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Trader Talk: An analysis of the markets this morning

Good morning,

Markets are called higher this morning. This is what’s happening today:

Italy will auction bonds today as rising borrowing costs in Europe reflect concern the debt crisis is worsening;Federal Reserve Vice Chairman Janet Yellen said low U.S. interest rates are warranted as the job market remains weak;Citigroup Inc. recommended buying industrial shares;HSBC have turned overweight on the banking sector in Europe from neutral;The yen extended declines to a second day, falling against all of its 16 major counterparts, after Bank of Japan Governor Masaaki Shirakawa said he will continue pursuing monetary easing;Google reports results today after the closing bell;Wells Fargo and JP Morgan report results tomorrow;10-year Italian debt is yielding 5.534%, 10-year Spanish debt is yielding 5.877%, 10-year Portuguese debt is yielding 12.458%;Brent is trading at $120.14/barrelApple closed the session at $626.20 and Priceline at $729.57 – a bargain price to pick up these stocks!

Markets are called higher after 5-days of consecutive losses. Despite the current uneasiness we have in the markets because of Portugal and Greece and the doubt whether the US will carry out further quantitative easing, companies started to report good results. It came as a surprise that Alcoa beat the streets estimates when we have been hearing all along that demand from China is falling. We have heard it also from BNP Billiton when it came out saying that the lack of demand from China will have an impact on its accounts.

Apart from the earning season which just kicked off, Citigroup came out saying that it is overweight on industrials and HSBC came out saying that it is overweight on European Banks from previously being neutral. I’ll start off with Citi’s comments. Citi aren’t the first to point out that industrials are trading on interesting valuations. And this is because they did not perform as well as cyclicals and financials in the first quarter of 2012 when the markets closed the quarter 20% up. Industrials lagged these other sectors and now that cyclicals and financials are slowing down in Q212 as earning season kicks in and as we wait to see how governments and central banks will help stimulate growth in the global economy, industrials will play catch up. It isn’t Citi alone that is overweight industrials. Many other analysts are of the same view and are overweight industrials. When I say industrials I mean the like of Bombardier, Siemens, Schneider etc.

Don’t let the negative experience of being invested in July of 2011 stop you from picking up stocks in this market. Is it true that Spain and Portugal are seen as a threat to the growth of the stock markets though what’s interesting is that HSBC has just come up with a report saying that they are overweight European Banks. And why would HSBC be overweight European Banks in such an environment? HSBC do not think that either Portugal or Spain will follow Greece in a private sector involvement scenario. Portugal and Spain are likely to be given aid in order to pay back their short term debt. There still remains the problem of what will happen to longer term debt however, the market is more interested in what will happen short term rather than long term at this point in time.

I personally would stay away from European banks. Not because I don’t see value but mostly because of cognitive dissonance. The lack of understanding a complex balance sheet and how these banks are factoring in Spain and Portugal into their financials is unknown and for the layman, there are other less complicated sectors they could be exposed to and still make money. So just to make my point clear. It is not that I dislike the banking sector when I say avoid banks. I think there is money to be made even in this sector especially if a solution for Spain and Portugal is placed on the table. But at this point in time it is still too premature to know what is going to happen. And adopting a hindsight bias we know that governments take a long time to come up with a decision.

For those who want to invest in banks despite their cognitive bias, I suggest you go for BNP. The following is a comment on BNP by Deutschebank, ‘BNP Paribas very well positioned in the current challenging environment. First of all, BNP Paribas is little impacted by Basel 3 and we even calculate a comfortable capital surplus under Basel 3 for the company, which is a luxury among European banks in our view and something for which the bank should trade at a premium. We also think that BNPP is particularly well positioned to positively surprise on the execution of its announced deleveraging plan. Indeed, from a funding perspective BNPP should not be under pressure to deleverage after the recent ECB move and as it has a strong franchise that should allow the bank to tap wholesale funding markets at a decent price in our view. Besides, given the capital surplus under Basel 3 and given that BNPP should be able to bridge the current capital gap versus EBA requirements for June 2012 with retained earnings only we also see no pressure to deleverage from the solvency position. Despite likely depressed earnings for the next two years we also expect BNPP to be able to maintain its investment banking ranking, after the bank has recently gained market shares globally. We also find that BNPP faces few risks from the current sovereign debt crisis as its exposure to Greece is negligible. Given the substantial upside to our target price and the good positioning of BNPP in these challenging times we rate the stock Buy.’

Regarding Priceline and Apple, a day like yesterday was a good opportunity to pick up stock in these two names. Don’t get tempted to sell in weakness. I am confident that both of these companies will come out with results that will beat the streets estimates.

And to conclude I’d like to comment about African Eagle. The share was up 30% yesterday after it came down due to a fundraising of GBP12mln. It is normal that a share price particularly of a penny stock to fall on the announcement that the company will be raising equity. However, when you believe in a company, keep on holding on because the price will come back. A microcap raising GBP12mln in this environment has its repercussions though from what we have seen yesterday, the market is confident that the company is on the right track. Keep on monitoring because I am confident there are better days yet to come for African Eagle.

Stock to watch: Chevron (Price $100.95, Price Target $130)

We believe that US crude prices (WTI) will remain structurally discounted to international prices (Brent) on a long term basis, which is positive for Brent-levered oil companies such as Chevron. Despite a mild medium-term growth outlook (around 1% pa production growth out to 2014), Chevron’s project portfolio is robust and long-term production growth should be solid. We rate Brent-levered, discounted, and defensive Chevron a BUY.

For further information of Chevron or other stocks we follow, contact our offices on 25688688.

Good day and happy trading!

Kristian Camenzuli

The Calamatta Cuschieri Traders Blog is available daily on CC WebTrader. Other market coverage including coverage of the International Bond Markets is also available.

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