Cautious optimism reigns

Strong durable goods numbers out of the US and tempting valuations saw a phenomenal bounce in all US equities.

US Stocks
Source: Bloomberg

This was particularly the case for high-beta growth stocks, so no surprise then that the IT and healthcare sectors led the rally. The S&P 500 closed at 1940, within arm’s length of 1970, which looks to be a key level in predicting how protracted this equity market correction will be. If the index experiences strong resistance at the 1970 level, it could be portending an extended period of lower stock prices for the market. William Dudley’s speech seemingly put to bed any prospect of September rate hikes, with the market pricing the probability of a rate hike at 24%. Attention will be keenly focussed on the speeches at the Jackson Hole Symposium, which begins tonight. However, I think the market will largely be looking towards December as the most likely date if a rate hike happens this year.

China

After the reserve requirement ratio (RRR) and interest rate cuts on Tuesday night, the People’s Bank of China (PBoC) followed it up with a further CNY 150 billion of reverse repos today. This saw funding costs begin to decline, with the overnight Shanghai interbank rate (SHIBOR) and the one year interest rate swap both declining to their lowest levels since July. The stock market seems to be responding positively to these moves. One wonders if the record losses seen globally on Monday could have been avoided had the RRR cuts come over the weekend as some called for.

The Shanghai Composite (SHCOMP) has now climbed 1.5%. It seems to be stabilising in between the 2900 and 3000 level. The P/E ratio for the index is currently 14.9, still above its long term average of 12.8, but stocks are reaching far more reasonable levels and may possibly be beginning to find a floor.

Industrials have been the best performers on the index today, possibly reflecting expectations for stepped up fiscal stimulus in 2H. CRRC Corporation, Fujian Longma Environmental Sanitation Equipment and CSSC Steel Structure Engineering were all up about 10% today.

Japan

Bank of Japan (BoJ) governor Haruhiko Kuroda spoke today. While he emphasised that he believed inflation was on target to hit its 2% target, he also mentioned that the BoJ was prepared to adjust policy if needed. Expectations are for Japanese core inflation to decline 0.2% when the data is released tomorrow morning.

With fresh Chinese RRR cuts and liquidity injections this week, there has been increased depreciation pressure on the CNY. With estimates that the PBoC has already spent upwards of USD 100 billion since it first devalued its currency two weeks ago, it is likely that the PBoC will devalue the CNY again before long.

The prospect of further CNY depreciation and low inflation in Japan seemingly makes it quite likely that the BoJ will be forced to step up its Quantitative Qualitative Estimation (QQE) program before long. If China devalues again before the meeting in October, it seems quite likely they would step up QQE then. The yen has weakened 1% against the US dollar since its close on Tuesday.

The Nikkei continued its rally into a second day, with the index up 1.36%. Consumer staples have led the rise, possibly benefitting from renewed weakness in the yen. Kikkoman Corporation has been one of the best performers in the sector, rising over 5%. Toyota also saw its stock price rise over news that it has reopened its Tianjin operations ahead of schedule.

Australia

Australian capital expenditure (capex) numbers were worse than expected, declining 4% in 2Q against estimates for a 2.5% decline. However, Estimate 3 for 2015-2016 capex was 9.9% higher than the previous estimate driven by an expected 17.2% increase in capex from Other Selected Industries (heavily dominated by services). The better–than-expected forecast for manufacturing and services capex in 2015-2016 initially saw the Aussie dollar rally sharply at 11.30am AEST, but saw these gains shortly given back.

The ASX has seen its third day in a row of decent buying after declining more than 12% in August. This is not totally surprising given the impetus from the excellent US trading session overnight and the fact that valuations have been knocked down to much more compelling levels. The P/E ratio of the ASX is sitting pretty close to its long term average of 18.6, a level it hasn’t seen since December 2014. The P/B ratio for the index is just below its long term average of 1.91, and is now at its lowest level since mid-2013. The massive discounting of resource sector assets is largely responsible for such a decline in the P/B ratio. Nonetheless, in such a situation, investors are clearly being tempted into the market at these valuations despite continued global macro-economic uncertainties around China and the Fed.

The healthcare sector rose 4.3% in the S&P 500 overnight, and healthcare has been one of the standouts on the ASX today, gaining 2.8%. Investors were buoyed by Ramsay Healthcare’s (RHC) earnings, but Blackmores (BKL) and Healthscope (HSO) also saw strong gains. Utilities were the best performing sector on the ASX today, rising 3.2%, with investors showing their support for APA Group’s (APA) recent earnings numbers.

Boral (BLD) reported an underlying net profit of $259 million, beating estimates. Most divisions reported a better-than-expected result, except for ex-property earnings from Construction Material and Cement which disappointed. But the main reason the stock dropped 7.3% today was the significant cut to its FY16 guidance. Boral’s expected EBIT growth in 2016 is 12% below consensus, and expected underlying net profit growth is 7% below consensus. This appears to be driven largely by housing activity in Australia coming off its peak. Management also pointed to slow growth in Queensland, roads, highways, subdivisions and bridges (RHS&B) and slower growth in the LNG sector as other factors weighing on their forecasts.

Ramsay Healthcare (RHC), Australia’s biggest healthcare provider, saw underlying earnings grow 19% to $412 million just above consensus forecasts. This was driven mostly by strong growth in Australia, with EBIT growing at 11.6%. The UK also saw solid growth numbers from expanding NHS volumes, leading to 11.2% EBIT growth. France continued to be a bit of a drag on earnings, however they announced a plan to buy nine hospitals in Lille. Although they lowered their FY16 guidance 4% below consensus, their history of beating guidance as well as the acquisition of nine hospitals likely drove investor optimism on the stock today, rising 5.8%.

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