Bedrock’s Newsletter for Friday 21st of December, 2018
21 December 2018




 Friday, 21st of December 2018

It is Friday, the last one before Santa Claus is scheduled to arrive from his abode in the Nordics. “His” classic rally has a day and a half to materialise… and a few more till the new year. As Gatwick airport has reopened after the drone threat of yesterday, the said Santa Rally can possibly make it into our latitudes…  Well, we have all suffered in this December, which is typically a very positive month for markets. The Dow has only fallen during 25 Decembers going back to 1931. The S&P 500 averages a 1.6% gain for December, making it typically the best month for the market, according to the Stock Trader’s Almanac. While the S&P 500 began dissemination in 1950, the performance data was back tested through 1928. It’s worth noting that historically, the second half of December tends to see gains. Well, not this time (for now)! Two benchmark U.S. stock indexes are careening toward a historically bad December. Both the Dow Jones Industrial Average and the S&P 500 are on pace for their worst December performance since 1931, when stocks were battered during the Great Depression. The S&P 500 and the DJIA were down respectively 14.5% percent and 17.0% in December 1931. So far, the 2018 December losses are “only” half as bad…


This week, we had the Fed talk. They raised rates by 0.25%, against the better advice from POTUS. In a sharp change toward a darker outlook, respondents to the CNBC Fed Survey have boosted the chance of recession next year to the highest level of the Trump presidency, reduced their support for the president’s handling of the economy and lowered their outlook for economic growth and Fed rate hikes — with some even flirting with the idea of a rate cut in 2019. Still, many of the 43 respondents, who include economists, fund managers and strategists, also argued that the market has overdone it to the downside. “The notion that downgraded growth prospects are driving the stock market sell-off is backwards,” wrote Mike Englund, chief economist, Action Economics. “Stock price declines have driven the growth slowdown narrative, which thus far faces little confirming evidence from actual U.S. economic reports.” Still, the chance of recession in the next 12 months rose to 23%, the second straight increase, and up from 19% in the prior survey. That’s higher than the 19% long run average for the 7-year-old survey and 9 points higher than the low of the Trump presidency. “Traditional signals of a U.S. recession from the shape of the yield curve to a fall in housing investment to corporate bond spreads are suggesting a recession in late 2019/early 2020,” wrote Constance Hunter, chief economist at KPMG, in response to the survey. Hunter was among the 12 percent of respondents who think the Federal Reserve, after hiking in December, would next move to reduce the Fed Funds rate and do so by October. While the percentage is small, no forecasters predicted a 2019 rate cut in the September survey.  The classic existential question – is it the Fed or the Market that are correct? The former is saying it believes the economy is steaming ahead too fast even, that it must be throttled-back somehow – both short rates increased and then, withdrawing liquidity through the easing-off of the Fed’s balance sheet. The market disagrees. The stock markets are shrivelling-up into their respective winters, bonds are rising in price and yield is falling. Both reflect a gloomy outlook… Even the almighty greenback is confused here. Given another 0.25% per annum of positive “carry”, with a promise of more to come (not us, it was Powell saying this!), the US Dollar fell back this week. The DXY, or often cited trade weighted Dollar index is at 96.15 off from 97.50 before the Fed talk. Strange how this “New Fed” way of being open, outspoken and chatty, confuses markets more the silence of the old days of Paul Volker and Greenspan. Anything you may have “heard” then must have been in your own mind… Market players are never satisfied…


Arguably, Oil falling to $46/Bbl of West Texas Intermediate supports the markets outlook of a slowdown and not the Fed’s view of overheating. The US benchmark 10-year Treasury now yields 2.79% – hard to fathom when the central bank says it will not be buying this stuff and short rates are almost there!?


We also must mind the U.K. which is hurtling headlong toward a Brexit deadline with no real leadership and no clue of how to avoid disaster. Is there any way this ends well? If this were a class of particularly dunderheaded students, then you would try to make it easier on them, maybe by giving them a multiple-choice test. In this case, parliament and/or the people would be allowed to pick from an array of options, from remaining in the EU to a few varieties of Brexit. This will drive the Brexiteers mad. The initial referendum was supposed to be a once-in-a-lifetime vote, they will point out. But it is also clear that circumstances have changed…


We side with the markets here as they clearly have taken note of the lengthening hemlines… After a wild three months in the financial markets, the billionaire investor Stan Druckenmiller is warning that trading conditions may become even more challenging as central banks withdraw stimulus from a global economy that’s already slowing. He anticipates lousy returns on stocks for years to come and has been buying U.S. Treasuries on the expectation that yields will keep dropping. “If you look at the indicators I have historically used in my business, they’re not red yet, but they are definitely amber and they are setting off warning signs,” Druckenmiller said in an interview with Bloomberg Television. “The highest probability is we struggle going forward.” Druckenmiller isn’t predicting another recession yet.


CNBC’s Cramer says stocks are ‘really oversold’ after markets fell to a new low for the year. “There are things that have come down so much,” he says. The market sell-off has gone beyond concerns about a slowdown in global economic growth and the Fed. We like to think Cramer may have a point. The recent sell-off in the S&P 500 has pushed the index’s valuation to its lowest level since March 2016, and if history is any indication, this might be a buying signal. The last time the S&P’s price/earnings ratio dropped below 17.35, the index rallied nearly 20% in the next year. Looking at the P/E allows investors to compare companies of drastically different prices across all sectors. At the most basic level, it’s what the market is willing to pay for growth. Mark Tepper, Strategic Wealth Partners president and CEO said on Thursday that stocks will move higher once there’s clarity on the Fed’s rate-hike path, and once trade tensions with China ease. He also pointed out that while earnings growth has been slowing, it’s not contracting, meaning there could still be upside ahead. And last but not least, it is true that world GDP is doing ok, and that economic news coming out of the US remains very good, confirming the Fed’s views.


As this Newsletter will be our last of 2018, we will try to take a high-level overview of the world as it is now and then try and project our thoughts into next year. Our thinking has just been further muddled with the Tweet from the Donald who decided to withdraw American troops from both Syria and Afghanistan. This Tweet throws a curve-ball at everything – Who will step in? Russia? Turkey? Iran? Is this Tweet confirming the loss of American influence and power? Well, we are having difficulties in understanding where we are or why we are in this place. We feel that if it is usually difficult for us to establish our outlook for the next year, standing on shifting quicksands as we are now, the task has become impossible. We will refrain from doing so this year. Instead, we will simply point out our main points of concern into 2019; Global warming and its effects on economies, lifestyles and food supplies, the advent of Artificial Intelligence and its potential disruption effects on labour and then, the rising income and wealth inequalities that are driving growing social unrest and political instability in our own Western back-yards. What should one do with his/her money? No rush to spend it, as inflation simply isn’t here. We suggest remaining invested but possibly retract your structure from “Growth allocation” towards a “Capital preservation” stance for the near future. We leave you with our wishes for a warm and happy year-end and a great start to 2019! But remember that “the scars of others should teach us caution” – St. Jerome.



Market Weekly Highlights

Currencies & Commodities

• The DXY is down this week trading at 96.15, influenced by the recent threat of the US government technical shutdown, mixed signals on productive conversations between the US and China, as well as by the latest not-so-dovish FOMC comments.
• The EURUSD pair is higher this week currently trading above 1.14 as the dollar weakens across the board, however remaining highly correlated to euro-area economic activity, data sentiments and Draghi’s comments.
• The CHF is also higher this week with the USDCHF pair trading at 0.99, while the EURCHF is trading at 1.13 this morning.
• The Pound is up this week, currently at 1.2660 on the back of the Brexit and May saga. The Pound remains volatile and under pressure not only because of the risk of a No-Deal Brexit, but also because of the worsening outlook for the British economy.
• The USDJPY hit resistance at 114 in early December, and has since moved down to 111.20 as the JPY regained the usual safe haven status.
• In EM, both the Russian Ruble and Turkish Lira are suffering amid US sanctions for the former and economic crisis and political turmoil for the latter. However since mid-September the Russian Ruble has strengthened against the USD trading from 70 to 66.50, in a this range since the start of this month now at 68.45, as did the Turkish Lira which reached 7.23 in early August, and is now at 5.30.
• The Brazilian Real is unchanged this week, currently at 3.86 against the USD.
• Bitcoin dropped heavily after breaking support at USD 6,400, losing almost 50% in one month and trading currently at around USD 4025….
• Crude oil WTI which seemed to have finally found a floor at the $50 level, dropped this week and is currently trading at 46; Brent is at around 53.70

Fixed Income

• 10Y U.S. Treasury yields remained below 3% to stand currently at 2.80%.
• The Japanese 10 year JGB yield has traded in a range from 0.020% to 0.060% for the first 6 months and then hit 0.16%. Now at 0.047%.
In Europe, the German Bund yield nearly doubled at one point this year, jumping from 0.40% to 0.80%, but then came back down as low as 0.20% in May on the back of Italian crisis fears. Now at 0.24%, after the latest GDP weak data. Same for the French 10Y Yield which had crossed the 1% mark during February and then dropped to 0.60% in the summer. Currently at 0.70%.
In Peripheral Europe, Italian 10Y yields are now trading at just above 2.35%, lower than the levels seen in May when the internal political turmoil kicked-off, but well above the 1.70% April levels. The Spanish 10Y yields trade some 100 bps lower than Italy at 1.37%, lower than where it started the year.


• Markets in the US turned negative for the Year 2018 giving away more than 15% from the highest levels reached this year. SP500 and DJIA are down, respectively by -7.7% and -7.5% YTD, while Nasdaq is down 5.4%. The SP500 is currently at just above 2,465, the DJIA just a couple of points below 22,860, while Nasdaq is trading at roughly 6,530.
• In Europe, markets are all showing important negative returns for the year so far, with DAX and Italian MIB being the largest under-performers at respectively -18.15% and -16.00%. The Eurostoxx50, Spanish IBEX 35, FTSE 100 and Swiss SMI are all following with losses of -15.00%, -15.25%, -13.00% and -10.65%.
• In Asia, the Nikkei was down this week and shows a loss for the year of -11.42%, while Hang Seng is down by 13.92%. BOVESPA is the most positive equity market for the year showing a strong performance of +11.60% helped by the election optimism.


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