Global Stocks Fall Following Rout in Chinese Market Global stocks started 2016 with a sharp sell-off after fresh signs of economic slowdown in China and a falling yuan triggered a 7% fall in mainland Chinese stocks. U.S. futures markets pointed to a 1.5% opening loss for the S&P 500.
(…) Companies are still supplying too many cars. In October, wholesale shipments to dealers were 11% greater than the new cars registered that month. In November, they were 8% more, according to Sanford C. Bernstein’s Robin Zhu. More inventory means dealers will likely have to heavily discount their cars.
Another reason prices have room to fall is that, in many segments, they are still too high by international standards. As of November, the same midsize sedan and big sport-utility vehicle in China was pricier than in the U.S. Volkswagen’s Passat commands a premium of up to 37%, according to Macquarie data.
Luxury car makers such as BMW were worse, selling models up to 152% more expensive, not adjusting for taxes. (…)
OIL
(…) The rift between Saudi Arabia and Iran could hurt efforts to calm oil markets if Iran begins exporting up to one million extra barrels a day of crude after sanctions are lifted, Summer Said reports. The disagreement pits the two most powerful members of the Organization of the Petroleum Exporting Countries, or OPEC, against each other. So hopes for an agreement to regulate production appear to have dimmed.
Saudi Arabia cut off diplomatic relations with Iran after the kingdom’s execution of dissident cleric Nemer al-Nemer inflamed sectarian tensions, Asa Fitch, Ahmed Al Omran and Karen Leigh report. (…)
The country’s crude and gas condensate production increased to 10.825 million barrels a day last month, beating the previous record set in November by 0.4 percent, Bloomberg calculations based on the data show. Output for the year increased 1.4 percent compared with 2014, exceeding 534 million metric tons, or almost 10.726 million barrels a day, according to the preliminary information e-mailed from Energy Ministry’s CDU-TEK unit. (…)
Russia’s crude export rose to 5.25 million barrels a day in 2015, according to the data, with supplies to countries outside the former Soviet Union jumping 11 percent to more than 4.42 million barrels.
The Russian government, which relies on oil for about 40 percent of its budget revenue, doesn’t expect a drop in production this year. Investments made two to three ears ago have been supporting output in 2015 and will do so in 2016, Energy Minister Alexander Novak said Dec. 22. Still, production may decline next year if Russia has to increase the tax burden on the industry to narrow the budget gap given the plunging oil price, he said.
Iran’s proposed increase in oil production after sanctions on the country are removed will enter the market “gradually” and won’t pressure prices, the Iranian Oil Ministry’s Shana news agency said on Saturday.
Iran has the potential to boost its oil production by 500,000 barrels a day within a week of sanctions being lifted, and by 1 million barrels shortly after, Shana said citing Seyyid Mohsen Ghamsari, the head of international affairs at National Iranian Oil Co. How much of it enters the market will depend on market conditions, Ghamsari said. (…)
Iran “will try to enter the market in a way to make sure the boosted production will not cause a further drop in prices,” Ghamsari said. “Production potential does not mean we will be entering the boosted production into the market or stockpile it. We will be producing as much as the market can absorb.” (…)
Iran sees crude markets oversupplied by 2.5 million to 3 million barrels per day, and its efforts to restore the country’s market share have to take that dynamic into consideration, Ghamsari said. Amid the glut, the country can increase exports either through a “price war” or by finding new customers, he said.
Increasing demand from India and China creates an opportunity for Iran, Ghamsari said.
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Big oil to cut investment again in 2016 With crude prices at 11-year lows, the world’s biggest oil and gas producers are facing their longest period of investment cuts in decades, but are expected to borrow more to preserve the dividends demanded by investors.
At around $37 a barrel, crude prices are well below the $60 firms such as Total (TOTF.PA), Statoil STO.OL and BP (BP.L) need to balance their books, a level that has already been sharply reduced over the past 18 months. (…)
U.S. producers Chevron (CVX.N) and ConocoPhillips (COP.N) have published plans to slash their 2016 budgets by a quarter. Royal Dutch Shell (RDSa.L) has also announced a further $5 billion in spending cuts if its planned takeover of BG Group (BG.L) goes ahead.
Global oil and gas investments are expected to fall to their lowest in six years in 2016 to $522 billion, following a 22 percent fall to $595 billion in 2015, according to the Oslo-based consultancy Rystad Energy.
“This will be the first time since the 1986 oil price downturn that we see two consecutive years of a decline in investments,” Bjoernar Tonhaugen, vice president of oil and gas markets at Rystad Energy, told Reuters. (…)
Delta’s pilots union seeks big wage hike as profits surge: Bbg The union representing Delta Air Lines Inc’s pilots is seeking a wage hike of about 40 percent compounded over three years as the carrier’s profits surge, Bloomberg reported, citing a memo from the Air Line Pilots Association.
EARNINGS WATCH
Fatctset sees Q4 EPS down 4.7%, a little worse than the –4.5% expected 2 weeks ago but better than the –4.9% seen in Dec. 24. Ex-Energy, EPS should gain +0.4%. Of the 17 S&P 500 reporting earnings to date for Q4 2015, 13 have reported earnings above the mean estimate but only 6 have reported sales above the mean estimate. For Q4 2015, 85 companies have issued negative EPS guidance (+1 since Dec. 18) and 26 companies have issued positive EPS guidance (unchanged).
Thomson Reuters has Q4 EPS down 3.7%, unchanged from 2 weeks ago. Its own pre-announcement tally shows 30 positives vs 20 at the same date last year and 91 negatives vs 100. Using TR’s $117.26 estimate for 2015, the Rule of 20 P/E is 19.1 at this morning’s pre-opening level of 2007. At the 20 fair level, the S&P 500 would be 2110, 5.1% above “current” levels.
TR’s estimate for 2016 is $126.91, +8.2% YoY, with the bulk of the improvement beginning in the second half of the year (Q1: +1.8% YoY, Q2: +4.1%, Q3: +8.9% and Q4: +14.8%. Time is not yet on our side…
Historically, investors have carried valuations well into the “Rising Risk” zone near the end of bull markets. Given the current trends in the high yield markets, it would be dangerous to expect equity investors to become less risk averse. Probabilities are thus that 20 will be a tough hurdle, making the upside odds lower than the downside risk.
Had it not been for a small group of nifty companies, 2015 would have entered the history books as a terrible year for the US stock market. As it was, stocks were almost exactly flat, as were bonds and cash, meaning that US bonds and equities had their second-worst collective 12 months since 1995 — outstripped only by the disaster year of 2008. (…)
The S&P 500 equal-weighted index, where each of the 500 companies receives 0.2 per cent of the index, was down, and underperformed the S&P weighted by market capitalisation. (…)
Excitement around a few big new-economy stocks was intense during 2014. Netflix and Amazon both more than doubled, while Facebook and the Google companies also enjoyed a great year. Put these stocks (known as the Fangs for their initials) together with Ebay, Priceline, Salesforce, Microsoft and Starbucks, to create a “Nifty Nine” and they beat the rest of the US market by more than 60 per cent. (…)
(…) collected from investors and strategists in recent weeks we present a selection of possible but not probable tail risks — good and bad — to watch out for in the coming year.
China: the slowdown isn’t gentle
Michael Hasenstab, chief investment officer for Templeton Global Macro says “our call is that China will not have a hard landing . . . If for any reason we were to see that not occur, that would be a game changer. The China call is the most critical call any investor has to make.” (…)
Get the mix of reform and economic stimulus wrong, however, and a crash would reverberate worldwide.
Or the currency collapses
(…) The People’s Bank of China’s foreign exchange reserves have fallen from nearly $4tn in June 2014 to about $3.4tn today as it intervened in markets to defend the value of the currency, which has been allowed to weaken only moderately.
Such a large pile of reserves still leaves policymakers with options, but some analysts question the true value of those reserves, as spending them can create negative momentum for a currency when the need to act highlights underlying fragility.
“At some stage, reserves may fall to a threshold level where market participants begin to question whether China’s policy flexibility is really as strong as they previously thought,” says Mr Lubin. “That is not a good outcome for emerging markets.”
Inflation returns
(…) Iain Stealey, portfolio manager for JPMorgan Asset Management, says: “As a fixed income investor the biggest tail risk we have is that the low growth, low inflation environment is just wrong and growth, wage inflation picks up. The Fed is completely behind the curve, that’s the risk we worry about.” (…)
After six years of waiting the inflationists have been relegated to the fringe.
Paul Lambert, of Insight Investment, says: “Wage inflation in the US could lead to a much sharper rate cycle in the US despite still relatively modest growth that will fuel a significant rise in currency market and asset market volatility. It’s like the wolf that might finally arrive just as everyone stopped believing the little boy.”
Alternatively, a risk is that it is investors, not the Fed, who are behind the curve. Market prices imply the US central bank will announce two quarter-point interest rate increases next year. The policymakers, however, on average forecast four, and a robust economy could compel larger or more frequent rate rises.
Discounting the Fed’s more hawkish forecasts has been a good strategy so far, and many investors still predict little momentum in long-term interest rates. But “we’re approaching an inflection point”, argues Alex Roever, head of US interest rate strategy at JPMorgan. “We’re going to see some stresses as the tide goes out.”
The dollar drops and raw materials rebound
(…) One is a large scale US dollar devaluation, as a strengthening greenback has been one of the biggest headwinds facing commodity markets in 2015. As resources are priced in dollars, raw materials have become more expensive for non-US buyers. A weaker dollar would thus represent a welcome price cut.
(…) “The difficulty is in seeing what would cause such a shift.”
The other, perhaps more unlikely event which could scare the commodity bears would be co-ordinated crude oil output cuts by large producers in and outside Opec, the cartel which attempts to manage production. (…)
Normal is not nice and quiet
Investors have become used to a world dominated by central banks. (…) Now the Fed has begun to raise rates, what will the world be like without constant central bank support?
Mohamed El-Erian, chief economic adviser at Allianz, says that, if the Fed and other central banks do succeed in returning the world to ‘normality’, there may be unintended consequences.
“We are coming out of a period in which central banks have successfully suppressed natural market volatility,” he says. “A lot of capital flowed into the emerging world [under the Fed’s quantitative easing programme] and it is going to continue to look to get out as volatility rises. In some cases it will contribute to [conditions on] those markets that have become unhinged.”
Remember Europe
Surprises don’t have to be unpleasant. Ewen Cameron-Watt, BlackRock chief investment strategist, has the eurozone in mind, where a nascent recovery will get a boost from an expansion in government spending, part of it related to the influx of refugees.
“We can always pick an improbable surprise. I think it’s more interesting to pick something plausible, such as European performance and a US growth undershoot. A surprise would be if in the second half of 2016 European economic growth accelerates beyond US growth.”
Such a result might produce a year of earnings growth for European listed companies, something which has failed to arrive since 2010, regularly foiling the predictions of strategists and analysts.
Holders of government debt might be less happy, however. An end-of-year surprise was the decision by the European Central Bank not to increase the size of its monthly bond purchases in December, after what had appeared to be strong hints to the contrary ahead of the announcement.
Stronger growth would challenge assumptions that very low interest rates have become normal.
But beware “Brexit”
(…) The risk is a victory for the “outs”, after which there would be a long list of open questions about the practical, legal and constitutional implications.
For instance, Europe employs the Continent’s expert trade negotiators, so who will negotiate the UK’s new position with the world? What will multinational banks do with European headquarters no longer based inside Europe? Can Scotland stay in if the rest of the UK leaves?
As Willem Buiter, Citi chief economist, puts it: “If it goes wrong the British economy would vanish for the next 10 years. Because it would create uncertainty about the EU unravelling, it’s big enough to matter for the global economy.”
First, worry less about the banking system. Financial institutions today are less fragile than they were a few years ago. This isn’t because they got better at understanding risk (they didn’t) but because, since 2009, banks have been shedding their exposures to extreme events. Hedge funds, which are much more adept at risk-taking, now function as reinsurers of sorts. Because hedge-fund owners have skin in the game, they are less prone to hiding risks than are bankers. (…)
I worry about asset values that have swelled in response to easy money. Low interest rates invite speculation in assets such as junk bonds, real estate and emerging market securities. The effect of tightening in 1994 was disproportionately felt with Italian, Mexican and Thai securities. The rule is: Investments with micro-Ponzi attributes (i.e., a need to borrow to repay) will be hit.
Though “another Lehman Brothers” isn’t likely to happen with banks, it is very likely to happen with commodity firms and countries that depend directly or indirectly on commodity prices. Dubai is more threatened by oil prices than Islamic State. Commodity people have been shouting, “We’ve hit bottom,” which leads me to believe that they still have inventory to liquidate. Long-term agricultural commodity prices might be threatened by improvement in the storage of solar energy, which could prompt some governments to cancel ethanol programs as a mandatory use of land for “clean” energy.
We also need to focus on risks in the physical world. Terrorism is a problem we’re managing, but epidemics such as Ebola are patently not. The most worrisome fact of 2015 was the reaction to the threat of Ebola, with the media confusing a multiplicative disease with an ordinary one and shaming people for overreacting. Cancer rates cannot quadruple from one month to the next; epidemics can. We are clearly unprepared to deal with such threats.
Finally, climate volatility will produce some nonlinear effects, and these will be compounded in our interconnected world, in which disruptions are more acute. The East Coast blackout of August 2003 was nothing compared with what may come.
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