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A welcome to all those who have joined the mailing list and all the readers, to this 35th post of investing, not rocket science! Investing Doesn't Have to Be Rocket Science: this is our Non-Expert Guide to Portfolio Management. In the last five months, this free blog has added 900+ readers to our mailing list.
A quick recap of this blog series (investing, not rocket science) so far:
In the 1st post: I defined a basic portfolio framework. The objective of this million dollar portfolio is beat inflation and an equity index. The investment style presented here is active portfolio management, without the use of leverage and a time horizon greater than 5 years. The benchmark index is the MSCI ACWI Investible Market Index. Typically, there are two posts a week, which includes details of the portfolio and actionable evaluations.
From posts 2 onwards: I have evaluated 71 stocks and 4 potential bond additions. The portfolio is long 15 stocks, 1 Bond and short 1 stock.
Posts 21 to 27 were focused on the Q1 2023 earnings announcements, particularly of stocks in the portfolio and in the watch-list. You can read all about it in the previous posts here: https://www.claritech.app/blog
You can click on the charts, graphs or illustrations to expand or zoom in. There is no remuneration received to evaluate specific companies or to add to the portfolio or the watch-list.
In this post, we will look at the key highlights in H1 2023 and what one could expect in the financial markets for the rest of the year.
Key Highlights from H1 2023
· US headline inflation cools to 4%
· Apple hits US$ 3 Trillion market cap, becomes largest public company in the world.
· US Crude prices falls -35% in 1 year
· Nasdaq 100 rises 39% YTD, best first half since 1983
· Yen falls -10% against USD this year
· 10Y UST flat for the year, 2Y at 4.9%
· ECB raises interest rates to 4%
· BoE raises interest rates to 5%
Inflation, Interest Rates
Graph: Bloomberg
Inflation peaked mid last year in the US. Headline CPI has fallen from a peak of 9.1% YoY in July 2022 to 4% YoY in May. Last year this time, the expectation was for the Fed to take a less aggressive stance with interest rates if inflation cools. However, core inflation remains a concern, peaking at 6.6% YoY in September’22, it remains at 5.3% in May. The Fed continues to raise interest rates. According to the June FOMC guidance, the expectation is for two more interest rate hikes this year taking rates to a range of 5.5% to 5.75%.
In the EU, CPI peaked in October last year at 10.6% and has fallen to 6.1% in May this year. Core CPI continued to rise until March this year (5.7% YoY) and the in the most recent reading (May’23) was at 5.3% YoY. The ECB began raising interest rates in H2 2022, from 0% to 4% currently. According to guidance from the June ECB Monetary Policy meeting, it is expected to continue raising interest rates this year.
In the UK, the fight against inflation is progressing slower than anticipated. Last year, CPI peaked at 11.1% YoY in October. The recent reading for May’23 remained unchanged from Apr’23 at 8.7% YoY. Core inflation surprised to the upside in May’23, rising to 7.1% YoY from 6.8% in Apr’23. The Bank of England has raised interest rates to 5% this year with more rate increases expected.
Data: investingpro, Graph: Claritech
In China, Inflation was up 0.2% YoY in May’23 from a 0.1% YoY rise in Apr’23. Inflation averaged 2% in 2022 and so far, this year, inflation has averaged a 0.8% rise YoY. Its deflationary in China on a MoM basis, with May’23 at -0.2% MoM from -0.1% MoM in Apr and -0.3% MoM in Feb’23. The PBoC has reduced Prime lending rates by 10bps to 3.55%. The last rate cut was seen in August 2022 (a 5bps cut to 3.65%).
Last year, Oil price was the main driver of inflation, this year we see a fall in Oil price has the largest downward contribution to headline inflation (except for UK – which lags due to a gas price setting policy mechanism). Core inflation continues to remain persistent. Central banks are likely near the end of interest rate hikes and may need to keep them at these levels, barring a recession, to bring inflation down to their 2% goal by 2025, while trying to avoid doing too much or too little.
Bond funds have under-performed expectations in the last 18 months. Govt bonds (developed markets, 1 to 3 year maturities) present an opportunity for portfolio allocation in H2 2023 and 2024.
GDP
Data: investingpro, Graph: Claritech
•The EU and UK narrowly dodged a recession, we see uneven growth in China due to covid lockdowns and in US the anticipated recession didn’t show up.
•Job market remains tight, unemployment doesn’t appear to be a concern given the regular stream of job openings and consumer spending continues to remain stable despite a housing market correction.
•Industrial production has weakened.
The PMI’s (Purchasing Managers Index), which are considered a leading indicator to GDP, have also weakened.
The recent banking crisis in the US is expected to have tightened credit conditions.
Along with higher interest rates compared to a year ago, all of these may have negative impact on GDP growth.
We also understand the exact lag time between credit conditions, economic indicators, and GDP remains uncertain.
For this reason, GDP growth estimates are likely to carry downside risks.
A slowdown, if it arrives, could well be towards the end of the year or early next year.
This increases the case to add Govt Bonds (developed markets, 1 to 3 year maturities) to portfolio at a gradual pace.
S&P 500 Corporate Earnings
According to data from Refinitiv, Revenues in Q2 2023 are expected to decline -0.6% YoY and Earnings is expected to decline -7.8% YoY.
In the previous quarter (Q1 2023) reported earnings did surprise on the upside. Estimates for corporate earnings for the S&P500 were revised downwards from +1.4% in Jan 2023 to -5.1% in April. Actual earnings grew +0.1% YoY, beating estimates.
Similarly, Q2 2023 estimates for corporate earnings (S&P500) have been revised downwards from -0.3% in Jan 2023, to -3.9% in Apr’23 and currently stands at -5.6%. An earnings beat this quarter, may continue to fuel the bull run in equities.
The Index is currently trading at a forward earnings of 19 PE or a yield of 5.2% (Long term average is 18PE)
Earnings growth for the S&P500 is estimated to be 11.8% in 2024. Should also mention that one year ago (July 2022), earnings in 2023 was expected to grow at 9.3% YoY. Suggests that analysts were bullish for 2023, despite economic data pointing to a slow down. That estimate is now at 1.4% YoY for 2023.
It is likely that earnings are flat this year and next, as the FOMC statement suggests “below average growth” to be the likely outcome of their policy measures. Barring a recession, the index could trade in a 20% to 30% range as the best outcome in the current environment. We suggest portfolio exposures to be limited to high quality equities.
STOXX 600 Corporate Earnings
According to data from Refinitiv, Revenues in Q2 2023 are expected to decline -6.5% YoY and Earnings is expected to decline -7.4% YoY.
As was the case with the S&P500, the Q1 2023 reported earnings did surprise on the upside. Estimates for corporate earnings for the Stoxx 600 were revised downwards from +1% in Jan 2023 to -3% in April. Actual Earnings grew +11% YoY in Q1’23, beating estimates.
In Europe, listed companies are required to report earnings at least every six months, Q2’23 earnings are going to be more important. All index companies will report earnings, compared to the 285 companies that reported in Q1.
The Index is currently trading at a forward earnings of 12 PE or a yield of 8.3% (long term average is 14PE)
US Fund Flows
Data: Ycharts Fund Flows
Large blended funds (The S&P500 is considered a large blended index) have seen large net inflows in H22021 and 2022. Net inflows continue this year, although at a much lower pace.
Large Growth funds (the Nasdaq 100 is considered a large growth index) have seen net outflows since H2 2021.
Japan and Europe / UK Funds, which saw net outflows last year, have seen inflows this year. So has diversified emerging market funds, China sees net inflows, although at a much lower pace than H2 2021 and 2022.
Market Breadth
Refers to the participation of stocks in the movement of the Index. Both the SPX and the NDX are currently above their 50 day moving average (DMA), the charts provides information on percentage of component stocks that are also above their respective 50 DMAs.
The rise in the indices this year show similar participation trends when compared to the market top in 2021.
That’s all for today.. In the next post, we will kick off the Q2 earnings season. Thank you for your time! See you in the next post!
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