The new earnings cycle in the US kicked off on Friday. Equity closed high due to the lower inflation expectation and big banks beat earnings expectations. Volatility dropped to the lowest level in 9 months as VIX was down 9% this week. 10Y treasury yield hit 3.50%.
Inflation Cool Down: The CPI data raised by 6.5% YoY, aligned with the expectation. It also indicated a cool-down in inflation, dropping from 7.1% last month. Labor market is still resilient, supported by the surprising drop in jobless claims. The expectation of a downshift in rate hikes in the next FOMC meeting in February can be reaffirmed.
Rising Oil Demand: Oil prices rebounded sharply this week, mainly driven by the optimism of the China reopening demand. Both Brent and WTI prices increased by about 8%. The China trade data on Friday came in better than expected.
BoJ: Markets are questioning whether the yield curve control (YCC) policy of BoJ is sustainable. BoJ is going the have a meeting next week to discuss the side effects of the easing policy. Japanese yen will outperform this year if BoJ unwinds its YCC policy amid the lower inflation and yield in the US.
Better Europe Outlook: The expectation of CPI falls for the first time since 2022. The favorable weather also provided a relief in energy prices. Given the lower gas prices and growth momentum, markets no longer expect a recession in the eurozone. If the CPI coming next week is in line with expectations, ECB can continue to keep the financial condition tight to suppress inflation as the better outlook provides more room as a buffer.
*Data as of market close. 5-day change ending on Friday.
VIEW FROM THE STREET
Goldman Sachs: There is a major difference between financial markets and the economy. We are positive about the economy and not looking at a recession in the US in 2023. As the economy is strong, interest rate risk will be higher than the market expectation. Markets are not pricing the risk fully and we suggest investors remain cautious for the equity markets. If there is no recession, earnings per share (EPS) growth will be flat this year.
Morgan Stanley: The market consensus of corporate earnings is too high. Investors will be disappointed, causing additional downward pressure on the market. We expect the decline will be 10-20% from the current level.
Credit Suisse: Investors are recommended to look at global quality stocks given the defensive traits under the macroeconomic environment with elevated uncertainty. Although we see improvement in recent days, we still believe it is better to maintain the defensive positioning going forward. As quality stocks focus on earnings stability with low financial leverage and high return on equity, they are expected to perform well given the headwinds that we foresee.
Morgan Stanley: The interest expense of the US government increased sharply due to the inverted yield curve. About half of the outstanding debt comes due within 3 years. It is not cheap to refinance the short-term debt when the 2Y yield is at a high level. As the US is expected to issue more longer-duration bonds to exploit inverted yield, the long-term rate is going to jump higher.
Standard Chartered: Investors should consider less volatile US High Yield bonds instead of chasing the US equity rally. the US is likely at the doorstep of the recession. As the services sector is showing signs of buckling and the Fed remains hawkish, the hope of an early pause of rate hikes is fading away.
J.P. Morgan: Although some of the excess demand in labor market is relieved due to the economic slowdown in 2022, the job report last week still showed a high job opening number. The excess demand for labor will lead to continued job gains, low unemployment and wage growth this year, lowering the risk of the US getting into a deep recession.
Barclays: The slowdown in inflation and less severe economic downturn are improving the likelihood of soft landing. Our updated forecast models are expecting a less deep recession in Europe, the UK and the US. The rate hikes of the Fed, ECB and BoE are expected to be 25bps, 50bps and 25bps respectively. There will be risks for another surprise from BoJ next week.
Morgan Stanley: Market participants are overestimating the resilience of profit while underestimating the tightness of the labor market, especially in the services. Also, the size of the consumer goods inventories for manufacturing is underestimated.
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