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The equity market rally is broadening


We envisaged that after the recent market bounce in stock prices, the equity market rally would flatten out. Nevertheless, it seems that under-invested retail and institutional investors continue to be attracted to the stock market by past price gains and the fear of missing out. In the meantime, the stock market rally is rapidly broadening out, with lagging sectors and markets beginning to catch up.

Kristian Camenzuli, Investment Manager at Calamatta Cuschieri discusses his views about the market.

What’s driving the rally in equity markets?

The health situation continues to improve in G7 countries. The number of new daily cases, people in intensive care and deaths remain on a downward trajectory. Loosening measures taken in most countries are not leading to a resurgence of the virus. This makes it possible to lift more and more restrictions on activity and allays the spectre of a second wave in the short term. Most countries are now well under way in reopening and we envisage that by the end of June, most lockdown restrictions would have been lifted (except for social distance and travel).

More importantly though is that Governments and fiscal authorities around the world have thrown a record amount of fiscal and monetary response at the problem in an exceptionally short time frame. The authorities’ job has not been to ‘take the jug of alcohol away from the party, but to facilitate one almighty happy hour’.

Fiscal and monetary authorities will understandably want to return the economy to its past glories, which suggests we will see continued fiscal and monetary easing.

Is the S&P 500 expensive at these levels?

Simply put, the US stock market’s rapid recovery has probably been the most distrusted rally in history.

The strong rebound now sees the US equity index taking on some key technical levels, including the symbolic 3,000 level. The “reality check” we were anticipating has not occurred despite the ongoing disconnect with fundamentals.

The rally could last longer than most anticipate, fuelled by under-invested institutional investors and growing pressures from their clients who demand higher returns. Data shows that both retail and institutional investors have kept high levels of cash, suggesting plenty of liquid assets to fuel a further advance in risky assets.

In the more recent risk-on mood, more cyclical, recovery-driven stocks have started to outperform the “stay-at-home” growth thematic. We continue to think this rotation is not sustainable in the long run, but in the short-term it could fuel the rally further.

Ultimately, a “digestion” phase could still take place (especially as in our view, trade-war risk is not priced in), which would continue to favour technology, quality and growth stocks.

In a nutshell, there have been plenty of worries in the marketplace: equity overvaluation, a China-US cold war, a second wave of Covid-19 infections and slow economic reopening, and so on. So far, all of these risks have paled in comparison to the amount and scope of fiscal support and monetary creation.

Given the disconnect between equity markets and the real economy, is there an issue with stock market valuations?

Many investors have balked at global stocks because of increasing valuation concerns – share prices have risen on the back of falling corporate earnings. Many have argued that global equities are too expensive, especially large-cap growth stocks.

This concern is understandable given the sharp decline in per-share earnings. But we should also keep in mind that valuing common stocks at a recessionary trough is just as unreliable as at the top of an economic boom. Both tend to produce a distorted picture of corporate profitability.

Rather, we should price stocks based on their sustainable earnings trends in the next 12 to 18 months in connection with expected levels of interest rates as well as perceived risk. In other words, equity multiples alone can never give the full picture in terms of stock market valuation.

How have different sectors been performing in Europe?

As lockdown measures were progressively eased and economies started to reopen in Asia and Europe, European equities further recovered from the Covid-19 sell-off in May, rising +3% after +6% in April.

During the month of May, the best performing sectors were Retail (+10.7%), Healthcare Equipment (+9.4%), Software (+7.6%), and Capital Goods (+7.6%).

Conversely, (excluding financials), the worst performers were Consumer Services (-5.2%), Energy (-2.3%) and Food Retail (0%). By style, Growth clearly outperformed Value.

Unemployment in the US for May was much better than expected. What happened?

Economists predicted the official US unemployment rate would hit 20% in May. However, the official rate was actually 13.3%, an improvement from the 14.7 percent in April.

The discrepancy is a result of the ‘Paycheck Protection Program’, for bringing back jobs. The program gave relief to small businesses (and a few larger ones) through loans that would not have to be paid back if most of the money went to rehire and pay employees. PPP money had to be used right away, and a lot of it started hitting small businesses’ bank accounts in late April and early May, which ended up triggering a net gain of 2.5 million jobs in May, the Labor Department reported. Many economists expected the PPP would be a big factor in June, but it turned out the impact was sizable in May.

Are you worried about China-US tensions, which could disrupt equity markets?

It is true that things seem to be heating up between the US and China. But it is also true that Donald Trump has been criticized for his management of the pandemic; for underestimating it and taking action too late.

The President’s rhetoric vs China (Hong Kong / trade / pandemic) could also be a “distraction” tactic.

A strong economy was and still remains a key pillar in Donald Trump’s 2020 campaign messaging. With more than 21 million now unemployed and GDP expected to suffer severe contraction this year, Trump needs to regain voter confidence.

What we do know from past experience of a trade war, is that US stocks generally outperformed during periods of tension (compared to European and Chinese indices) and growth stocks also outperformed in the tense periods.

We recommend focusing on domestic names and the more trade-war-immune stocks. Protectionist rhetoric has been growing (US, Europe and some parts of Asia), and the pandemic has been a catalyst. Europe is the most exposed to international trade and the US has a more domestic focus. Hence why at this stage we prefer the US to Europe.

Is Europe a step closer to a fiscal union?

The European Commission drew on the Franco-German initiative to propose an ambitious fiscal stimulus: a total package of €750bn, with €500bn of direct fiscal injections and €250bn in loans.

The French/German relief fund proposal represented a strong move (particularly on the part of Germany) in favor of “more Europe”; and a pledge that the union and the euro are here to stay.

Any decision on the recovery fund needs the approval of the 27 countries, and the final plan will certainly include further compromises. But the plan is ambitious and represents a move towards further EU integration.

Is gold still attractive at these levels?

Slowing demand in jewellery (that accounts for roughly 50% of total gold demand) and reduced central bank purchases could impact the price of gold in the short-term (especially if the risk-on mood extends further). However, low interest rates, international uncertainty, and/or a lower dollar should support gold over the medium to longer-term.

Over the medium-term I am of the view that gold will grind higher, with any short-term dip presenting a buying opportunity.

Many investors went into oil stocks in the past because of the attractive dividends. Is oil’s high dividend paying investment case over?

While the oil price recovery path could remain bumpy (as the oil demand recovery remains uncertain), a further oil price increase into Q3 would support investor sentiment for energy stocks and could support the continuation of the energy sector’s V-shaped recovery.

However, weaker-than-expected Q2 2020 earnings with more dividend cuts in July/August could pose a near-term risk to sentiment. Although most of the Big Oils confirmed their dividend in Q1, Shell and Equinor’s move to cut dividends could cause income investors to question whether the oil majors are still reliable income stocks This is especially true in view that they now face the twin challenges of lower oil prices and investment needs for transitioning their businesses to renewable energy.

In our view, Chevron and Total are least likely to cut as both have strong balance sheets, which gives them the capacity to cover their (temporary) cash flow deficit with additional debt.

Many investors ask about UK stocks given the end of year deadline to negotiate with the European union. What are your views?

At the end of 2019, the risk of a disorderly Brexit decreased sharply. At the start of 2020, the Covid-19 crisis restored a hefty discount on UK stocks. Brexit negotiations will likely continue generating volatility, but the risk is probably less symmetrical than in 2019. Stormy discussions around tariffs on goods are less crucial than those involving non-tariff barriers to the single market, which have already largely been ceded. While the GBP is indeed under pressure, this is not the most important factor in the current context.

The UK market is fundamentally pro-cyclical and global. A strategy based on the principal UK indices amplifies fluctuations in global business cycles and reduces exposure to domestic UK themes (dynamic job market and resilient consumer spending). Within this UK theme, de-risking in the wake of Brexit negotiations is one of the most striking opportunities.

What advice would you give to an investor?

I’m frequently asked what I think about the stock market and I make reference to the classic stock market book ‘Reminiscences of a Stock Operator’ by Edwin Lefèvre. The book is about the trading habits and life of Jesse “the boy plunger” Livermore, who back in the 1920s and 1930s was considered arguably the best trader on Wall Street.

A few of his trading mantras are: “There is nothing new in Wall Street. …“Buy rising stocks and sell falling stocks” …“Do not trade every day of every year.” …“Trade only when the market is clearly bullish or bearish” …“Only enter a trade after the action of the market confirms your opinion and then enter promptly”


With economies reopening globally and concerns of second waves of infection fading, the rally in risk assets has continued to gain traction. Markets are pricing in a V-shaped economic recovery out of this crisis with no major disruption.

However, headwinds remain in the form of geopolitical uncertainty, economic recession and the absence of a Covid-19 vaccine/drug.

Nonetheless in the short-term (and given the recent technical boost) recovery-driven cyclical stocks could continue to outperform.


The information, views and opinions provided in this article are provided solely for educational and informational purposes and should not be construed as investment advice, tax or legal advice. This article was issued by Calamatta Cuschieri Investment Services. For more information visit https://www.cc.com.mt

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