LIVE MARKETS “The lull in markets is unlikely to last”
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“THE LULL IN MARKETS IS UNLIKELY TO LAST” (1645 GMT)
It was a pretty smooth session for European equities with the STOXX 600 gradually gaining strength and ending up 0.7%.
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The fact that Wall Street was closed seemed to have helped and the EURO STOXX 50 volatility index is about 15% lower than it was at the beginning of last week.
That being said, there was plenty of corporate news to digest today, particularly with Unilever falling close to 7% after news of its rebuffed 50-billion-pound ($68.26 billion) offer for GlaxoSmithKline’s consumer healthcare business.
The fallout was more limited for Credit Suisse which lost 2.3% after the abrupt departure of Antonio Horta-Osorio following an internal probe into his personal conduct, including breaches of COVID-19 rules.
“European stocks have made small gains today while US traders take the day off, but the lull in markets is unlikely to last,” commented IG market analyst Chris Beauchamp.
“The gains will be swiftly reversed if US traders come back tomorrow in a similarly bearish mood to that prevailing on Friday,” he warned, adding that risks linked to U.S. earnings and the Fed might keep investors cautious.
Finally, it’s worth noting that UK equities have outperformed the rest of Europe for another session, with a 0.9% rise.
Since the beginning of 2022, the FTSE is up about 3.1%, well above the decline of 0.7% suffered by the STOXX 600.
EURO ZONE: NOT THAT KIND OF INFLATION (1221 GMT)
Speaking of monetary tightening, it seems that ‘what kind of inflation’ is going to be more important than the outright levels when central banks decide their next moves.
According to Erik F Nielsen, UniCredit group chief economic advisor, “standard ‘cost-push inflation’ is being accompanied by ‘demand pull’ inflation in the U.S., driven partly by fiscal stimulus, partly by consumers reducing their excess savings.”
“As a result, and critically important for the appropriate monetary policy reaction, the U.S. labour market is turning red hot,” Nielsen says.
In Europe, inflation continues to be driven predominantly by energy, the supply bottlenecks and the effect of the change in the German VAT (value added tax) rate.
“This is all ‘cost-push’ inflation,” he adds. “In other words, the high inflation rate in Europe is a sign of erosion of the population’s real income and hence purchasing power, not as a sign of over-heating.”
While in the U.S., the economy needs a more hawkish central bank, in the eurozone, “any withdrawal of economic policy stimulus would be a mistake,” Nielsen argues.
By the way, he also sees higher inflation during 2021 as transitory “because it was overwhelmingly driven by one-off factors, including higher commodity prices and the supply bottlenecks.”
UNILEVER: DEBT AND MAYONNAISE (1145 GMT)
The market has spoken: Unilever is the worst performer across the pan-European STOXX 600, losing over 7% as investors wonder whether it will sweeten a 50-billion-pound offer for GlaxoSmithKline’s consumer healthcare business.
“The negative share price reaction probably reflects investors’ fears that Unilever is going to come back with a higher offer and potentially pay too much”, argued Russ Mould, investment director AJ Bell.
With speculation mounting that a bid could reach up to 60 billion and create an unsavoury debt pile, it’s pretty understandable that Unilever shareholders could feel a tad nervous.
“Paying £50bn for a business that sells pain relief products and toothpastes, comes across as a risky bet, and while there appears to be universal consensus that Unilever needs to shake up its business, a near £60bn price tag for doing so seems a little on the rich side”, CMC Markets analyst Michael Hewson argued.
Mega deals are typically risky business and expensive mega deals even more so.
“Very few deals with a purchase price of >20x EBITDA have created value”, Barclays analysts noted, adding that there’s also plenty of execution risks.
Barclays lowered its Unilever rating to equal weight “to reflect the heightened risks that we see from this deal whether it goes through or not, but also concerns around the steep inflationary pressures that Unilever faces”.
At HSBC too, the M&A rational of mega deals was put into question.
“The patchy historical track record of large transactions in the sector – and indeed Unilever‘s last really big acquisition, Bestfoods – is also likely to be at the forefront of investors’ minds”, the bank’s analyst Jeremy Fialko wrote.
The situation is obviously much more comfortable for GSK which is up about 4% this morning.
“At the very least, the Unilever bids will provide a floor for the valuation of the GSK Consumer business”, HSBC analyst Steve McGarry also wrote, noting it’s not “yet clear whether a straight sale versus a de-merger (valuation aside) would generate a better return for GSK’s shareholders”.
The question of what happens to Unilever‘s mayonnaise, deal or no deal, also seems to be on everybody’s mind.
At Markets.com, Neil Wilson said he doubted Unilever would be ready to up its bid to what would be required and argued it has enough on its plate when it comes to its brands portfolio.
“Does Unilever want it bad enough? I don’t think so. More pressing things to consider … like the purpose of mayonnaise”
As noted by in a Deutsche Bank thematic note into ESG, a key Unilever shareholder asked the company to define the social purpose of its mayonnaise brand.
A question that’s actually quite relevant when you consider DB’s chart below on how interest in ESG seems to have a positive impact on profit margins.
“The relationship is certainly not perfect, however, since data began in 2005 there are four identifiable periods where corporate profit margins rose at the same time as a noticeable upswing in “ESG” mentions in company documents”, the DB research reads.
“TOO EARLY TO ADD AGAIN TO TECH” (1058 GMT)
Tech stocks have been hit hard this year as investors sought to reduce exposure to businesses that have flourished thanks to abundant stimulus and the COVID-19 pandemic.
And given the Fed looks headed towards faster policy normalisation, just as inflation rages and signs emerge that COVID-19 could transition to endemic, that’s understandable.
But after the initial hit, one may wonder whether it’s time already to jump back in.
Credit Suisse believes investors should steer clear from such a temptation, saying it is “too early to add again to tech”
“Tech is discounting no rise in TIPS yield. We worry about pull forward/maturity in parts of tech, valuation of software, loss of earnings momentum (for software), acute concentration and the bear market already in the small cap cloud,” say strategists at the Swiss bank.
They are still benchmark on software, after downgrading the space in December last year for the first time in 12 years, although they retain a small overweigh on tech via semis.
“We remain overweight semis, albeit reduced (valuations look reasonable for a sector that should re-rate as it becomes less cyclical, more capital disciplined with higher structural growth, excellent relative earnings momentum), and it ranks top on our fundamental scorecard”.
Needless to say given the direction of travel of the Fed, CS stays overweight on financials.
STOXX ON THE UP (0856 GMT)
European equities kicked off the week on right foot with gains across most sectors and in heavyweight GSK driving the STOXX 600 up 0.5% in early deals to recover part of Friday’s losses on growing policy tightening fears.
Also on the watchlist was Credit Suisse, whose shares fell more than 2% after the Swiss bank’s chairman quit following an internal probe into his personal conduct.
Activity is likely to remain subdued as Wall Street is shut today for holiday.
Here’s your opening snapshot:
RATE HIKES ON MY MIND (0738 GMT)
It’s been a turbulent start of the year for world markets with the prospect of interest rate hikes in the U.S. starting to skim the froth off global equity valuations and leaving investors wondering for how long the bull run would continue.
Talk about the Federal Reserve turning off the tap on massive stimulus is here to stay but with the earnings season kicking off on Wall Street risk sentiment could find some comfort as corporates report double digit profit increases.
And for the coming week investors will be also spared hawkish speeches from Fed officials now in blackout mode before a policy meeting on Jan 26.
S&P 500 earnings are expected to have grown 23.1% in the last three months of 2021 and STOXX 600 earnings are seen up 48.5%. Yet the bar is high and management teams might find it harder to please markets accustomed to stellar corporate growth.
Shares in most big Wall Street banks fell on disappointing numbers last week, leading to two consecutive weekly losses for the U.S.’s main equity benchmark (.SPX). Today it will be quieter as Wall Street is closed for Martin Luther King Day.
Meantime, European index futures pointed to slight gains at the open. In Asia, China’s central bank unexpectedly cut the borrowing costs of its medium-term loans for the first time since April 2020 to cushion an economic slowdown. read more And Chinese stocks advanced.
Finally, Credit Suisse Chairman Antonio Horta-Osorio has quit following an internal probe into his personal conduct, raising questions over the embattled lender’s new strategy. read more Its shares rose 2% ahead of the cash market open.
Key developments that should provide more direction to markets on Monday:
- China’s economy rebounded in 2021 from its pandemic-induced slump but the pace slowed further in Q4 off the back of weak consumption and a property downturn read more
- GlaxoSmithKline rejected a 50-billion-pound offer from Unilever for its consumer goods arm, saying it undervalued the business read more
- ECB speaker: President Christine Lagarde
- Davos WEF starts
- EU finance ministers meet
- German foreign min Baerbock visits Ukraine
- UK Rightmove House prices Jan
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