THE SHERWOOD OVERNIGHT UPDATE REPORT 8th December 2014 Northern hemisphere markets rally after a cracking US non-farm payrolls report. Summary • The November US non-farm payrolls came out on Friday night and it was a cracker. Upwards of +321k jobs were created (its tenth consecutive +200k rise), average hours work rose, wages were up by the largest amount since the Lehmans collapse, but the US unemployment rate was stable at 5.8%. The US labour market is on track to record its strongest year of jobs growth since 1999 and markets were pleased with the report, but gains in equities and losses in bonds were more modest than such a report warranted and while the bulls will say this will bring forward rate hikes, there are significant disinflationary risks ahead for the US economy from lower oil prices and a higher US dollar which prevent a knee-jerk reaction from the US central bank. The USs economic buoyancy remains in stark contrast to Europe, where activity remains very weak although there was little material data out on Friday night to add to investor angst about the state of the worlds largest trading bloc which is expected to spark some further policy support. By the close of trading in New York, the MSCI World Index was higher (+0.4%) with gains in the US (+0.2%), Asia (+0.3%) and Europe (+2.3%). • In other financial markets, 10-year government bond yields were higher in response to buoyant labour market conditions (US Treasuries up to 2.31%, UK gilts higher at 2.02% and Japanese bonds closed at 0.419%), high beta currencies depreciated against a strong US dollar (AUD -0.8% to 82.96 and the Euro -0.8% to 122.79) and commodities were mostly lower: • oil -1.5% to USD65.84 per barrel. • gold -1.4% to USD1,190 per troy ounce. • Dr copper -0.4% at USC290.25 per pound. • base metals were mixed. • iron ore +0.9% to USD71.06 per metric tonne in US futures markets. • The SPI suggests that the Australian market will open +24 points higher (+0.5%) at 10am AEST. Market news • Asia - Asian markets closed higher on Friday although there was quite a spread of performance. In a day where there was little newsflow, markets were fairly quiet outside of China and investors primarily focused on overseas risk events, including continued analysis from Thursdays ECB meeting. There was some pressure on the Philippines market (-1.0%) which was sold down as people were evacuated as super-typhoon Hagupit approached centre of the country. Other than that it was radio resilience and by the regional closing bell in Mumbai, the MSCI Asia Index was higher (+0.3) with advances in China (+1.3%), Hong Kong (+0.7%), Singapore (+0.6%) and Japan (+0.4%) offset by a flat result in Korea and losses in India (-0.4%), Australia (-0.6%) and Taiwan (-0.6%). In the local market the S&P/ASX 300 Index was -33 points lower (-0.6% to 5,273) with eight sectors closing in the red led by energy (-2.1%), materials (-1.2%) and healthcare (-1.1%), whereas IT (+0.6%) and industrials (+0.7%) were the sole advancers. • Europe - European sharemarkets closed higher. The ECB Presidents dovish comments from Thursday remained in focus as the Bundesbank cut its GDP and inflation forecasts for the further time this year. On the macro front, Germany factory orders for October were well ahead of expectations, whilst the second reading of Eurozone Q3 GDP came in line with preliminary number. In the corporate front, M&A remained the primary focus with Oi reportedly ready to approve Altices bid despite yet another Club Mediterranee counter-offer, whilst Balfour Beatty rejected the £1 billion proposal from JLIF for its entire PPP portfolio. By the regional close, the EuroStoxx Index was higher (+2.3%) with advances in industrials (+3.4%), banks (+3.1%), telcos (+2.7%) and IT (+2.1%). In the major markets, Germany (+2.4%) and France (+2.2%) led the pace of gains, whereas the UK (+0.8%) was more sedate in its advance. In the periphery markets performance was more upbeat as attractive valuations sparked large rises in Portugal (+1.9%), Ireland (+2.0%), Spain (+2.6%), Italy (+3.4%) and Greece (+4.1%). • US - on Wall Street, US equities closed higher on Saturday morning with the primary focused being the November US employment report, which showed stronger than expected increases in payrolls and average hourly earnings. This sparked a broader reaction in the US treasury market than the equity market as investors fretted about an early US rate hike. As is always the case with the non-farm payrolls, there wasnt much else around for investors to nibble on, but nothing else was needed as the report was unduly strong and even its composition was robust and it seems that the US recovery is well and truly here which pushed domestic share indices up to fresh record highs. Corporate news was minimal and by the closing bell at the NYSE, the Dow Jones Industrial Average was up +59 points (+0.3% to 17.959) with the S&P 500 (+0.2% to 2,075) and the NASDAQ (+0.2% to 4,781) slightly underperforming as five sectors closed higher led by financials (+1.0%), healthcare (+0.8%) and consumer discretionary (+0.3%), whereas utilities (-0.8%) and energy (-1.2%) were the primary casualties. Fridays economic news • Australia/Asia - no major releases. • Europe - no major releases. • US - The November US nonfarm payrolls (+321k) recorded the largest increase in employment in nearly two years, which was well ahead of the +230K consensus forecast. In addition, numbers for September and October were revised up by a net +44k, suggesting that the US economy is broadening which is likely to see growth lift to around +3% next year. Other details of the report also exhibited some strength with average hourly earnings up +0.4% m/m, relative to expectations for a +0.2% rise and while this pushed the annual wages increase to just +2.1%, it was still an upbeat development. Meanwhile, the average workweek rose to 34.6 hours from 34.5, while the unemployment rate remained as expected at 5.8% and the participation rate was also unchanged at 62.8%. Most importantly the strength in the payrolls was broad based with strong gains in factory workers, whereas professional and business services rose by the most in four years. Mondays major data releases Australia/Asia • Economics - November Australian job advertisements (Oct: +0.2%), November China trade balance (Oct: USD45.4 billion) and final September quarter Japan GDP (Sep prelim: -0.4% q/q). • Equities - no major releases. Europe/US • Europe - October Germany industrial production (Sep: +1.4% m/m). • US - no major releases. What is the key investment message overnight? At the start of the year I said that in 2013 the US economy was still in intensive care, but this year will see it go back to the ward and in 2015 it will be back to full health. Well after years of strong medicine, some known and some experimental, it appears that the balance sheet adjustment is well advanced and the patient is going home earlier than expected. I have written many times, that the two missing pieces to the US recovery this year are increases in business investment and wages growth and until those arose the recovery would not be sustainable. Last month’s employment report may represent the first credible signs of the latter falling into place with wages growth up +0.4% in a single month. However, does this pull forward a US Fed rate hike? The bulls say yes, because the central bank will not make the same mistake of lifting rates too late when the recovery was evident, and the bears say no because the non-labour market data remains patchy. For what it’s worth, in relation to their rationale I think they are both right and they are also both wrong. Wages growth may not spark earlier action from the US Fed as there are a lot of disinflationary forces at work in the US economy for the next six months including lower gas prices, lower import prices and a stronger US dollar and until the PCE (the Feds preferred inflation gauge) is trending towards the +2% target rate, the US central bank will remain idle. Having said that I now feel more nervous about my September 2015 rate hike call – it could be too late as at present rates, the US labour market will run out of spare capacity within 12 months. However, more water needs to go under the bridge before I think the US Fed will be worried about repeating historic mistakes. Having said that, I am sure questions will start to be asked, and investors will need to start determining whether this would alter their asset allocation. I still favour Japanese and European equities over the US on a valuation basis, but dont think US treasuries can remain at 2.31% if inflation is rising, growth is strengthening and the US Fed is hiking. Regards, Matt Sherwood Head of Investment Markets Research
Posted on: Mon, 08 Dec 2014 00:31:37 +0000