Yields keep on rising globally; Salesforce.com disappoints, and equities suffer a down week. Two rate cuts could happen this week, courtesy of the Bank of Canada and of the European Central Bank, even though assumptions for future cuts are continuously being repriced. NFP on Friday will be before the Fed’s June meeting; no change is expected until September. Now neutral on equities and bonds, and long USD. The biggest tail risk is inflation staying high(er for longer), forcing Central Banks to postpone easing until later in the year, followed by adverse geopolitical outcomes, and elections. 

Major market events 3rd – 7th June 2024

Highlights for the week

Mon: EU Manufacturing PMI, UK Manufacturing PMI, US ISM Manufacturing PMI

Tue: CH CPI, US JOLTs Job Openings 

Wed: AU GDP, EU Services PMI, UK Services PMI, EU PPI, US ADP Nonfarm Employment Change, US Services PMI, CA BOC Interest Rate Decision, US ISM Non-manufacturing PMI  

Thu: EU European Parliament Elections EU ECB Interest Rate Decision, US Jobless Claims, US Atlanta Fed GDPNow, US Fed’s Balance Sheet

Fri: IN BOI Interest Rate Decision, DE Industrial Production, EU GDP, US Nonfarm Payrolls, US Average Hourly Earnings, US Unemployment Rate

Performance Review

Source: Google

InflectionPoint reports:

* Inflation is still ruling the game. Last week we had two contradicting reports – the US Core PCE Price Index, which at least monthly showed some signs of moderation, and the EU CPI, which came in above estimates. The behaviour of the relevant central banks could not be more different, however – the Federal Reserve is staying put, while the ECB (we’ll see on Thursday) is likely to start easing. The other important piece of data from last week was the revision to the US 1Q24 GDP, which further reduced the rate of growth of the world’s largest economy from 1.6% to 1.3%. The real danger, in the US at least, is that the Federal Reserve could meet a scenario where growth is not that strong, but inflation does not come down, hindering its efforts to start easing. The other troubling element is the seemingly unstoppable rise in government yields across the board, which certainly complicates the outlook for equities as well (valuations matter, sooner or later something has got to give). On top of this, Salesforce.com disappointed dramatically, giving a mixed picture of results in technology. But enough about the past as we have a very interesting week in front of us. The Bank of Canada on Wednesday and the ECB on Thursday are forecasted to ease by 25bp. On the other hand, the expectation of rate cuts in December has gone lower and lower, as per the chart below.

Source: Bloomberg World Interest Rate Probabilities

This would be consistent with a 25bp cut for the Bank of England, two 25bp cuts for the Federal Reserve, and three for the European Central Bank – the Bank of Japan is in tightening mode, after having terminated its negative rates experiment last March. We’ll see on Thursday if the decoupling of two of the most important central banks (the Federal Reserve and the ECB) will indeed happen. US Earnings for 1Q24 were so far very good and above expectations, thanks in large part to EPS surprises; but the reporting season is now almost over (with 98% of S&P 500 companies having reported) and the focus will turn back on economic data: it’s again NFP week. To most market pundits the (equities) markets feel extended, and rightly so – as on Friday the S&P 500’s multiple reached a level of 20.3x, which is tough to maintain with the current level of interest rates. Confirming my changed recommendations: neutral on equities and bonds, long USD, and still like Japan (Warren Buffett’s endorsement was the best thing that could happen to the country), but watch out (hedge!) for the JPY, which is feeling the pressure from most investors, despite the BOJ’s multiple attempts to stop the currency’s fall, and is now around 157, aiming for 160. Hedge for now and watch this space! 

* A weak week across the board, caused in large part by the yields’ relentless move upwards. After Salesforce.com’s flop, it was inevitable that the Nasdaq should lose some ground; nothing dramatic, but in a way of kicking the can down the road.  Still, the tech-heavy index managed to reassert itself as the best-performing index YTD (excluding Japan’s Nikkei 225). Europe in the last two to three weeks lost its sheen – we’ll see this week how the (value) market will react to a potential rate cut. The complicated picture for rates had finally got one positive data point (April NFP), but the bond market has been relentless in pushing yields up, and the yield curve continues to remain inverted (flashing recession).

Source: Factiva 

The ECB might surprise in being the second major central bank (after the SNB) to ease rates in June – this should benefit the USD, although last week it didn’t, with the Euro just shy of 1.09. With the Fed and the ECB still undecided about cutting rates, most of the attention is focused on when they might start: this does matter for most of the markets, whose valuations are extended. The reporting season is almost over, and corporate America has shown an unexpected earnings growth of 5.9% – the highest since 1Q22. Personally, I have been focusing more on the historic valuations of the S&P 500 rather than on relative ones (which are also not cheap, to put it mildly). Watch this space.

*  The rates’ angst is unfortunately very much alive. We are approaching the next FOMC meeting in June – which was once a serious contender for the Fed to begin easing and my previous forecast – is now extremely unlikely (4.4%), but at least the chance of the hike disappeared. I now believe that the first Fed cut will happen in September (54.8%), but the call is getting to 50/50, with little or no chances for July (16.2%). Let’s see if the strong US labour market conditions moderate further; there have been some green shoots (April NFP), but a swallow does not make summer – we won’t have to wait for long though, as we’ll know on Friday. If not, the FOMC might stick to its idea to hold rates for longer, possibly until December (85.0% – back to 50bp rate cut in 2024, but it’s very close – in the end it could well be just 25bp). We need (lower) yields and (higher) earnings to support some of the highest multiples since my heyday (the fated 1999-2000), but at least the US can continue to enjoy a solid economy, for now.

* Yields on US 10-year Treasuries have reached 4.50%, and were mostly rising last week, showing that the market does not believe that the process of disinflation is underway; yields in Europe followed in the same pattern with the EUR losing some ground against the USD, now trading near 1.08. While in 1999 yields were even higher, and the Fed was hiking not easing (well they haven’t started yet), we definitely need yields to return below 4% to have a more constructive scenario. Earnings for 1Q24 are currently estimated at 5.9%, vs 3.4% on March 31st and 5.1% on December 31st. The current forward P/E ratio for the S&P 500 is 20.3x – and while it is higher both than the 5-year (19.2x) average and the 10-year average (17.8x), it is not cheap enough to withstand such high interest rates. I also note that the current high multiples are lifting the averages, and I consider the 10-year average to be much more of a truthful picture of the multiples the S&P 500 should trade in a normal situation (if there is ever one!) than the 5-years. (Yes, back in 1999, multiples AND rates were both higher – but that is a past unlikely to return). Introducing a 2024 S&P 500 bottom-up earnings estimate of 244.68, revised upwards from 244.66 a week ago, which is not too far from the top-down consensus of 245 (Goldman Sachs 241, Morgan Stanley 239, J.P. Morgan 225, Bank of America 250). For reference, the current 2025 S&P 500 bottom-up earnings estimate is 278.87, also up from last week.

Source: FactSet

* After the dismal 1.3% reading of US GDP for 1Q24, we are looking to solid forecasts for 2Q24, according to Atlanta and New York Federal Reserve Banks, The former’s GDPNow model is forecasting growth of 2.7%, down from a previous forecast of 3.5%, with the Blue Chips consensus presently slightly above 2.0%. As usual, one of the two will have to catch up with the other. The latter’s Nowcast, which produces a less volatile forecast, saw a downgrade and now sees growth in 2Q24 at 1.76%, compared with 2.04% last week, and down from 2.52% in March. While there is still no recession forecast in their model, up to one sigma, the most recent data is the weakest on record for 2Q24. Earnings are expected to come in at 5.9% in 1Q24, compared with a forecast of 3.4% as of March 31st. Revenue growth is faring better, at 4.2% in 1Q24, vs 3.5% as of Mar 31st. For 2024, earnings growth is forecasted at 11.3%, vs 10.7% as of Mar 31st, with revenues coming in at 5.0%, vs 5.1% as of Mar 31st. Finally, it’s worth noticing that the chance of a recession, as calculated from the yield curve, according to the Federal Reserve Bank of Cleveland, is presently (April 2025) 54.55%.

Source: Blue Chip Economic Indicators and Blue Chip Financial Forecasts; Federal Reserve Bank of Atlanta

Source: Federal Reserve Bank of New York, New York Fed Staff Nowcast

Source: Federal Reserve Board, Federal Reserve Bank of Cleveland, Haver Analytics

* Earnings are finally here. However, geopolitics and rates are likely to obscure everything for a while. Hang tight!

Earnings, What’s Next?

The reporting season is now coming to an end for 1Q24. Here is a snapshot of companies reporting next week. 

Source: Earnings Whispers

Market Considerations

Source: BofA Global Investment Strategy, Bloomberg, ISABELNET.com

Source: Carson Investment Research, Ryan Detrick, ISABELNET.com

Revenue growth estimates for 2024 are forecasted to grow by 5.0% (5.1% on Mar 31st) and earnings growth estimates for 2024 are predicted to grow by 11.3% (10.7% on Mar 31st), so the future looks bright. Introducing estimates for 2025, which sound again very positive, with revenue to grow by 5.9% (6.0% on Mar 31st) and earnings to grow by 14.2% (13.5% on Mar 31st). As previously mentioned, the Fed probably has stopped hiking and we have reached the peak in rates, so the next move will be down, either in September or December. Apart from the cut from quite high levels, which will probably help make these lofty multiples seem more bearable than offering a real stimulus to the economy, what will be important is to see the extent to which the Central Banks are willing to cut rates and their timeframe. This is obviously connected to the chances of the US Economy going into recession, which we’ll likely hear less and less (while paying a lot of attention to the data) until the November elections, as the current US Government has been a big spender of late. Meanwhile, the upcoming US Presidential election will be a rematch of 2020 between Trump and Biden. 

There are two highlights this week. The first one is on inflation, relative to the PCE deflator, which came out on Friday at 0.2%, thus forecasting an inflation level of 2.9% if consistent. That, I’m afraid, is not going to be enough for the Fed. We’ll get very important inputs this week, followed by the CPI the following week. The second chart reminds us of positive seasonality in June of an election year, even though I would want to see yields going down before being more constructive on equities, particularly at these levels. The bond market can be a predictor of future inflation in its own way. Be careful not to fall into ‘Buffett’s trap’ – he famously said that there were moments in which Berkshire Hathaway’s stock was down more than 50%, and nothing wrong was happening within the company at the same time. Timing and risk management are key.

Due to the persistent stickiness of inflation, monetary policy is taking centre stage once again. Obviously, we should not overlook geopolitical scenarios (any escalation would be negative for the markets) and the upcoming elections, in which the UK may see the first Labour government since the Tony Blair-Gordon Brown years, albeit immersed in a global shift to the right (more protectionism, less globalization). 

I now recommend a neutral position in equities, and a neutral position on bonds as these reach higher yields (which should peak at 5%). Watch out for any resurgence of inflation, as this can significantly alter the scenario if persistent.

There are three main headline risks to what is otherwise a constructive view for 2024: i) any resurgence/stickiness in inflation; ii) any negative geopolitical outcome (which could see an expansion of the current conflicts); and iii) elections, particularly in the US, where a new Trump presidency looks quite likely. 

Regarding bonds, one has to ask if the disinflation which we saw in 2H23 is still there – and for the Federal Reserve, seeing is believing. Once again, until we have more clarity on any peaceful resolution of the conflict between Israel and Hamas or further progress in rates with yields on the US long bond going < 4.00% once again, I advise holding your bonds, keeping the overall duration below 10 years. Obviously, investing any liquidity in the money market (up to 1/2 years) still makes sense.

Don’t neglect Japan – it is the more investable part of equities right now, thanks to good economic performance and a still dovish Central Bank. The Nikkei 225’s performance is based on solid fundamentals as Nominal GDP has stormed past resistance to new highs. The JPY tried a rebound earlier in the year but faltered once again, and I personally have the feeling it may weaken further. It is still the safest part of equities. Goldman Sachs’ Chief Global Strategist Peter Oppenheimer recommended overweight Japan in a recent video interview on Bloomberg TV.

Portfolios

Finally, I wanted to introduce two portfolios that Tom and I have published on Wikifolio. Tom’s a multi-asset portfolio, whereas the one I manage (with substantial input from Tom) is a global income and growth with a heavy US tilt. Check them out!

No changes last week. We have decided to leave out Nvidia, Meta, and Tesla, to better balance the portfolio, while not necessarily being negative on the prospects for these companies.

Introducing the third portfolio on Italian Equities. Again, Unicredit has been left out intentionally to quash any possible suspicion, but I wish the company and its management team the best for the future. 

https://www.wikifolio.com/en/int/w/wf00inf8ig

https://www.wikifolio.com/en/int/w/wf000ipggi

https://www.wikifolio.com/en/int/w/wf00ipiteq

Consulting

Finally, I have officially become an Italian Independent Financial Consultant (Consulente Finanziario Autonomo), registered with the Italian OCF since 19 March 2024. If you are interested in my financial advice, or simply for more information, please contact me at giorgio.vintani@inflectionpoint.blog

Please kindly note that you must be based in Italy to avail yourself of this service

Happy trading and see you next week!

InflectionPoint

Disclaimer

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