2023 Weekly Views

Highlights

Q2 earnings season  

As of last Friday, 70-75% of companies have now reported in the US and in Europe. In the US, 81% of S&P500 companies that have reported beat EPS estimates. EPS growth for these companies is at -7% y/y, but ex-energy EPS growth stands at +1% y-o-y. In addition to Energy and to Materials, Healthcare and Tech are also weak this quarter. Topline growth is coming in at +1% y-o-y, surprising positively by 2%. In Europe, of the Stoxx600 companies that have reported so far, 61% beat EPS estimates. Q2 EPS growth is coming in at -8% y-o-y, surprising positively by 3%. Commodity sectors are the key drag on the overall EPS growth in Europe too, along with consumer sectors and Real Estate. On the other side, 5 sectors are seeing double-digit EPS growth. Revenue growth is down, at -5% y-o-y.

On rates 

US long-term Treasury yields rose this week in what proved to be a perfect storm, with the 10-year yield reaching 4.19% (up 23 bps). The US Treasury Department revised higher its expected supply of US Treasuries for the coming quarter and Fitch downgraded the US government debt from AAA to AA+. In the wake of this downgrade, government-sponsored enterprises (GSEs) and municipal ratings tied to the US sovereign ratings were also downgraded, thereby impacting agencies mortgage-backed securities (MBS) and some municipal bonds. Regarding the larger auction sizes, the Treasury Department noted higher interest payments, higher expected cash balances and lower tax receipts (in part due to delayed California tax collection and lower asset returns in 2022) as reasons for higher deficit. In Q2 it stood at -8.5% of GDP according to the Treasury, higher than the -6% projected by the Congressional Budget Office (CBO) for 2023. The Treasury Department warned that “further gradual increases [in auction sizes] will likely be necessary in future quarters”. Unchanged short-term yields led to a sharp steepening of the US Treasury yield curve. The slope between the US 10-year and two-year yields narrowed significantly to -71 bp (up 19bps), signaling a rebuild of the term premium.

Macroeconomy

Jobs report
The US economy added 187k jobs below the +200k forecast. Job gains occurred in health care, social assistance, financial activities, and wholesale trade. Areas of employment weakness included motor vehicles/parts, transportation/warehousing, information, and temporary help. There were downward revisions to prior months: employment in May and June combined is 49k lower than previously reported. The number of employed people rose by 268k in July. The unemployment rate dipped to 3.5%, from 3.6% in June and below the 3.6% forecast. The participation rate was unchanged (and inline) at 62.6%. Wages ran hot, coming in at +0.4% m-o-m (vs. the +0.3% expected) and +4.4% y-o-y (vs. the +4.2% forecast and vs. +4.4% in June). Workweek length dipped to 34.3 hours, from 34.4 in June and 34.6 in Jul ’22, and below the 34.4 forecast.

US downgrade
Along with expected deteriorating fiscal dynamics over the next three years, Fitch Ratings specifically mentioned “a high and growing general government debt burden” and “the erosion of governance (related to) repeated debt limit standoffs and last-minute resolutions” to justify the downgrade of the US government debt rating from AAA to AA+. The average rating is now AA+ for US Treasuries (only Moody’s retains a Aaa-rating) however, investors expect limited market impacts given the special status of US Treasuries (for money market funds, US banks and foreign central banks, which all represent large holders along with the Fed). The country ceiling was kept at AAA, but the rating of Fannie Mae and Freddie Mac was also downgraded to AA+ from AAA. The move was “not being driven by fundamental credit, capital or liquidity deterioration at the firms,” but because the agencies benefit from implicit government support, Fitch said.

Bank of England
The Bank of England (BoE) hiked rates by 25bps, to 5.25%. The vote was split with 6 members calling for a 25bps hike, 2 members for 50bps and one for no change. The BoE noted that that the monetary stance is “restrictive” while keeping its forward guidance stating that “if there were to be evidence of more persistent pressures, then further tightening would be required”. However, they made several important changes to other parts of the statement: first, they mentioned that they will ensure that Bank Rate is sufficiently restrictive for sufficiently long to return inflation to the 2% target sustainably in the medium term; and second, the committee took note of the latest encouraging news on the inflation front.

US economic data
Disinflation in CPI continued into PCE and wages. Core PCE fell to 4.1% y-o-y in June, helped by price declines in core goods and continued deceleration in shelter inflation. Super core services also slowed, but the level remains far above pre-pandemic trend. ECI and unit labor costs both came in slightly lower than expected, fueling the soft-landing narrative. Unit labor cost is more volatile, and the Fed’s preferred gauge ECI remains elevated at 4.5%. Latest ISM surveys show continued divergence in manufacturing and services. Manufacturing remains in contractionary territory with a sharp decline in employment. ISM services remains above 50 but slowed sequentially to 52.7. The Senior Loan Officer Survey showed lending standards tightened further. Demand remains weak, but a smaller % of respondents reported weaker demand.

Europe economic data
Euro area flash GDP grew by 0.3% q-o-q in Q2 following an upwardly revised Q1 figure of +0.0% q-o-q (from -0.1%). Headline inflation (flash estimate) eased to 5.3% y-o-y in July from 5.5% in June, while core inflation was stable at 5.5% in July. Pressure remains very strong for core inflation, in the services sector where inflation accelerated to 5.6% y-o-y in July from 5.4% the previous month, a record high. In contrast, core goods inflation eased by 0.5pp to 5.0%, given the easing of supply chain issues and lower energy prices. Core inflation is expected to remain elevated.

Market update

One notch down

The S&P 500 closed the week at 4,478.03, -2.27% lower. The Dow Jones closed at 35,065.62, -1.11%, with the Nasdaq lower by -2.85%. The volatility index VIX closed the week at 17.10 up from 13.33. The Euro Stoxx 600 slipped -2.37%.

The 10-year UST closed at 4.03% up from 3.95% a week before. The yield curve is inverted with the yield spread between the 3-month and 10-year UST at -138bps. US Corporate Bond spreads: Investment Grade widened 4bps at 187bps and High Yield widened 19bps at 425bps. German 10-year Bunds yield closed at +2.56% up from +2.49% a week before. In Europe, Corporate Investment Grade spreads tightened 2bps at 162bps and High Yield spreads widened 5bps at 449bps.

The US Dollar Index (DXY) appreciated +0.39% last week and closed at 102.02. The Euro closed at 1.1006 (-0.09%); the Yen depreciated -0.43%, closing at 141.76 and the Swiss Franc depreciated -0.31%, closing at 0.8725. Gold closed at $1,942.91 depreciating -0.85%. Oil was higher, Brent closed at $86.24 (+1.47%) and WTI at $82.82 (+2.78%).

What to watch

• Monday: Switzerland Unemployment rate (July); Germany Industrial production (June)

• Tuesday: Germany CPI final (July); US NFIB small business optimism index (July) and trade balance (June); China imports/exports (July)

• Wednesday: China CPI & PPI (July)

• Thursday: US CPI (July)

• Friday: US PPI (July) and Michigan consumer sentiment index & inflation expectation (Aug.); UK GDP (Q2)