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SystematicEdge Monthly Market Overview October 2020

Market Context: The second Covid-19 infection wave is undermining the world’s economic expectations

Global Macro: 

Europe has been severely hit by the second coronavirus wave, which has led to new lockdown measures across the continent, with a sustained negative impact on sectors such as transportation, hospitality, and tourism. In the US, election polls strongly favour a Biden victory. We believe the impact of a blue wave would be positive for China and negative for the USD as Democrats would print a record amount of money, while the Tech sector would be facing potential headwinds on the back of further taxes and potential anti-trust legislation. China’s economy continues its recovery amid rising consumer confidence, while manufacturing and non-manufacturing Purchasing Managers’ Indices (PMIs) are in expansion territory (above 50). China’s fifth plenum, the country’s five-year planning summit led by President Xi Jinping, stressed the importance of sustainable growth and the development of the Tech sector and domestic market.

Financial Markets: 

Western equities and commodities sold off in October (oil: -8.1%) following the resurgence of Covid-19 infection cases. In Asia-Pacific, equity valuations were underpinned by the ongoing economic recovery, largely driven by China, where the pandemic seems to be well under control. In the US, the 10-year Treasury yield went up 22bps on the back of the additional stimulus package that will be passed after the election and the increased likelihood of a Biden victory. The worsening of the pandemic globally has been driving up demand for safe-haven currencies: USD, JPY, and CHF. US Tech firms announced mixed Q3 earnings results in end-October, which triggered a market correction.

Equity: Month to date the S&P 500 lost 0.7%, Euro Stoxx 50 -7.2%, Hang Seng gained 2.8%. Fixed Income: 10-year US yield increased 22bps in October to 0.86%. Emerging market government bonds edged down 0.1% in USD and gained 0.8% in local currencies. High-yield corporate bonds were up 0.2% in EUR and 1.1% in USD. Currencies: With respect to USD: EUR -0.5%, CNY +1.8%, AUD -1.2%; safe haven JPY +0.9%, CHF -0.7%. Commodities: Oil and gold prices further decreased in October: WTI Oil -8.1%, Gold -0.5%.

 

Risks:

  • Covid-19: The second wave of infections is triggering new lockdown measures, which will further delay the global economic recovery.
  • US election: If no clear winner emerges, results could be contested all the way to the Supreme Court, leading to increased uncertainty and volatility in the financial markets. If Democrats win, an increase in corporate profit tax would put S&P 500 valuations under pressure.
  • Bankruptcies: 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 an agreement between the UK and the EU could have a significant negative impact on the British economy.

Opportunity:

 We see opportunities in stocks that would benefit from a sector rotation (in particular cyclical stocks and financials). We believe Chinese equities will continue to benefit from China’s economic recovery in end-2020, while a US blue wave could act as a catalyst for a Chinese stock rally. Following the second wave of the pandemic, we think central banks around the world are likely to further lower interest rates in November, staring with the ECB and the Reserve Bank of Australia, which would push up corporate bonds.