analyst , SatyajitSI@EmiratesNBD.com

Disclaimer

IMPORTANT INFORMATION

This document is prepared by Emirates NBD Bank (P.J.S.C) (“the Bank” or “Emirates NBD”), licensed and regulated by the Central Bank of the UAE (“Central Bank”) and the Securities and Commodities Authority of the UAE (“SCA”) and subject to regulation, supervision and control of the Central Bank and SCA, having its head office at Baniyas Road, Deira, PO Box 777, Dubai, United Arab Emirates. This document may be distributed and/or made available by the Bank and its affiliates and subsidiaries, including Emirates NBD Capital KSA CJSC (“ENBD Capital”) (through its website, its branches or through any other modes, whether electronically or otherwise).

Emirates NBD and its affiliates, subsidiaries and group entities, including its shareholders, directors, officers, employees and agents are collectively referred to Emirates NBD Group.

Any person (hereinafter referred to as “you”, “your”) who has received this document or have access to this document shall acknowledge and agree to the following terms.

Reliance

Data/information provided in this document are intended solely for information or illustrative purposes and are not designed to initiate or conclude any transaction.

This publication may include data/information taken from stock exchanges or other third-party sources from around the world, which Emirates NBD reasonably believes to be reliable, fair and not misleading, but which have not been independently verified. The provision of certain data/information in this publication may be subject to the terms and conditions of other agreements to which Emirates NBD is a party. Opinions, estimates and expressions of judgment are those of the writer and are subject to change without notice. Emirates NBD or any member of Emirates NBD Group makes no representation or warranty and accepts no responsibility or liability for the sequence, accuracy, completeness or timeliness of the information or opinions contained in this publication. Nothing contained in this publication shall be construed as an assurance by Emirates NBD that you may rely upon or act on any information or data provided herein, without further independent verification of the same by you.

The contents of this document are prepared as of a particular date and time and will not reflect subsequent changes in the market or changes in any other factors, including those relevant to the determination of whether a particular investment activity is advisable. Emirates NBD does not undertake any obligation to issue any further publications or update the contents of this document. Emirates NBD may also, at its sole discretion, update or change the contents herein without notice. Emirates NBD or any member of Emirates NBD Group does not accepts no responsibility whatsoever for any loss or damage caused by any act or omission by you as a result of the information contained in this publication (including by negligence).

References to any financial instrument or investment product in this document are not intended to imply that an actual trading market exists for such instrument or product. Certain investment products mentioned in this document may not be eligible for sale in some jurisdictions, and they maynot be suitable for all types of investors. The information and opinions contained in this publication is provided for informational purposes only and have not been prepared with any regard to the objectives, financial situation and particular needs of any specific person, wherever situated. If you wish to rely on or use the information contained in this publication, you should carefully consider whether any investment views and investment products mentioned herein are appropriate in view of your investment experience, objectives, financial resources and relevant circumstances. You should also independently verify and check the accuracy, completeness, reliability and suitability of the information and should obtain independent and specific advice from appropriate professional advisers or experts.

Confidentiality

This publication may be provided to you upon request (and not for distribution to the general public), on a confidential basis for informational purposes only, and is not intended for trading purposes or to be passed on or disclosed to any other person and/or to any jurisdiction that would render the distribution illegal.

Solicitation

None of the content in this publication constitutes a solicitation, offer, recommendation or opinion by Emirates NBD to buy, sell or trade in any security or to avail of any service in any jurisdiction. This document is not intended to serve as authoritative legal, tax, accounting, or investment advice regarding any security or investment, including the profitability or suitability thereof and further does not provide any fiduciary or financial advice. This document should also not be used in substitution for the exercise of the prospective investor’s judgment.

Third Party

This publication is not intended for use by, or distribution to, any person or entity in any jurisdiction or country where such use or distribution would be contrary to law or regulation. It is the responsibility of any person in possession of this publication to investigate and observe all applicable laws and regulations of the relevant jurisdiction. This publication may not be conveyed to or used by a third party without the express consent of Emirates NBD or its affiliates, subsidiaries or group entities distributing this document. You should not use the data in this publication in any way to improve the quality of any data sold or contributed by you to any third party.

Liability

Notwithstanding anything to the contrary set forth herein, Emirates NBD, its suppliers, agents, directors, officers, employees, representatives, successors, assigns, affiliates or subsidiaries shall not, directly or indirectly, be liable, in any way, to you or any other person for any: (a) inaccuracies or errors in or omissions from this publication including, but not limited to, quotes and financial data; or (b) loss or damage arising from the use of this publication, including, but not limited to any investment decision occasioned thereby. Under no circumstances, including but not limited to negligence, shall Emirates NBD, its suppliers, agents, directors, officers, employees, representatives, successors, assigns, affiliates or subsidiaries be liable to you for direct, indirect, incidental, consequential, special, punitive, or exemplary damages even if Emirates NBD has been advised specifically of the possibility of such damages, arising from the use of this publication, including but not limited to, loss of revenue, opportunity, or anticipated profits or lost business.

This publication does not provide individually tailored investment advice and is prepared without regard to the individual financial circumstances and objectives of person who receive it. The appropriateness of an investment activity or strategy will depend on the person’s individual circumstances and objectives and these activities may not be suitable for all persons. In addition, before entering into any transaction, prospective investors should: (i) ensure that they fully understand the potential risks and rewards of that transaction; (ii) determine independently whether that transaction is appropriate given an investor’s investment objectives, experience, financial and operational resources, and other relevant circumstances; (iii) understand that any rates of tax and zakat or any relief in relation thereto, as may be referred to in this publication may be subject to change over time; (iv) consult their advisers on the legal, regulatory, tax, business, investment, financial and accounting implications of the investment; (v) understand the nature of the investment and the related contract (and contractual relationship) including, without limitation, the nature and extent of their exposure to risk; and (vi) understand any regulatory requirements and restrictions applicable to the prospective investor

Forward Looking

Past performance is not necessarily a guide to future performance and should not be seen as an indication of future performance of any investment activity. The information contained in this publication does not purport to contain all matters relevant to any particular investment or financial instrument and all statements as to future matters are not guaranteed to be accurate. Certain matters in this publication about the future performance of Emirates NBD or members of its group (the Group), including without limitation, future revenues, earnings, strategies, prospects and all other statements that are not purely historical, constitute “forward-looking statements”. Such forward-looking statements are based on current expectations or beliefs, as well as assumptions about future events, made from information currently available. Forward-looking statements often use words such as “anticipate”, “target”, “expect”, “estimate”, “intend”, “plan”, “goal”, “seek”, “believe”, “will”, “may”, “should”, “would”, “could” or other words of similar meaning. Reliance should not be placed on any such statements in making an investment decision, as forward-looking statements, by their nature, are subject to known and unknown risks and uncertainties that could cause actual results, as well as the Group’s plans and objectives, to differ materially from those expressed or implied in the forward-looking statements. Estimates of future performance are based on assumptions that may not be realized.

Risk

Data included in this publication may rely on models that do not reflect or take into account all potentially significant factors such as market risk, liquidity risk, and credit risk. Emirates NBD may use different models, make valuation adjustments, or use different methodologies when determining prices at which Emirates NBD is willing to trade financial instruments and/or when valuing its own inventory positions for its books and records. The use of this publication is at the sole risk of the investor and this publication, and anything contained herein, is provided "as is" and "as available." Emirates NBD makes no warranty of any kind, express or implied, as to this publication, including, but not limited to, merchantability, non-infringement, title, or fitness for a particular purpose or use.

Investment in financial instruments involves risks and returns may vary. The value of investment products mentioned in this document may neither be capital protected nor guaranteed and the value of the investment product and the income derived therefrom can fall as well as rise and an investormay lose the principal amount invested. Investment products are subject to several risks factors, including without limitation, market risk, high volatility, credit and default risk, illiquidity, currency risk and interest rate risk. It should be noted that the value, price or income of securities denominated in a foreign currency may be adversely affected by changes in the currency rates. It may be difficult for the investor to sell or realise the security and to obtain reliable information about its value or the extent of the risks to which it is exposed. Furthermore, the investor will not have the right to cancel a subscription for securities once such subscription has been made. Prospective investors are hereby informed that the applicable regulations in certain jurisdictions may place certain restrictions on secondary market activities with respect to securities.

Before making an investment, investors should consult their advisers on the legal, regulatory, tax, business, investment, financial and accounting implications of the investment. In receiving this publication, the investor acknowledges it is fully aware that there are risks associated with investment activities. Moreover, the responsibility to obtain and carefully read and understand the content of documents relating to any investment activity described in this publication and to seek separate, independent financial advice if required to assess whether a particular investment activity described herein is suitable, lies exclusively with the investor.

Intellectual property

This publication has been developed, compiled, prepared, revised, selected, and arranged by Emirates NBD and others (including certain other information sources) through the application of methods and standards of judgment developed and applied through the expenditure of substantial time, effort, and money and constitutes valuable intellectual property of Emirates NBD and such others. All present and future rights in and to trade secrets, patents, copyrights, trademarks, service marks, know-how, and other proprietary rights of any type under the laws of any governmental authority, domestic or foreign, shall, as between the investor and Emirates NBD, at all times be and remain the sole and exclusive property of Emirates NBD and/or other lawful parties.

Except as specifically permitted in writing, you should not copy or make any use of the content of this publication or any portion thereof or publish, circulate, reproduce, distribute or offer this publication for sale in whole or in part to any other person over any medium including but not limited to over-the-air television or radio broadcast, a computer network or hyperlink framing on the internet or construct a database of any kind. Except as specifically permitted in writing, you shall not use the intellectual property rights connected with this publication, or the names of any individual participant in, or contributor to, the content of this publication, or any variations or derivatives thereof, for any purpose. This publication is intended solely for non-commercial use and benefit, and not for resale or other transfer or disposition to, or use by or for the benefit of, any other person or entity. By accepting this publication, you agree not to use, transfer, distribute, copy, reproduce, publish, display, modify, create, or dispose of any information contained in this publication in any manner that could compete with the business interests of Emirates NBD. Furthermore, you should not use any of the trademarks, trade names, service marks, copyrights, or logos of Emirates NBD or its subsidiaries in any manner which creates the impression that such items belong to or are associated with you, except as otherwise provided with Emirates NBD’s prior written consent. You shall have no ownership rights in and to any of such items.

IMPORTANT INFORMATION ABOUT UNITED KINGDOM

This publication was prepared by Emirates NBD Bank (P.J.S.C) in the United Arab Emirates. It has been issued and approved for distribution to clients by the London branch of Emirates NBD Bank (P.J.S.C) which is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority (FCA) and the Prudential Regulation Authority in the UK. Some investments and services are not available to clients of the London Branch. Any services provided by Emirates NBD Bank (P.J.S.C) outside the UK will not be regulated by the FCA and you will not receive all the protections afforded to retail customers under the FCA regime, such as the Financial Ombudsman Service and the Financial Services Compensation Scheme. Changes in foreign exchange rates may affect any of the returns or income set out within this publication.

IMPORTANT INFORMATION ABOUT SINGAPORE

This publication was prepared by Emirates NBD Bank (P.J.S.C) in the United Arab Emirates. It has been issued and approved for distribution to clients by the Singapore branch of Emirates NBD Bank (P.J.S.C) which is licensed by the Monetary Authority of Singapore (MAS) and subject to applicable laws (including the Financial Advisers Act (FAA) and the Securities and Futures Act (SFA). Any services provided by Emirates NBD Bank (P.J.S.C) outside Singapore will not be regulated by the MAS or subject to the provisions of the FAA and/or SFA, and you will not receive all the protections afforded to retail customers under the FAA and/or SFA. Changes in foreign exchange rates may affect any of the returns or income set out within this publication. Please contact your Relationship Manager for further details or for clarification of the contents, where appropriate. For contact information, please visit www.emiratesnbd.com.

IMPORTANT INFORMATION ABOUT EMIRATES NBD CAPITAL KSA CJSC

Emirates NBD Capital KSA CJSC (“ENBD Capital”), whose registered office is at P.O. Box 341777, Riyadh 11333, Kingdom of Saudi Arabia, is a Saudi closed joint stock company licensed by the Saudi Arabian Capital Market Authority (“CMA”) under License number 37-07086 dated 29/08/2007G (corresponding to 16/08/1428H) to deliver a full range of quality investment products and related support services to individuals and institutions in the Kingdom of Saudi Arabia. ENBD Capital is subject to Capital Market Law, and Implementing Regulations in the Kingdom of Saudi Arabia

ENBD Capital’s contact details are T +966 (11) 299 3900 and F +966 (11) 299 3955.

This document may not be distributed in the Kingdom of Saudi Arabia except to such persons as are permitted under the Investment Funds Regulations issued by the Capital Market Authority.

The Capital Market Authority does not make any representation as to the accuracy or completeness of this document, and expressly disclaims any liability whatsoever for any loss arising from, or incurred in reliance upon, any part of this document. Prospective subscribers of the securities offered hereby should conduct their own due diligence on the accuracy of the information relating to the securities offered. If you do not understand the contents of this document, you should consult an authorised financial adviser.

more app

Auto Loans