As we welcome the arrival of spring in the northern hemisphere, we also observe a glimmer of hope in the financial markets. After the sell-off in March, the trading screens have turned green with signs of recovery. However, the looming risks and uncertainties warrant caution and a prudent approach to investments.
Our previous update warned of the US economy's recessionary risks, and the latest data continues to confirm this trend. Consumer expectations and business activities have slowed down, and credit conditions have tightened. Despite these concerns, stocks have rallied, with only a few recent bumps, such as the recent news of deposit outflows at First Republic Bank, which caused a 50% drop in its share price on 25. April.
Additionally, the ongoing US debt ceiling problem is casting a shadow on risk sentiment. The first quarter earnings season is underway, and while there have been some positive earnings reports from companies like JPMorgan, Wells Fargo, Microsoft, and Alphabet, the overall performance has been weak, with the gains in the index attributable to only a handful of stocks.
In our Investment Committee meeting this month, we maintained a cautious stance on the outlook for risky assets. With the record-pace increase in short-term interest rates, we expect associated ups and downs and volatility to continue for the next 6-12 months. Therefore, we recommend a focus on income-generating assets and actively managed strategies to generate a margin of safety and uncorrelated returns during turbulent times.
As we continue to navigate the uncertainties of the current economic climate, we urge our readers to exercise caution and remain vigilant in their investment decisions.
As we approach the end of June, the US government is facing a deadline to avoid running out of cash. While we have seen such deadlines pass without consequence in the past, failure to reach a deal between Republicans and Democrats could have catastrophic effects on the USD status as the global reserve currency.
Although a default on US government debt is highly unlikely, the market's money market funds are already showing caution by steering away from T-bills maturing between June and July. Consequently, these bills are trading at a premium compared to those maturing in May or September. We advise our clients to do the same as the modest increase in yield is not substantial enough to justify the risk of a potential default.
Investors looking to lock in yields should consider longer-term investments in the 6-month to 1-year space. However, the spending cuts made as a concession to broker a deal in Congress will be crucial in determining the growth outlook and the specific sectors that will be affected.
On April 21st, President Boric of Chile announced the nationalization of the country's vast Lithium reserves, causing a shock in the investment world. This move has affected the two key producers in Chile, SQM and Albemarle, as their contracts will revert to the state-owned scheme by 2030 and 2043 respectively. While the news has resulted in a slump in their stock prices, it is important to note that existing contracts won't be affected. Moreover, it is likely that government involvement can also result in positive outcomes through public-private sector partnerships that can achieve more stability, if managed well by the state-owned miner Codelco. Recent news emerging indicates that the Chilean government intends to view this as a "partnership" and not an industry disruption.
It is worth noting that the increased demand for EV batteries, coupled with the uncertainty brought about by Chile's supply, might signal the end of the correction in Lithium Carbonate prices. The government's move has changed nothing with regards to the demand and supply issues for one of the key resources needed for the energy transition.
The reopening story in China has been one of the major stories in Asia this year. But yet, after an initial sprint higher, Chinese stocks continue to disappoint. There is one major reason, why ‘this time its different’ and we do not see the expected fireworks on the Shenzen and Hong Kong trading floors:
It’s the flow of capital, that still remains in deep negative territory, although recovering from the 2022 lows. It means, that on aggregate, still more RMB are leaving the country than flowing into it. US sanctions and the general reluctance of foreign money to commit capital to China are one of the reasons. The ongoing crackdown on technology companies and the fallout from the real estate bubble are other headwinds to deal with.
Its difficult to argue against these concerns, but the reopening is real from what can be told from alternative data sources measuring travel and retail activity. Therefore, we prefer proxy benefactors of a China reopening: South-East Asian markets like Vietnam, Thailand, Indonesia with a strong linkage to China, or sector exposure to regional energy and base metals like Copper (which also benefits from the Energy Transition narrative), that should benefit from an increased demand.
April 4, 2023
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