Looking ahead to the second half of the year, Tressis notes that the reduction in geopolitical risk following the agreement between the United States and Iran, coupled with strong corporate results, supports maintaining invested portfolios; however, persistent inflation, the monetary tsunami and the high concentration of market leadership call for continued caution.
Reported by Mari Pinardo
“The impact of the war has been disproportionately exaggerated”. This is how Daniel Lacalle, chief economist at Tressis, sums up the first half of the year. In his view, it has once again been demonstrated that the system is much more resilient than the estimates usually made when risks such as those triggered by the conflict between the United States and Iran are on the horizon.
What looked set to end in disaster has not turned out that way, and as evidence of this, during his outlook presentation on Thursday, Lacalle pointed out that with every day that passed since the start of the conflict, “the closure of the Strait of Hormuz mattered less”, with oil prices holding firm without rising to the most dire levels predicted, which had been as high as $200 per barrel. In fact, he noted that “oil prices began to correct significantly before there were any expectations of a peace agreement”.
His conclusion is that many leveraged positions in oil have been created based on a misconception about supply chains, which have proved far more resilient than previously thought. He points out that, beyond the spikes in volatility triggered by “unexpected” events, oil operates in a much more practical way, simply following the law of supply and demand. He notes that the United States is producing and exporting more, so the sense of scarcity is, more than anything, emotional. “The oil futures curve has flattened to $5; we are moving from a perception of scarcity to a sense that there is a surplus”, especially when one takes into account the United Arab Emirates’ withdrawal from OPEC this year, which could result in an additional 4.5 million barrels entering the market whenever and however it chooses.
José Miguel Maté, CEO of Tressis and also present at the meeting, pointed out that clear evidence that these have merely been spikes in volatility can be seen in the behaviour of the markets, which have recorded positive performance during the first six months of the year despite the war. The main driver of this strong performance has been strong corporate earnings: in the United States, profits for S&P 500 companies grew by 28%, marking one of the best quarters in recent years. Sectors such as technology, communications and materials recorded profit growth of close to or in excess of 40%.
Core inflation will hold up
As a direct consequence of a less ‘jittery’ oil market, headline inflation will fall in the short term due to the energy effect. It is worth noting that 70 per cent of the CPI in the US in May was attributable to energy costs and that US petrol prices have already fallen from $4.60 per gallon at the start of June to $2.90 per gallon this Wednesday.
This effect will be harder to see in Europe due to fiscal policies.
Core inflation will be a more complicated issue; as Lacalle has explained, it will not be resolved by the fall in oil prices. “In Europe, core inflation should be at 1.2–1.3% given the economic stagnation, but it remains artificially high due to public spending and expansionary liquidity”.
Meanwhile, economic growth will be revised upwards despite the conditionality of the peace agreement: in the United States, the Atlanta Fed estimates ~2.5% on an annualised basis in the second quarter, whilst in Europe the improvement will be more marginal (~1.1–1.2%).
An irrational rate rise by the ECB
In light of these figures, Daniel Lacalle has declared that the ECB’s latest rate rise is “completely irrational”. He points out that the institution is trying to give the impression of being prudent in order to keep inflation within its targets, by raising interest rates that primarily affect businesses and households, whilst keeping all sources of extreme liquidity open – which perpetuate and encourage public spending – meaning that “the risk of persistent inflation remains”.
For his part, he believes that the new Fed chairman, Kevin Warsh, who takes up his post this Wednesday, will focus his monetary policy on balance sheet reduction, whilst likely keeping interest rates at current levels. “He will keep rates steady, taking advantage of demand for dollar-denominated assets to reduce the Fed’s balance sheet, and if there is a significant fall in inflation in July or August, rates might be cut”.
Positioning: more equities
Against this backdrop, the Tressis team maintains a clear preference for equities, with the US, emerging markets and Europe as favourites, whilst taking a more cautious stance on Japan. In terms of sectors, they are focusing on selected technology stocks (with earnings), infrastructure, energy, defence and semiconductors.
They see less value in fixed income: coupons are attractive, but the sustained annual return is due to the coupons, not to capital appreciation. Furthermore, there remainsstructural tension at the long end of the curve due to the high deficit and persistent liquidity. They favour short-term maturities, keeping a close eye on inflation and monetary policy.
