22 November 2022
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Equity indices rebounded strongly in October, returning to their early September levels. For the fifth month in a row, we can observe a variation in absolute terms of more than 5% in the European indices. This has not been observed since October 1997. The same kind of phenomenon can be spotted on the other side of the Atlantic.
While the macro-economic context remains gloomy and dominated by inflation, which is still rising in Europe to double digits and which is falling only very modestly in the United States, investors have preferred to focus on attractive fundamentals during this quarterly publication period. Furthermore, the expectation of an accommodative Fed pivot as early as Q2 2023 is growing and is fuelling the idea that the recession will be short-lived and that the peak of inflation in the US is now behind us.
This monthly rise was driven by cyclical sectors, led by the energy sector, which has been the only positive sector since the beginning of the year. Defensive stocks rose to a lesser extent. The difficulties of the semiconductor sector, impacted by the disappointing results of TSMC and the export control measures imposed by the United States on China, should be noted. Digital Stars Europe Acc joined this market rebound and posted a monthly performance of +5.7% compared to +6.2% for the MSCI Europe NR. Digital Stars Continental Europe Acc (formerly Digital Stars Europe Ex-UK) ended October at +6% compared to +6.6% for the MSCI Europe ex UK NR. Digital Stars Eurozone Acc achieved +6.4% against +7.9% for the MSCI EMU NR.
The rebalancing carried out in October was diversified, favouring large caps. Banks were reinforced. We also integrated some defensive stocks and luxury goods. Exposure to commodities was slightly lowered. The price momentum has moved out of telecom stocks, as the fund continues to adapt to a higher interest rate environment. Digital Stars Europe is overweight energy (7%), technology (3.3%) and basic materials (3%). The fund is underweight in healthcare (10.8%), consumer discretionary (3.5%) and consumer staples (3.3%). UK is the largest weighting at 14.9%, ahead of Germany at 11.7% and the Netherlands at 11%.
The rebound particularly benefited small and mid caps, allowing Digital Stars Europe Smaller Companies Acc to finish up at +8.6% in October, compared to +7.0% for the MSCI Europe Small Cap NR. The fund’s good performance continues to be led by the energy sector. Some marine transportation stocks are performing remarkably well, as well as others driven by their good news flow.
The monthly portfolio reviews focused on strengthening industrials, as well as media and materials. Sales were mainly in consumer cyclicals (textile and apparel).
The portfolio is still significantly overweight in energy, as well as in utilities, and underweight in real estate, finance and pharmaceuticals.
The United Kingdom (the most largely underweight country) is still the largest country weight with 16.6%, ahead of Germany (12.0%). Norway’s weight sits at 9.9%, and the country remains the most largely overweight.
Digital Stars US Equities Acc USD returned +11.6% in October, outperforming the MSCI USA NR at +7.9% and the MSCI USA Small Cap NR at +10.3%. Energy was the best performing sector in the fund over the month. Good news flows benefited some of the fund’s stocks, notably in industry and finance.
The latest monthly portfolio review, which was fairly diversified, strengthened financials, energy and materials, and reduced retail, industrials and technology.
The portfolio is significantly overweight in banking, industrials and energy, and underweight in technology, pharmaceuticals and media.
21 October 2022
Chahine Capital, a pioneer in quantitative Equity « Momentum » since 1998, has renamed its Digital Stars Europe Ex-UK fund to Digital Stars Continental Europe.
Launched in 2006, Digital Stars Continental Europe is an All Caps European equity fund, which aims at outperforming Europe ex-UK markets by identifying, through proprietary quantitative models, « star » companies, those with the ability to repeatedly surprise investors positively.
September was a challenging month for equity indices, which are now trading below their early March lows in Europe and below their June lows in the US. This decline has been global, and the various equity styles suffered uniformly, a sign that macroeconomic news has dominated investors’ minds and taken the lead over more fundamental and microeconomic considerations. Inflation releases have been disappointing and economic momentum continues to deteriorate, mainly due to sharp rises in key interest rates by central banks, in their efforts to tackle inflation. It is important in this depressed environment to remember that the best investment opportunities take root in times of crisis and there is no reason why the current period should be any different. There are many reasons for this. Sentiment indicators are down and some are at historic lows – a traditionally contrarian indicator, which suggests that a lot of bad news is already priced in. Central banks are expected to reverse their monetary policy towards a more accommodative stance as early as Q2 2023, according to the shape of the yield curves. Finally, valuations are at levels not seen for a long time. In the US, 12-month forward P/E is 15.3x compared with a historical average of 16.3x since 2000. In Europe, the discount is as high as 25% (current P/E of 10.5x vs. historical average of 14.0x).
These market falls have led investor expectations of a recession to have risen sharply. Cyclical stocks (Technology, Industrials – especially shipping) have suffered, while defensive stocks (Food, Health) held up well. Banks, benefiting from rising interest rates, also slightly outperformed the indices. In this risk-averse environment, small and mid-caps were particularly affected, with only the large defensive caps limiting their losses. As may appear logical; the absence of a stable trend and the weak influence of news flow and company fundamentals on stock performances, constitute an unfavourable environment for our momentum approach. October will be marked by the announcement of half year results, a period that is usually favourable to our strategy, especially as the stocks in the portfolio continue to see their estimated profits revised upwards.
The full month performance of Digital Stars Europe Acc is -9.5% compared to -6.3% for the MSCI Europe NR and -10.9% for the MSCI Europe Small Cap NR. The main explanation for the monthly underperformance comes from the fund’s underweight in mega-caps, and the necessary exposure to small and mid-caps to identify Stars.
Digital Stars Continental Europe Acc (formerly Digital Stars Europe Ex-UK) ended September at -9.2% compared to -6.2% for the MSCI Europe ex UK NR. Digital Stars Eurozone Acc achieved -8.9% against -6.3% for the MSCI EMU NR.
The September rebalancing has a non-cyclical bias. Food and health care stocks were included, while exposure to basic materials, shipping and semiconductors was reduced. A few banks were also included. Digital Stars Europe is overweight energy (7.8%), basic materials (3.8%), and technology (3.2%). The fund is underweight in healthcare (10.2%), food (4.6%) and consumer discretionary (3.7%). Germany is the largest weighting at 13.3%, ahead of the UK at 13.2% and Norway at 9.6%.
Digital Stars Europe Smaller Companies Acc finished down at -9.9% in September, resisting well the -10.9% drop of the MSCI Europe Small Cap NR. The fund’s relative resilience is mainly due to industrials (PNE, Implenia, BIC) and financials (Jyske Bank, Valiant Holding). Apart from a few standout stocks (TORM, Energean), energy and materials have penalised the fund.
The monthly portfolio reviews focused on strengthening insurance, industry and consumer discretionary. Sales have mainly occurred in food.
The portfolio is still significantly overweight in energy, as well as in utilities, and underweight in real estate, media and finance.
The United Kingdom (the most largely underweight country) is still the largest country weight with 19.3%, ahead of Germany (12.6%). Norway’s weight was reduced to 9.4%, but the country remains the most largely overweight.
Digital Stars US Equities Acc USD finished -6.9% lower in September, ahead of the MSCI USA NR at -9.3% and of the MSCI USA Small Cap NR at -9.5%. The healthcare sector (pharma) held up best in the US equity market, but the portfolio was under-represented. It was mainly a few financial stocks that helped the fund hold up well in the general downturn.
The latest monthly portfolio review strengthened IT, as well as industry, real estate and healthcare. Consumer discretionary has been reduced further (especially retailing), as well as to a lesser extent materials, food and energy.
The portfolio is clearly overweight in industry and banks, and underweight in IT, pharmaceuticals and media.
3 October 2022
Notice is hereby given to you, as shareholders of the Sub-Fund “Digital Funds Stars Europe ex-UK” of the Fund, that the Sub-Fund will be renamed to “Digital Funds Stars Continental Europe” as of 27
This name change will have no impact on the Sub-Fund’s investment policy or its investment process, which remain unchanged.
Furthermore, this name change will have no impact on the ISIN codes, Bloomberg tickers or any other characteristics of the Sub-Fund’s share classes.
After an encouraging rebound for markets in July, equities resumed their downward trend in August. The MSCI Europe NR and the MSCI USA NR gave up -4.9% and -4.0% respectively over the month. Since the beginning of the year, the decline has reached -11.8% in Europe and -17.4% in the US. The sharp drop in global economic momentum, a lack of geopolitical visibility and tightening of monetary policies in an inflationary context are all elements that have led investors to favour a cautious approach. What is likely to dictate the direction of the markets in the coming weeks is the evolution of inflation. In the spring, central bankers started a race against the clock to contain the contagion effects of inflation, which at this stage is still mainly caused by the rise in commodity and energy prices, a phenomenon that is exogenous in nature. If this race against time is won, we can expect central banks to adopt a more accommodating monetary policy again, perhaps as early as 2023, which would benefit equity markets that are highly undervalued compared to their historical standards, especially in Europe.
The financial markets continued to rebound in early August with little volatility. But the Fed’s determination to fight inflation at all costs led to a violent correction from mid-August onwards. Digital funds ended the month down but resisted well relative to their benchmarks. The overweight in the energy sector and the continuation of half-year corporate earnings announcements explain this slight outperformance. The portfolios benefited from numerous announcements that exceeded expectations (u-blox Holding, Glanbia Plc, TORM PLC, OCI NV, etc.).
The full month performance of Digital Stars Europe Acc is -4.5%, compared to -4.9% for the MSCI Europe NR. Digital Stars Europe Ex-UK Acc ended August at -4.3% compared to -5.1% for the MSCI Europe ex UK NR. Digital Stars Eurozone Acc achieved -5.9% against -5% for the MSCI EMU NR.
Rebalancing in August increased exposure to the energy sector but lowered exposure to basic materials. We are also integrating some more defensive stocks in food, telecoms and cosmetics. We are selling mostly cyclical stocks in the industrial and basic materials sectors.
Digital Stars Europe is overweight energy, basic materials and technology. The overweight in energy is 7.3%. The fund is underweight in healthcare and food. The UK remains the largest weighting at 15%, ahead of Germany at 12.1% and Norway at 10.3%.
Digital Stars Europe Smaller Companies Acc finished down at -4.6% in August, resisting well the -6.9% drop of the MSCI Europe Small Cap NR. The outperformance was due to the overweighting of the energy sector, the only positive sector in the month, and to the good results published by some companies. An underweight position in financials negatively impacted the fund.
The monthly portfolio reviews focused on strengthening pharma, consumer cyclicals and energy. Sales were mainly in technology and materials (mainly metals).
The portfolio is still significantly overweight in energy, as well as in utilities, and underweight in real estate, finance and industry.
The United Kingdom (the most largely underweight country) is the largest country weight with 20.8%, ahead of Norway with 13.9% (the most largely overweight country).
Digital Stars US Equities Acc USD finished -2.7% lower in August, ahead of the MSCI USA NR at -4.0% and in line with the MSCI USA Small Cap NR at -2.6%. The underweight in technology benefited the fund in relative terms, as did the strong performance of consumer discretionary stocks, particularly in retail.
The latest monthly portfolio review strengthened energy and industry, as well as communication services. Consumer discretionary has been heavily reduced (especially retailing), as well as to a lesser extent chemicals and pharmaceuticals.
The portfolio is clearly overweight in banks and industry, and underweight in IT, pharmaceuticals and media.
The second half of the year is kicking off with a bang for equity investors (Stoxx 600 NR +6.1%, S&P 500 NR +9.2%) and this contrasts with the trend observed during the first half of the year. The month of July thus marks a break for the financial markets. Equities are rising, interest rates are falling, as are commodity and energy prices. A shift can also be seen within the major stock styles. Growth, for example, has put an end to a long sequence of declining multiples, ranking first among the styles over the month thanks to the rebound of technology, luxury and retail stocks. Conversely, Value, after underperforming in June, underperformed again in July, hurt by the relatively poor performance of the financials, telecoms and mining sectors, but remains so far the best style since the beginning of the year.
The financial markets continued to fall at the beginning of July, with fears oscillating between recession and inflation. They then rebounded strongly from 5 July, buoyed by the stimulus measures in China, the fall in interest rates and, above all, the announcements of half-yearly company results. These announcements refocused investors’ attention on company news flow and fundamentals. The environment then became much more favourable for Digital Stars funds. After losing 3.3% over the first 5 days of July, Digital Stars Europe has rebounded by 13.4% since 5 July and ended the month 2.1% ahead of its benchmark. Portfolios benefited from numerous announcements that exceeded expectations (Hapag Lloyd, Truecaller, Hexatronic, Norske Skog, Elkem, Sartorius Stedim, etc.). Industrials (mainly shipping) and technology were our big winners of the month, while financials were negatively impacted by the announcement of a super-tax in Spain and political uncertainty in Italy. The full month performance of Digital Stars Europe Acc is +9.7%, compared to +7.6% for the MSCI Europe NR. Digital Stars Europe Ex-UK Acc ended July at +9.1% compared to +8% for the MSCI Europe ex UK NR. Digital Stars Eurozone Acc achieved +7.5% against +7.3% for the MSCI EMU NR.
Rebalances in July were diversified. They are more influenced by company news flow than by sector trends. They mainly included stocks in the renewable energy, healthcare, food, telecom and technology sectors. We are selling mostly cyclical stocks in the industrial, basic materials and financial sectors.
Digital Stars Europe is overweight basic materials, energy and technology. The overweight in basic materials is again lowered to 6.5%. The fund is underweight food and healthcare. The UK remains the largest country weight at 15.7%, ahead of Germany at 12% and Norway at 9.8%.
Digital Stars Europe Smaller Companies Acc ended up at +10.8% in July, ahead of the MSCI Europe Small Cap NR at +9.8%. The rebound initiated on July 5th has been driven by earnings announcements (Hexatronic, Norske Skog, Incap, Hanza). The fund was supported by the good performance of transportation and technology.
The monthly portfolio reviews focused on strengthening renewables (industrials and utilities), as well as healthcare and consumer discretionary. Sales were mainly in financials and materials (primarily metals), as well as technology.
The portfolio is still significantly overweight in energy, as well as in utilities, and underweight in real estate, industry and finance.
The United Kingdom (the most largely underweight country) is the largest country weight with 21.5%, ahead of Norway with 14.6% (the most largely overweight country).
Digital Stars US Equities Acc USD ended up +11.0% in July, ahead of the MSCI USA NR at +9.3% and the MSCI USA Small Cap NR at +10.6%. The fund’s performance was driven by technology (particularly semiconductors), construction-related industries (construction, materials, materials wholesalers, timber, etc.), and medical services. Insurance and specialty retailers suffered.
The latest monthly portfolio review strengthened finance, energy and industry, as well as consumer goods. Technology has been heavily reduced (especially semiconductors), as have materials and real estate.
The portfolio is overweight in banks, industry, and consumer discretionary, and underweight in IT, pharma and media.
19 July 2022
After the French Label ISR in March, Digital Stars Eurozone fund has been granted the Belgian « Towards Sustainability » label. This second sustainability label is a further recognition of Chahine Capital’s sustainable investment approach and its concrete achievements.
Delivered for a renewable period of one year, the « Towards Sustainability » label was developed by Febelfin, the Belgian federation of financial institutions, in collaboration with financial sector stakeholders and independent experts. The label has three requirements:
– ESG (environmental, social and governance) analysis on all portfolios;
– Exclusions with low thresholds, not only on coal but also on non-conventional fossil fuels.
Equity indices closed the final month of the first half of the year with a sharp decline (MSCI Europe NR -7.7%, MSCI USA NR -8.3%). Concerns about economic growth led investors to adopt a cautious stance. To counter inflation, which is no longer transitory, central banks have started a race against the clock. They are sharply raising interest rates and tightening monetary policy in order to slow down activity and bring down the price of energy and commodities, which are still the main contributors to price increases at this stage. The CRB All Commodities index thus dropped -5.2% in June, its biggest monthly decline since March 2020 and the Covid crash and allowed inflation expectations to ease sharply. The monetary tightening could be only temporary and a return to a more « Dovish » policy, as early as 2023, should not be excluded. Such a scenario would be favourable for equities in a medium/long-term perspective, while the technical secular supports (2000 and 2007 highs in Europe) remain valid, and valuation is attractive ahead of the Q2 quarterly publications.
Investors’ fears fluctuated between inflation, tightening monetary policy and a possible future recession. In this environment of strong risk aversion, cyclical stocks, including commodities and energy, which had benefited from positive momentum following the invasion of Ukraine and were well represented in our portfolios, suffered particularly badly, which means a new trend break for the year 2022. Only the defensive large caps limited their losses. The absence of a stable trend, the weak influence of news flow and company fundamentals on stock performances, logically constitute an unfavourable environment for our momentum approach. July will be marked by the announcement of half year results, a period that is usually favourable to our strategy, especially as the stocks in the portfolio continue to see their estimated profits revised upwards. The full month performance of Digital Stars Europe Acc is -13%, compared to -7.7% for the MSCI Europe NR. Digital Stars Europe Ex-UK Acc ended June at -13.6% compared to -8.2% for the MSCI Europe ex UK NR. Digital Stars Eurozone Acc achieved -9.9% against -9.2% for the MSCI EMU NR.
Influenced by the current risk aversion, the June rebalancing mainly included defensive stocks in the healthcare, food and telecoms sectors, but also some financials and energy stocks. We are selling mostly cyclical stocks in the industrial and technology sectors.
Digital Stars Europe is overweight basic materials, industrials, technology and energy. The overweight in basic materials is slightly lowered to 8%. The fund is underweight food and healthcare. The UK remains the largest country weight at 13.1%, ahead of Germany at 12.4% and France at 10.4%.
Digital Stars Europe Smaller Companies Acc ended down at -9.8% in June, but held up well against the sharp fall of small caps (MSCI Europe Small Cap NR at -11.8%). The drop came mainly from materials and industry (transportation). The relative strength of utilities, semiconductors and retail helped the fund, as did strong M&A activity during the month.
The monthly portfolio reviews focused on increasing the food, materials, utilities and media. Sales occurred mainly in technology, financials and industrials.
The portfolio is significantly overweight in energy, as well as in materials and utilities, and underweight in industry and real estate, as well as in health care.
The United Kingdom (the most largely underweight country) is the largest country weight with 21.6%, ahead of Norway with 14.8% (the most largely overweight country).
Digital Stars US Equities Acc USD ended down -9.6% in June, behind the MSCI USA NR at -8.3% and the MSCI USA Small Cap NR at -9.1%. The fund was particularly affected by some industrials, semiconductors, and construction-related stocks (construction, materials, materials wholesalers, timber, etc.). The financial sector performed well in relative terms.
The latest monthly portfolio review was quite defensive in nature, strengthening consumer staples and health care, and decreasing consumer discretionary (retailing) and industry.
The portfolio is overweight in banks, consumer discretionary and industry, and underweight in pharma and media.
10 June 2022
Whether in terms of sanctions, the downturn in international trade or supply shortages, the war in Ukraine is proving costly for the world economy. International economic organisations are starting to get a handle on its precise impact. According to the OECD, the war will trim 1.1 points from the world’s real GDP growth rate this year, to 3.4%. The IMF is on much the same page, having cut its own projection for 2022 by 80bp since January (i.e. since just before the invasion), leaving it at 3.6%. The FactSet consensus splits the difference at 3.5%.
The instability of energy and commodity prices stemming from the triple conjunction of Covid, war in Ukraine and climate change has hardly bypassed emerging countries. Albeit to different degrees, their inflation rates have risen: apart from Russia, which is of course a special case, Brazil and India have been the emerging bloc’s biggest casualties in this respect. Brazilian consumer prices increased by 12.1% in the year to April, compared with a 2022 inflation target of 3.75%. In India, inflation amounted to 7.8% over the same period and is also above its target (4%, with tolerance of 2% either side).
In contrast, Chinese inflation is far tamer. At 2.1% in the year to April, it is still below its target of around 3%. For the reasons we explained in an earlier edition of this strategy letter, China is largely immune from inflationary pressure. Given the authorities’ ‘Zero Covid’ strategy, the unplanned slowdown in economic activity will have serious implications, however. China’s main business sectors are suffering (and could well continue to suffer in the months ahead, thanks to their inertia) a significant downturn: in May, the manufacturing PMI dropped to 46, and the sector contributed 39.4% of Chinese GDP in 2021. More alarmingly still, the PMI for the services sector (53.2% of GDP in 2021) slumped to 36.2.
Against this backdrop, we should not be surprised to have seen emerging market equities underperforming badly since the beginning of March (down 8.4%, compared with a 4% correction for US equities and a 0.6% gain in local currency terms For the European market). Although the partial removal of Covid-related restrictions could bolster Asian equities, the international situation continues to fuel our preference for developed country equities, especially in Europe.
On the corporate front, with 97% of S&P 500 firms now having published their Q1 results, we can now be more bullish on the numbers we reported last month and can confirm the positive trends we saw at the beginning of this results season. Momentum behind positive revisions persists, with a high proportion of positive surprises (77%, compared with 80% in our previous letter), and S&P 500 earnings growth is still an impressive 9.2%. But then the magnitude of surprises is fading: reporting firms have published earnings 4.7% higher than analysts were expecting at the end of March (they were looking for a 4.6% increase in aggregate S&P 500 earnings at the end of the first quarter).
Despite less upbeat projections for Q2, analysts are still largely positive and forecast earnings growth of no less than 10% for 2022 as a whole.
Nearly two and a half years after the discovery of the Coronavirus, we continue to observe a rare succession of major economic, monetary, geopolitical and health events, and this seems to have accelerated over the past year. On the health front, the Delta and Omicron variants have forced governments to implement the largest vaccination campaigns in history, and, in the case of China, to recently re-confine 300 million people. The war in Ukraine is emerging as one of the most important geopolitical events of the post-war era. Finally, powerful reflation, fueled by exogenous health and military shocks, is pushing central banks to adjust their accommodating monetary policies. In this unstable environment and lacking short-term visibility, equities gave up -0.8% in Europe in May (MSCI Europe NR). However, the earnings revisions by the analysts’ consensus continue to be well oriented (EPS 2022 MSCI Europe raised by +9.2% since the beginning of the year). The fundamental situation therefore remains favourable. The risk premium for the European market stands at +6.5%, well above the historical average of +5.0%.
Financial markets fell in early May. After Shanghai, new anti-covid measures were implemented in Beijing. The resulting negative impact of these lockdowns on global growth strongly affected Basic Materials stocks, one of the main overweights in our portfolios. The technology sector also corrected. Reassuring macro-economic figures in the US (industrial production, consumption) initiated a rebound that continued in line with the gradual lifting of the lockdown in Shanghai. The Digital Stars funds suffered in the first days of May before recovering. Digital Stars Europe Acc posted a month to date performance of -8.8% on 12 May, compared with -5.3% for the MSCI Europe NR. It then rebounded stronger than the index (+5.9% compared to +4.7% since 12 May), recovering part of the relative drawdown. The full month performance of Digital Stars Europe Acc is -3.4%, compared to -0.8% for the MSCI Europe NR. Digital Stars Europe Ex-UK Acc ended May at -2.8% compared to -1.1% for the MSCI Europe ex UK NR. Digital Stars Eurozone Acc achieved -1.6% against 0.6% for the MSCI EMU NR.
With oil prices still at their highest, the May rebalancing again included Energy and Paper Pulp stocks, but also Financials and Healthcare stocks. We are mainly selling “growth” stocks in the industrial sectors and real estate companies, which are suffering from higher interest rates.
Digital Stars Europe remains overweight in Basic Materials, Industrials, and Technology and is becoming overweight Energy. The overweight in commodities remains close to 9%. The fund is underweight in Food and Healthcare. The UK remains the largest weight at 14.7%, which is a clear underweight, ahead of Germany at 14.5% and Norway at 11.3%.
Digital Stars Europe Smaller Companies Acc ended down at -2.7% in May, behind the MSCI Europe Small Cap NR at -1.7%. The German government’s criticisms on biofuels affected VERBIO, preventing the fund from taking full advantage of the good performance of the energy sector. Some positive publications by companies in renewable energy, technology, finance and materials sectors benefited the fund.
The monthly portfolio reviews focused on materials, as well as healthcare, energy and industrials. Most of the sales concerned banks, and to a lesser extent consumer discretionary, software and food.
The portfolio is significantly overweight in energy and technology, and underweight in real estate and industrials.
The United Kingdom (the most largely underweight country) is the largest country weight with 19.1%, ahead of Norway with 17.5% (the most largely overweight country).
Despite a turbulent US market in May Digital Stars US Equities Acc USD ended the month flat, in line with the MSCI USA NR at -0.3% and the MSCI USA Small Cap NR at +0.1%. The energy sector was the best performer, but the fund benefited most from technology, particularly semiconductors. Conversely, real estate was a major detractor for the fund.
The latest monthly portfolio review strengthened technology, materials, industrials and consumer discretionary, and reduced financials, healthcare and energy.
The portfolio is overweight in industrials, retail and banks, and underweight in pharma, media and technology.
Inflation is reaching record levels, interest rates are tightening, war is taking hold in Europe and 180 million Chinese are being confined, meanwhile, the MSCI Europe NR index has only lost -5.9% in the first 4 months, including -0.6% in April, and is far more resilient than the bond indices. The headwinds are numerous and logically weigh on the psychology of investors. The temptation to be puzzled is great in such a context, which is why we feel it is important to share the main elements and signals that can be extracted from our « Top-Down » analysis. Our Economic Momentum indicator has fallen in 3 months from 61 (out of 100) to 42. The consensus of economists now expects GDP growth in the Eurozone to be +2.9% in 2022, compared to +4.4% 6 months ago. Q1 growth was +0.2%, and still signals an expansion. The recession is only materializing at this stage in the collapse of the sentiment indicators, which are approaching their historical lows. The Zew Expectation Eurozone is close to the levels of October 2008, November 2011 and March 2020, all good entry dates for investors. Despite the pressure on long-term interest rates, the risk premium on the European equity market remains intact. The decline in indices, coupled with expected earnings growth of +11.6% in 2022 has compensated. Thus, the risk premium of the STOXX Europe 600 index stands at +6.5%, a generous level compared to the average since 2000 of 5.0%. It should also be noted that the 2022 Earnings Momentum remains surprisingly well oriented. Finally, the behavioural dynamics are deteriorating as the major international indices broke through their 200-day moving averages in April. However, the strength of the major European indexes’ support (2000 and 2007 highs), which was tested in early March before triggering a powerful rebound, is a positive signal for the medium/long term.
Relatively stable at the beginning of April, the financial markets fell violently at the end of the month due to the escalation of the Ukrainian conflict, the lack of prospects for a diplomatic agreement, but also the lockdowns in China following the rise in Covid cases. The expected negative impact of these lockdowns on global growth notably halted the rise in energy and basic materials stocks. Digital Stars funds ended April lower. Growth stocks, technology (especially semiconductors) and industrials were among the worst contributors this month. Defensive stocks (telecoms, food, utilities) are the winners. The monthly performance of Digital Stars Europe Acc is -2.3%, compared to -0.6% for the MSCI Europe NR. Digital Stars Europe Ex-UK Acc ended April at -3.0% compared to -1.3% for the MSCI Europe ex UK NR. Digital Stars Eurozone Acc achieved -3.0% against -1.9% for the MSCI EMU NR.
The rebalancing in April was influenced by the conflict in Ukraine and the lockdowns in China. The model therefore mainly included Basic Materials and Energy stocks in the middle of the month, but moved towards more defensive stocks (Telecoms, Healthcare, Utilities) at the end of the month. We are selling cyclical stocks in the industrial, semiconductor and financial sectors.
Digital Stars Europe remains overweight in Basic Materials, Industrials, Technology and Financials. The overweight in Basic Materials increases, again, to 9%. The fund is underweight in Food and Healthcare. The UK remains the largest weighting at 15.3%, ahead of Germany at 14.8% and Sweden at 10.9%.
Digital Stars Europe Smaller Companies Acc ended down at -2.5% in April, slightly behind the MSCI Europe Small Cap NR at -1.9%. Three sectors stood out in terms of performance: materials (K+S, Elkem), utilities (Telecom Plus) and food (Grieg Seafood, Tate & Lyle). Healthcare equipment (Medartis, Ypsomed), technology and transport (MPC Container Ships, Wallenius Wilhelmsen) were the most affected.
The monthly portfolio reviews focused on energy and financials, as well as materials and utilities. Most of the sales were in technology and industrials, and to a lesser extent in healthcare and consumer staples.
The portfolio is significantly overweight in energy and technology, and underweight in industrials, as well as in real estate, healthcare and media. The United Kingdom (the most largely underweight country) is the largest country weight with 19.9%, ahead of Norway with 14.3% (the most largely overweight country).
Digital Stars US Equities Acc USD ended April down -8.9%, vs. -9.1% for the MSCI USA NR, and -8.4% for the MSCI USA Small Cap NR. Despite this general downturn, retailing recovered partially in the fund, allowing it to mitigate the impact. Some stocks in the sector even finished the month positive (AutoNation, Penske Automotive, MarineMax). The sharp decline in semiconductors pushed some of its stocks out of the portfolio (Alpha & Omega, Synaptics).
The latest monthly portfolio review strengthened energy, materials and real estate, and reduced financials, consumer discretionary, media and healthcare.
The portfolio is still overweight in banks, industrials and retailing, and underweight in media, technology (software) and pharmaceuticals.
10 May 2022
The US consumer price index rose 8.6% in the year to March, or 6.5% excluding food and energy. We have to go back to the oil shocks of 1973 and 1979 for anything comparable. Even in 2008, during the subprime crisis and when some commentators were talking of a third oil shock – crude prices were close to $150/bbl at the time, compared with around $105/bbl for WTI at the moment – US inflation got to only 5.5% in mid-year before falling back sharply. Moreover, the core inflation rate never exceeded 3% at the time, i.e. half the level it is now. Inflationary pressure is far greater today and implies a complete change of direction for a Federal Reserve that is already threatening higher interest rates.
The Covid pandemic raised both commodity prices and unit wage costs, the former because of China’s rapid economic recovery (down to the initial success of its zero-Covid strategy) and the latter because of the adaptation of production methods to measures such as home working and social distancing. We would normally have expected inflation to pick up and then firmly establish itself, but initially at least this is not what happened. The reason was an improvement in US labour productivity: in 2020, GDP per hour worked rose by 2.6% year-on-year despite the pandemic. Apart from remaining relatively tame until the spring of 2021, inflation therefore looked pretty transitory, deceiving both commentators and the experts…
The recent inversion of the US yield curve leaves little room for doubt. The markets no longer believe in a temporary blip in inflation but a rapidly worsening situation. Quite rightly, they expect the Fed to tighten its monetary policy significantly, which will probably nudge the economy towards recession. Fed Chair Jerome Powell is clearly on that wavelength, as he announced a 50bp rate hike in May from the 0.5% set in mid-March. Another hike of the same magnitude was also under consideration. Although the Fed has long sought to guide economic agents through commentary and half-measures, there can be no mistaking its mood. It has almost certainly switched track in response to a poorly calibrated fiscal policy.
The Q1 2022 results season is under way, with 55% of the S&P 500 companies already published. As expected, the numbers contrast with the stratospheric profits gains announced in 2021. S&P 500 earnings are now expected up 7.1% for the quarter, which would be the smallest increase since Q4 2020. Even so, there is still momentum behind positive revisions : the FactSet consensus at end-March was just 4.7%, and at 80% the proportion of positive surprises remains very high. It is simply that the magnitude of surprises is much smaller.
Taken as a whole, 2021 saw a 47.7% increase in S&P 500 profits! As the index itself appreciated ‘only’ 26.9%, this severely dented the exorbitant multiples that we saw the year before. The decline in equity prices this year has only amplified this phenomenon. The S&P 500 has corrected 13.3% since the start of the year, reflecting investors’ fears over the risks to US economic activity, surging prices and on top of it all the war in Ukraine and its impact on raw materials. Highly sensitive to interest rates, tech shares have lost even more ground: the Nasdaq is down 21.2% since the start of the year. Multiples have effectively normalised and are back to their pre-crisis levels irrespective of the calculation method (i.e. based on results published over the past 12 months or using consensus forecasts for the future).
6 May 2022
Chahine Capital, a European pioneer in quantitative equity Momentum strategies, has been granted this year more than a dozen of Refinitiv Lipper Fund Awards, one of the most prestigious
awards in the fund management industry.
Chahine Capital was granted the Best Group over 3 years award in the Equity Small Company category in five geographical areas: Europe, Austria, Germany, Switzerland and the UK.
Source of the picture: https://www.refinitiv.com/perspectives/market-insights/celebrating-the-lipper-fund-awards-2022-winners/
6 April 2022
The war between Russian and Ukraine has overshadowed a major financial development since the start of the year: the decision on the part of several major central banks to adopt a significantly less accommodating monetary policy. Following a 25 basis-point hike by the Bank of England on 3 February, from 0.25% to 0.5%, the Federal Reserve did exactly the same thing (and to the same level) in mid-March. Fed Chairman Jerome Powell said on that occasion that future hikes could be bigger and that the Fed would intervene as often as necessary, as the origins of US inflation were endogenous enough to trigger higher interest rates.
In the meantime, the war in Ukraine has fundamentally altered the nature of inflation in continental Europe. We have shifted abruptly from expensive energy (cyclical inflation) to energy scarcity (structural inflation), reflecting the fact that we will lose Russian supply in the short and medium term at least. We recall that Russian oil and gas accounts for 16% and 19%, respectively, of EU consumption. The European Central Bank’s 2% inflation target has already been overshot for the past nine months, precisely because of higher energy prices. Year-on-year consumer price inflation hit 5.9% in February and the problem is bound to worsen. The ECB’s own scenarios give us inflation rates of between 5.1% and 7.1% for 2022 as a whole and it has reduced its eurozone growth forecast for this year from 4.2% to 3.7%. Given that the war appears to be nowhere near ending, growth forecasts will inevitably be reduced further in the months ahead.
At the same time, divergent central bank approaches will have a real impact on the currency markets, injecting more volatility to international asset prices.
The best example is that of Japan, where the yen has depreciated 6% since the start of the year and 17% since the beginning of 2021, leaving it at its lows of 2015 and 2007. The reason is evident: the Bank of Japan’s clear desire to persist with unconditional support for the economy in general and government in particular via market intervention and extremely low interest rates. The resulting interest-rate differential with respect to other currencies has pushed international investors out of yen and into the UK, for example, and especially the USA. Both have made tackling inflation a priority and have unambiguously initiated tightening cycles.
At micro level, the American Q4 2021 results season ended on a strong note. S&P 500 earnings per share increased 31.5% over the year before, compared with a consensus forecast at end-December of 21.2% (source: FactSet). This made it the fourth consecutive quarter of 30%-plus earnings growth, a phenomenon that we have not seen since Q3 2010. That said, Q4 2021 saw the consensus outstripped by only 8.2% overall, compared with an average 8.6% over the past five years. We believe this signals the end of a trend of large flows of positive surprises over the past few quarters.
Against a backdrop of a widening GDP growth gap between the USA and Europe, with a healthier corporate sector in the former and a more helpful dollar exchange rate, we would argue that conditions have now been met for US equities to outperform their European equivalents once again in the short and medium term.
Equity indices rose in March (MSCI Europe NR +0.8%, MSCI USA NR +3.5%), above their pre-Ukraine invasion levels. The YTD drop in equities has been contained (MSCI Europe NR -5.3%, MSCI USA NR -5.3%) and this may seem surprising in a context where inflation is reaching high levels (+5.9% in the Eurozone, +7.9% in the US), and where a violent military conflict is taking place at the doorstep of Europe. However, a fundamental reading of the context justifies the robustness of the equity indices, which have proved to be much more resilient than the bond indices YTD. Global GDP growth should be around +3% according to economists’ forecasts, vs. +4% at the beginning of the year. At the same time, 2022 earnings expectations have been steadily revised upwards. In the US, the S&P 500 2022 EPS has been raised by +1.6% YTD, including +1.0% in March. In Europe, the expected 2022 EPS for the STOXX Europe 600 has risen by +7.0% YTD and +1.8% in March. This is due to the excessive conservative stance of analysts at the beginning of the year, but also to the significant increase in expectations in some sectors such as energy, mining and industrials. Earnings growth for 2022 stands at +9.5% on both sides of the Atlantic, and the equity risk premium remains attractive, despite the rate hike observed in March (+6.6% in Europe, vs. 5% historical average).
Although the war in Ukraine led to a violent correction in the equity markets in the first week of March, they then rebounded strongly on hopes of progress in the negotiations and a diplomatic way out. After two negative months, the Digital Stars funds ended the month up and outperformed their benchmarks, driven by the basic materials and energy sectors, which are more present in the portfolio. Growth stocks in technology (especially semiconductors), healthcare and industrials also rebounded, recovering some of the excesses of the market downturn, even as bond yields rose. The monthly performance of Digital Stars Europe Acc is +2%, compared to +0.8% for the MSCI Europe NR. Digital Stars Europe Ex-UK Acc ended March at +2.7% compared to +0.8% for the MSCI Europe ex UK NR.
Digital Stars Eurozone Acc achieved +1.7% against -0.7% for the MSCI EMU NR. This fund, which applies a reinforced ESG policy, obtained the French SRI label in March.
The rebalancing carried out in March were again influenced by the conflict in Ukraine. The model has therefore mainly included basic materials and energy stocks and to a lesser extent defensive stocks (food and telecoms). We are selling healthcare stocks, as COVID is no longer a major concern for investors, as well as some financials exposed to the Ukrainian crisis.
Digital Stars Europe remains overweight in Industrials, Basic Materials, Technology and Financials. The overweight in Basic Materials increases to 6%. The fund is underweight in Food and Utilities. The UK remains the largest weighting at 15.5%, but has been reduced; ahead of Germany at 14.8% and Sweden, up to 11.7%.
Digital Stars Europe Smaller Companies Acc ended up at +3.9% in March, significantly outperforming the MSCI Europe Small Cap NR at +0.7%. Most of the stocks in the portfolio performed well, in particular thanks to earnings publications. Unsurprisingly, energy, which is well represented in the fund, was the leading sector over the month. Technology stocks also performed remarkably well.
The latest monthly portfolio reviews have strengthened energy, as well as materials and utilities. IT and industry stocks were significantly reduced, as well as healthcare and finance.
The portfolio is significantly overweight in technology and energy, and underweight in industrials, real estate and media. The United Kingdom (biggest underweight) is the largest weight with 18.7%, ahead of Norway with 13.3% which became the biggest country bet following the energy push.
Digital Stars US Equities Acc USD ended March down -2.1%, significantly underperforming the MSCI USA NR at +3.5%, and the MSCI USA Small Cap NR at +1.2%. The performance of the US market was driven by the energy and utilities sectors, both absent of the fund. And our worst sector contributions are mainly among our largest overweights, such as specialty retailing, or construction/homebuilding, or banks.
The latest monthly portfolio review strengthened consumer discretionary, materials and media, and reduced industrials and financials.
The portfolio is still overweight in banks, consumer discretionary and industrials, and underweight in technology (software), media and pharmaceuticals. Energy companies remain under-represented due to the widespread use among them of unconventional extraction techniques, which is prohibited as a result of the Socially Responsible Investing criteria of the fund.
The beginning of 2022 will long remain engraved in our memories. It is indeed rare that such a succession of events can be observed during such a short period. While January saw yields rise sharply in anticipation of monetary normalisation, causing the second most powerful style rotation (in favour of value) observed since 2003, the Russian invasion of Ukraine suddenly reshuffled the deck. Against this backdrop, equity indices fell (MSCI Europe NR -3.0%, MSCI USA NR -3.0%) and the rotation in favour of cyclical sectors was interrupted. Even if it is risky to anticipate the evolution of the conflict at this stage, it is important to take stock of the fundamental situation of the indices in the event that an exit door is found. The risk premium on European equities stands at 6.9%, a very generous level compared to the 20-year historical average of 5.0%. Furthermore, central banks are now obliged to postpone monetary normalisation and the 0.50% easing in the German 2-year yield shows that investors are not mistaken. Finally, important decennial technical supports such as the 2000 and 2007 highs in Europe are now very close, which in theory argues for a strengthening of the asset class at these levels in a medium/long term perspective.
In this difficult environment, Digital Stars funds ended February 2022 down. As bond yields continued to rise at the beginning of the month, growth stocks suffered again. The Russian invasion of Ukraine had a negative impact on the financial and industrial sectors, while the energy and commodities sectors surged. Interest rates then fell sharply at the end of the month.
The monthly performance of Digital Stars Europe Acc is -5.2%, compared to -3% for the MSCI Europe NR. The relative drawdown of the fund is similar to what it experienced in 2014 and 2018. More generally, in the 23-year history of Digital Stars Europe, each rolling 5-year period has seen such a short term relative drawdown. The fund has then adjusted and closed the gap, strictly following the quantitative model. Digital Stars Europe Ex-UK Acc ended February at -5.4% compared to -4.1% for the MSCI Europe ex UK NR. Digital Stars Eurozone Acc achieved -6.5% against -5.2% for the MSCI EMU NR.
The rebalancing carried out in in February was heavily influenced by the sector rotation in January and the crisis in Ukraine. The strongest momentums were the stocks that passed these two periods favourably. The model has therefore mainly included basic materials stocks and to a lesser extent utilities and defensive stocks (food, telecoms). We continue to exit growth stocks and have stopped the integration of financials, which were badly impacted by the Ukrainian crisis.
Digital Stars Europe remains overweight in Industrials, Technology and Financials and is now overweight in Basic Materials, where exposure is up 3.2%. The fund is underweight in Food and Utilities. The UK remains the largest weighting at 18.7%, ahead of Germany at 13.4% and Italy at 12.2%.
Digital Stars Europe Smaller Companies Acc ended down at -3.5% in February, slightly outperforming the MSCI Europe Small Cap NR at -3.9%. Unsurprisingly, energy, which is well represented in the fund, posted the best performance over the month.
The latest monthly portfolio review has strengthened banks, as well as materials and food. Healthcare and industry were significantly reduced (especially in Sweden), as well as media, leisure and IT.
The portfolio is significantly overweight in technology and underweight in real estate and media. The United Kingdom (biggest underweight) is the largest weight with 19.2%, ahead of Italy (very underweighted) with 13.2%.
Digital Stars US Equities Acc USD ended February down -1.1%, significantly outperforming the MSCI USA NR at -3.0%, but lagging the MSCI USA Small Cap NR at -1.0%. The biggest contributors were among healthcare and industrial stocks. But it was technology that increased the positive difference with the market, notably through semiconductors and software.
The latest monthly portfolio review significantly strengthened banking, and reduced retail distribution.
The portfolio is now mainly overweight in banking, industrials (transport) and consumer discretionary, and underweight in technology, media and healthcare. Energy companies remain under-represented due to the widespread use among them of unconventional extraction, which is prohibited as a result of the Socially Responsible Investing criteria of the fund.
With a reported 8.1% increase in real GDP in 2021, China’s economic growth is the envy of almost all developed countries. But this figure is not all that it seems. Activity slowed markedly late in the year, resulting in growth of just 4%; excluding the period of the pandemic, this was the smallest gain for some decades. Does this matter? Yes and no. On closer examination, the final months of 2021 were pretty much in line with the country’s long-term growth trend, meaning a gradual deceleration since the start of the 2010s that reflects inevitable convergence with growth rates in other major economies. But then the problem of a structural decline in the potential growth rate should not be confused with several short-term risks, which although more cyclical in nature are not to be underestimated: burgeoning private sector debt (the woes of the property sector are a perfect illustration of what this can mean), widespread social unrest and the brutal reassertion of political control over economic life.
China’s private sector debt bubble is the main cause of global economic uncertainty at the moment, as any collapse could the country’s material progress and kick off a domino effect worldwide. The figures certainly make for sobering reading. Official data show that Chinese corporate debt amounted to 139.1% of GDP in 2020, and given the opacity of the national financial system it seems likely that the real number is rather higher.
2022 will see a decoupling of Western from Chinese monetary policies. China has no need to tackle inflation, unlike the USA and euro zone (although strong price pressures in the American economy are still not our baseline scenario). It will therefore favour lower interest rates to bolster domestic activity, which is the precise opposite of what the Federal Reserve wants to do.
Given China’s structural challenges, we will continue to favour Western assets this year. Asian equities underperformed badly last year, correcting 35% between February and year-end; although that should be less marked in 2022 – a number of negative factors have already been priced in – poor visibility on Chinese markets leaves their risk-return profiles less attractive than they are in the West.
Although earnings growth prospects for Q4 2021 were considerably weaker than in preceding quarters, the results season that started in mid-January has been impressive. With a little more than a third of S&P 500 companies having announced their figures at the time of writing, index EPS is expected to be 24.3% for the quarter, compared with an estimate of 21.4% at the end of December. Moreover, 78% of the companies that have reported their results came with positive surprises, just ahead of the average for the past five years (76%). On the other hand, the consensus aggregate estimate is being beaten by ‘only’ 4% at the moment, compared with an average 8.6% (!) over the past five years. In short, the rate at which earnings figures are being adjusted reveals less optimism than has been evident for many quarters.
Our valuation model suggests that US equities are now slightly undervalued, and a 7-8% rise is conceivable under both of our two scenarios. In our view, Wall Street could recover its previous highs but are unlikely to stage a sustained rally. They are more likely to trade sideways, offering scope for stock-picking strategies capable of generating alpha. In the euro zone, our model indicates that equities are undervalued, and just how much depends on where interest rates go (in the event of a slow recovery, they would inevitably tend towards zero). Appreciation potential is slightly greater than that for US equities, at around 12-15% in all our scenarios. We therefore continue to overweight European markets against Wall Street.
4 February 2022
– Market forecast – what do we expect to see in the markets this year?
– How does Chahine Capital respond to crises like a new coronavirus?
– What should our investor think of as a momentum strategy?
– What is special about your model in terms of market adjustment/flexibility?
– U.S. fund strategy – what sector weightings does Chahine Capital think are promising this year?
– Which sectors are the biggest key drivers in the Digital Funds Stars US Equities?
Discover the podcast of Aymar de Léotoing, portfolio manager.
Equity indices are entering 2022 with a first month of decline and a resurgence of volatility (MSCI Europe NR -3.2%, MSCI USA NR -5.7%). This is in stark contrast to 2021. In the United States, we have to go back to the “Covid crash” of March 2020 to find any trace of such a monthly underperformance of the equity indices. At the same time, significant sector and style performance differentials were observed on both sides of the Atlantic, extending the rotation in favour of Value that began last September. In Europe, the monthly performance spread between the “Visibility/Quality” style and the “Value” style is 14.5%. Since 2003, only the month of November 2020, when the vaccines were discovered, had revealed such a discrepancy according to our proprietary style indices. This rotation is justified by the awareness of the non-transitory nature of inflation and the now less accommodative stance of the Fed, and to a lesser extent the ECB. It also rectifies, albeit only partially, a fundamental configuration in which valuation differences between the various market segments appear excessive in the light of historical observations.
After an exceptional year in 2021 when returns exceeded 30%, Digital funds ended January 2022 with a significant decline. The violent sector rotation had a negative impact on momentum stocks, particularly on technology, med-tech and healthcare equipment companies. High PE and high growth companies in the portfolio suffered from rising interest rates amidst fears of overvaluation, and this was not sufficiently offset by our cyclical stocks. Of course, this is not the first time we have experienced such a downturn due to mean reversion and the fund has historically proven its ability to adapt and recover. As rates stabilised at the end of the month and the earnings announcement period began, we saw some normalisation of the markets. The funds were able to recover a small part of their underperformance during the last week. The monthly performance of Digital Stars Europe Acc is -10.2%, compared to -3.2% for the MSCI Europe NR. Digital Stars Europe Ex-UK Acc ended January at -9.5% compared to -4.8% for the MSCI Europe ex UK NR. Digital Stars Eurozone Acc achieved -8% against -3.5% for the MSCI EMU NR.
While it is difficult to say whether the “value” trend will continue, the impact on momentum signals was strong enough to have an immediate influence on the last rebalancing made in January. The model has almost exclusively included value stocks, mainly financials, and has reduced exposure to the technology and healthcare sectors.
Digital Stars Europe remains overweight in Industrials and Technology (despite lower exposure), and becomes overweight in Financials, where exposure is up 4%. The fund is underweight in Food and Utilities. The UK remains the largest weighting at 19.5%, followed by Italy at 12.7% and Germany at 11.5%.
Digital Stars Europe Smaller Companies Acc ended down at -12.1% in January, underperforming the MSCI Europe Small Cap NR at -6.8%. The ongoing style rotation particularly affected technology and healthcare stocks. The winning sectors of the month were energy, banking and insurance.
The latest monthly portfolio review has significantly strengthened banks, as well as utilities and food, and significantly reduced healthcare and technology.
The portfolio is significantly overweight in technology and underweight in materials and real estate. Sweden’s weight is reduced to 17.2%, just behind the UK (18.7%), which is still very underweight.
Digital Stars US Equities Acc USD ended January down -13.4%, significantly underperforming the MSCI USA NR at -5.7% and the MSCI USA Small Cap NR at -8.0%. The violent style shift that began at the end of 2021 continued, but in a falling market, to the detriment of cyclical and growth stocks. In particular, our retail/apparel stocks, semiconductors and lending platforms suffered the most from the downturn.
The latest monthly portfolio review significantly strengthened banking, and reduced retail distribution.
The portfolio is now mainly overweight in banking, industrials (transport) and consumer discretionary, and underweight in technology, media and healthcare.
5 January 2022
2021 featured a shift in US monetary policy. All year, the world’s financial markets kept a close watch on Federal Reserve boss Jerome Powell, whose commentary gradually moved in favour of the end of a highly accommodating stance, with asset purchases amounting to $120 billion per month right up to the autumn. But at that point the Fed started to voice concern that at more than 5% year-on-year for some months, inflation could be both higher and more persistent than it first thought. In November, consumer prices were up 6.8% on the year before, while producer prices climbed no less than 13.6% over the same period! Tapering started in Q4 2021 with an initial reduction of around billion per month in asset purchases. That reduction is set to be doubled from this month onwards, which would halt the expansion in the Fed’s balance sheet by the end of Q1 and pave the way to a rise in interest rates… if all goes well.
Eurozone inflation was below its 2% target until the summer of last year, which greatly helped Christine Lagarde’s policy position. But consumer prices started to accelerate significantly from September onwards, generating an inflation rate of 4.8% in November. This may have been the highest level recorded ever since the creation of the European Monetary Union, and producer prices had jumped 21.9% the month before. This situation has left the ECB in a more difficult situation, especially as the Fed had announced a change to its own policy. Even so, Ms Lagarde has remained pretty much unmoved, as retail sales are still sluggish (up 0.9% in the year to October).
In China, problems among real estate developers continue to unnerve economy-watchers. In 2021, investors heavily sanctioned the main listed Chinese groups on the grounds of their excessive debt: the share prices of Evergrande, Kaisa and Shimao slumped by 89.3%, 75.3% and 76.7%, respectively, over the course of the year. These corrections were far greater than those suffered by their benchmark indices: MSCI China dropped 23.5% and the Hang Seng 11.7%. This risk factor is additional to a worsening imbalance in the economy’s fundamentals, where faltering domestic demand contrasts with extremely buoyant international trade.
Fortunately for China, its exports surged 30% last year, which helped offset some of the sluggishness of domestic demand. But this also leaves the country more dependent on good relations with trade partners at a time of strained international politics. It means that Xi Jinping will have the difficult task of perhaps moderating his public utterances on such matters as world leadership and Taiwan if he is to keep China’s economic model on track. If he does opt for sweeter trade relations, it would amount to a fundamental contradiction with the government’s ‘Made in China 2025’ self-sufficiency objective, which sits within its ‘common prosperity’ concept. All in all, Chinese policy begs a number of questions for 2022, and the country’s role as the world economy’s engine of growth for almost 20 years is not nearly as obvious as it was.
At a microeconomic level, 2021 will go down as a great year. Ahead of the Q4 results season, S&P 500 earnings growth for the year is estimated at 45.1%, which would be the highest figure ever recorded since FactSet started publishing this data back in 2008 (the previous record was 39.6% in 2010, just after the subprime crisis). Similarly, S&P firms’ aggregate revenues climbed an estimated 15.8%, compared with the previous high of 10.6% growth in 2011.
Now that Covid-related base effects have disappeared, we are likely to see more normal earnings growth rates this year, with less systematic good surprises. Our valuation model indicates that Wall Street is more or less fair value but that European equities are underpriced to a degree that depends on changes in interest rates (in the event of a slow recovery, rates would inevitably sink towards zero). The market’s 7-15% appreciation potential is valid for all scenarios.