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There still does not seem to be the macro foundations for indices to fully recover from their corrections, as concerns over China and uncertainty over Fed rate hikes continue to linger. Speeches from top Fed officials at the Jackson Hole Symposium over the weekend are likely to be carefully dissected, but positive noises on the US economy are likely to help markets into the start of next week.
Some of the concerns over markets’ ability to fully recover from their corrections have to do with market structure.
The drastic market moves seen this week have refocussed attention on global market structure. Arguably, Monday saw a ‘flash crash’ due to frenetic selling in the US by price-insensitive hedging programs. The rapid selling in the low-liquidity pre-open US markets caused the S&P 500 to drop 5.3% at the open, before paring this back to a close of 3.9%.
There is now concern about the further market effects of other automated derivative hedging programs. The massive spike above 50 in the VIX on Monday will have affected the calculations of volatility focussed algorithms. Volatility targeting strategies change their equity exposure based on two month realised volatility signals, meaning they will continue to sell into the market as their moving averages steadily increase. Trend following strategies vary in their signal period, but many are expected to have selling triggered in them over the next few days. Risk parity strategies rebalance their portfolios according to the different assets’ contribution to risk. The increase in equity volatility and correlation will likely cause rebalancing in these portfolios. It is estimated that the combined selling of volatility focussed strategies could lead to downward pressure on US markets of $150-300 billion of selling over the next few weeks.
Chinese stocks exhibited a tour-de-force of late session volatility yesterday, rallying to close up at 5.4% in the last hour of trading. As mentioned yesterday, P/E ratios in the Shanghai Composite (SHCOMP) were becoming increasingly reasonable, around the 2900 and 3000 level. Although the late-session rally yesterday did not have the feel of buyers enticed into the market by good prices.
Rumours are proliferating that the “National Team” is back in action on the market again, as previously favoured ‘red chips’ (SOE blue chips) are leading the action. Some theories have been advanced that the government not only wants to see ‘blue sky days’ in Beijing around commemorations for the 70th anniversary of WWII, but they would also like to see ‘blue sky days’ in the stock markets. The argument being that increased stock market volatility would detract from the big political occasion that is being staged in Beijing.
The Shanghai Composite is currently up 1.9%, after previously being up 2.8% earlier in the day. There seems to be a patriotic zeal in the market moves today as well, with four out of six companies in the aerospace and defence sectors going limit up at one point. But the index is still well below the 200-day moving average, its previous long-standing technical support.
If the “National Team” has returned to the stock market, it does seem poorly timed. Earlier action could have halted the record losses seen since last week, but any action now would upset the market finding its own natural bottom, which would be far healthier for the index in the long term. Market intervention seems to be an itch that is difficult not to scratch.
Japanese CPI was better than expected. Economists had predicted a 0.2% decline in the Bank of Japan’s (BoJ) 'core' CPI measure (excluding fresh food), but this was flat at 0.0%. 'Core-core' CPI (excluding fresh food and energy) was stable at 0.6%. While the inflation numbers were slightly stronger, their low levels along with the decline in Japanese GDP last quarter still makes it quite unlikely that the BoJ’s 2% inflation target will be hit by September 2016. However, the result and improving global market conditions may make it unlikely for the BoJ to step up Quantitative and Qualitative Easing (QQE) in October, although the requirements of the inflation target seem to argue for it.
There was not a major response in the yen to the news after a fairly volatile week, weakening 0.1% against the USD.
The better than expected inflation data alongside the solid US GDP data provided a further boost to strong recent run in the Nikkei, seeing the index increase 2.7%. The energy sector led the index by a mile on the back of the massive oil price gains overnight, rising 6.3%. Exporters receiving a boost from the weaker yen also rose, with Fuji Heavy industries gaining 4.7%.
It has been a muted day in the ASX compared to the rest of Asia and its recent three sessions. 151 companies out 199 have now reported earnings, with 49.3% beating sales expectations and 47.1% beating earnings expectations, which is relatively consistent with previous ASX earnings seasons.
The ASX rallied through the potential resistance level of 5100 earlier in the week, and opened strongly early in the session – breaking through 5300 around 10am AEST. However, it rejected this level before stabilising around 5250 level.
While the ASX has easily recovered almost half of its 12% decline in August in the past four days, the road to recouping the rest of that loss is looking increasingly difficult. Global macro concerns over China and the Fed along with a disappointing commodity price outlook will likely weigh on the ASX’s further rise. 5300 and the 2013 uptrend (now sitting around 5450) could provide tough resistance to the index going forward.
Energy and resources sectors were the stand out on the index today, both growing 3% and 3.1%, respectively, on the back of the huge gains in oil and other commodities overnight. Santos (STO) and Origin (ORG) saw some of the biggest gains in energy, while BHP and RIO both had solid days in the resources sector.
Woolworths’ (WOW) underlying profit was flat at $2.45 billion, and EPS was also flat at 195c. EBIT performed poorly in every division except for New Zealand, which saw 5.2% growth. Food, Liquor and Petrol (FLP) was most disappointing, with EBIT declining 1%. Food and Liquor like-for-like sales declined 0.9% in Q4 2015. Its petrol sales business was also impacted by the decline in oil prices, with sales revenue declining 20% from a year ago. Big W is also a major concern, with sales of general merchandise declining 5.7%, as they continue to haemorrhage market share to Wesfarmers’ (WES) Kmart and Target. Woolworths is still in the midst of a turnaround with the CEO appointment still yet to be made. Its outlook over the next coming quarters does not look good, providing a further boon to Wesfarmers.
Harvey Norman (HVN) reported underlying net profit largely in line with expectations at $261.8 million. There were some good numbers in the report, with like-for-like sales growing 6.6% and underlying net profit margins increasing 155 basis points to 9.86%. The increasing margin growth is reflective of HVN’s growth in housing related goods and some of their cost saving initiatives. Trading losses decreased in Ireland & Northern Ireland and saw strong like-for-like sales growth, however HVN saw an erosion of gross margins in their Asian businesses. HVN stated that continuing their pace of growth was dependent on the Australian housing market. There was slight market reaction to this, as the stock declined 1.2%.
Telstra (TLS) launched another foray into Asian markets today, announcing it was in talks to invest in a wireless joint venture with Philippines’ group San Miguel. The stock moved down slightly 1.5%, largely over concerns over how this would affect the dividend. But Telstra’s lack of room for substantial growth in the Australian market necessitates its pursuit of ambitious investment targets in the Asian region.