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Government bonds were the game in February as US 10-year Treasury yields were able to get past resistance level of 1.45-1.50%. Not only yields went higher but also the long end of the curve spiked much faster than many expected. Steep yield curve signals inflation and is positive for commodities. It also favors bank stocks as banks can finance themselves cheaper at the short end and give longer-term loans at higher rates. Now, we still think that at some point yields might see fast correction lower; on the other hand, next move above 1.60% in 10-year Treasuries might be more “emotional”.
Jerome Powell, speaking before Congress, commented that rising bond yields and falling stocks are alarming. The average dividend yield on the S&P 500 is around 1.6%, and government bonds with a yield of 1.40-1.50% have become more competitive relative to stocks. In Europe German 10-year notes rose 25bp, and the 30-year paper had even managed to shoot into positive territory. That had an adverse effect on investment grade corporate bond markets, with Bloomberg Barclays US and Euro Aggregate Indices losing about 1.5% in February. Meanwhile, our main area of concern, the high yield markets of developed countries, supported by a steady risk appetite had continued to perform well and was unaffected by the rise of sovereign yields. However, with government (i.e. risk-free) yields on the rise, it could start to affect equity market valuations forcing analysts to reassess stock growth prospects in a higher yield environment. That would be a serious headwind to the ever-positive market sentiment.
Democrats, who had been pushing for large stimulus packages for months, finally can start implementing those plans. On February 27, the US Congress approved a bill on anti-crisis measures worth $1.9 trillion. It was approved by a slight margin of votes – 219 against 212. The support plan involves the allocation of $400 billion to combat the pandemic, $1 trillion to help the population (including direct payments to citizens of $1.4 thousand) and $500 billion to stimulate the economy. The bill is expected to be signed by mid-March.
US consumer confidence increased in February with households slightly more upbeat about the labor market. The new count of Americans filing for unemployment declined to the lowest level in three months – initial claims for state unemployment benefits fell by 111 000 to a seasonally adjusted 730 000 for the week ended Feb. 20. The economy has recovered 12.3 million of the 22.2 million lost jobs during the pandemic; however, employment is not expected to return to its pre-pandemic level before 2024. US manufacturing activity meanwhile increased to a three-year high in February.
Factory activity in Eurozone increased due to a soaring demand – IHS Markit’s final Manufacturing PMI jumped to a three-year high in February. Block’s two largest economies showed solid growth in manufacturing as well – Germany’s Purchasing Managers’ Index for manufacturing jumped to the highest level since January 2018 while its French counterparty rose to 56.1 points compared to 51.6 in January. Although manufacturing showed solid result, service industry contracted again in February due to lockdown measures.
China’s factory activity expanded at the slowest pace in nine months in February due to weak demand. Lunar New Year holidays also affected activity as factories were shut. The Caixin/Markit Manufacturing PMI fell to the lowest level since last May. In addition, China’s services sector activity grew, but at its slowest pace in ten months. With Trade War on hold, China announced that it will extend tariff exemptions for 65 imported products from the United States – the extension will last until Sept. 16, 2021. Elsewhere in Asia, factory activities were boosted by tech demand. In Japan, manufacturing activity expanded at the fastest pace in over two years, South Korea’s exports rose for the fourth straight month, India’s factory activity expanded for the seventh straight month and Philippines, Indonesia and Vietnam also saw manufacturing activity expand in February.
Precious metals decided to consolidate for another month despite (or owing to) a considerable public attention. We think that the complex is on the verge of a significant rally but it might decide to exhaust all enthusiasts first by doing the usual yo-yo rather than producing a clean and fast leg up. With treasury yields signaling rising probability of inflation, precious metals will get more interest from market participants. Still, patience and conservative risks approach are recommended, as the range of 24-28 dollars per silver ounce can be very energy consuming. Anything closer to 20-21 is certainly a bargain while 23-24 levels favor tranched purchases, provided we ever get to these levels. Gold has not done much too and market is long already thus a downside move can be painful to many.
February began very positively for the stock market and in the first 2-3 days of the month all signs of the correction that began at the end of January were eliminated. As we have often seen all these years, any 3-5% drop is “bought back”, and the presence of fear in the market remains minimal. The growth of the S&P 500 index from 3657 to 3958.50 in the first half of the month amounted to an impressive 8.2%. After that, the index corrected to 3785 points, finding there a point of support. Should we manage to get lower than that, a deeper pullback to 3600 levels becomes a reality.
In January we said that one shouldn’t forget about oil, and February was very positive for “black gold” – 14 days of growth out of 20! The April WTI contracts grew by 22.6% (from 51.62 to 63.79). The OPEC + meeting will take place on March 3-4. Volatility in the instrument will remain and it is unlikely that we will immediately go to 70 dollars per barrel from here.