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SystematicEdge Monthly Market Overview November 2020

Market Context:  Vaccine announcements are resetting the world’s economic expectations

Global Macro: In November, Pfizer, Moderna, and AstraZeneca confirmed the efficiency of their vaccines, to be rolled out in 2021. The announcements provided more clarity on the economic recovery. However, going forward, we expect the economic world to be different as humans adapt and change their habits. We believe “work from home” policies will become more prevalent in the corporate world, even after the COVID pandemic is behind us, while people are becoming more conscious about health in general. Moreover, we think the green wave and ESG trend in the investment world will accelerate. The Darwinian changes, triggered or accelerated by the COVID pandemic, will progressively be reflected in the financial markets, generating rotations across sectors, regions, and asset classes.

Financial Markets: 

Equity and credit had one of the strongest rallies this year in November, fueled by a sectorial rotation that was accelerated by the vaccine announcements. Meanwhile, the uncertainty about the US presidential election has been lifted. Nonetheless, cyclical sectors (financials, industrials, energy) and regions (Europe, Asia) with the lowest valuation still have significant upside potential as many of these markets still suffer from negative performance year to date and have yet to recover to their highs of 2018. China’s economy kept leading the world recovery as witnessed by the country’s robust and accelerating service and manufacturing PMI (Purchasing Managers’ Index) figures in November. As a result, foreign investments continued to flow into China through Hong Kong, Shanghai, and Shenzhen, supporting the strengthening of the RMB, underpinned by the secular depreciation of the USD (down more than 5% year to date against the major developed currencies, including CNY). While Trump continued to impose sanctions on Chinese corporations and officials, China joined the Regional Comprehensive Economic Partnership (RCEP), a free trade agreement between Asia-Pacific nations, such as Japan, South Korea, and Australia.

Equity: Month to date the S&P 500 gained 10.5%, Euro Stoxx 50 +19.3%, Hang Seng +9.3%. Fixed Income: 10-year US yield edged down 2bps in November to 0.84%. Emerging market government bonds rebounded 4.0% in USD and 6.3% in local currencies. High-yield corporate bonds went up 4.5% in EUR and 1.3% in USD. Currencies: USD weakened in November: EUR +2.9%, CNY +1.8%, AUD +5.1%; safe haven JPY +0.7%, CHF +1.4%. Commodities: Oil prices rebounded in November while gold prices further decreased: WTI Oil +25.6%, Gold -5.6%.

Risks:

  • Covid-19: Given new restrictions across Europe and the US following a new wave of infections, we see increasing near-term downside risk to the world’s economic growth outlook.
  • Monetary policy announcements: The ECB and US Fed will announce their monetary stance on how to address the current Covid-19 infection wave on Dec 10th and Dec 16th, respectively; the market reaction could drive up asset and currency volatility.
  • Bankruptcy wave: The number of bankruptcies has been rising amid the economic recession and is expected to worsen in the coming months.
  • Tech bubble: Tech stocks remain under pressure, given high valuations, the challenging of tech companies’ light taxation in several countries, and potential anti-trust legislation in the US.
  • US-China tensions: US-China trade frictions remain strong, with increasing tension around Taiwan and the South China Sea.
  • UK-specific Brexit risk: The absence of agreement between the UK and the EU could have a significant negative impact on the British economy.

Opportunities:

  • Hong Kong H-shares trade at a 30% discount to their mainland counterparts, the widest gap in a decade. Mainland investors have poured a record USD 77 billion of funds into Hong Kong stocks this year. Given the ongoing economic recovery of Chinese enterprises, our fundamental model shows a 20% upside potential for H-shares in 2021, based on valuation, dividends, and increased growth potential, following the inclusion of growth shares such as Alibaba, Xiaomi, and WuXi Biologics in the Hang Seng Index.
  • Quality stocks in the financial sector in the US, Europe, Hong Kong, and Japan: Following the November rebound, valuations continue to look attractive and we expect falling loan-loss provisions for banks to support accelerating earnings growth. We expect stocks of well-capitalized quality banks to pay an above-market dividend yield contingent on their central bank’s green light.