In the aftermath of Friday’s market “reassessment” and subsequent surge, when the ECB’s “bazooka” was found quite stimulative for risk assets after all (as opposed to the Thursday post-kneejerk reaction) one would think that Goldman which still has a 2,100 year end target on the S&P500, would be delighted. Oddly enough, just like Bank of America, Goldman’s reaction is somber, and instead of joining the euphoria unleashed by the surge in energy, momentum and corporate debt-related risk, the firm’s chief strategist David Kostin says the bounce won’t last as it is on the back of firms with “Weak Balance Sheet”, and that both energy and momentum stocks will return their downward trajectory once the dollar it rise as soon as the week when the Fed reverts to a far more hawkish stance.
As Kostin explains, a big part of the unwind of the recent renormalization in value-vs-momentum factors, is on the back of the spike in oil:
Earlier in the week commodity prices, and specifically crude oil, caused violent swings in market momentum that has dominated investor focus. After rising by 31% in 2015, our momentum factor (ticker: GSMEFMOM) has declined by 5% YTD, with its volatility leaping to the highest levels since 2009. This month alone the factor has experienced daily returns falling in the 2nd percentile (-3%) and 99th percentile (+5%) since 1980. Energy firms currently account for 25% of the factor’s short leg. Since bottoming at $26 on February 11, WTI crude has risen by $12 (44%) and driven the S&P 500 Energy sector to outperform the broad market by 265 bp (12% vs. 9%).
These unprecedented whipsawed moves have caught most by surprise:
The correlation between major macro trends has caught many popular investment themes in the momentum spin cycle. In 2015 and the first weeks of this year, lower oil prices were accompanied by lower Treasury yields and downward revisions to US growth expectations, boosting the performance of popular growth stocks and defensive equities while weighing on banks. At the same time, the US dollar, which carries a strong negative correlation with oil, strengthened by nearly 15% and presented another headwind to the US economy. The combination of growth concerns and low oil prices widened credit spreads to recessionary levels and benefitted the performance of stocks with strong balance sheets. All of these trends have reversed sharply in recent weeks (see Exhibits 1 and 2).
Kostin warns, just as Jeff Currie did earlier this week, that the oil rally is not sustainable and is actually counterproductive to eliminating near term supply imbalances, as the higher the bear market rally pushes oil, the more production will go back online, ultimately defeating the purpose of the Saudi shale “cleanse”, perhaps forcing the Saudis to boost output once again.
Our commodity strategists believe that the surge in commodity prices is premature and unsustainable. They believe that an extended period of lower prices is necessary to force the financial stress that will cause a reduction in supply, rebalance the market and lead to an eventual sustainable rally. They continue to forecast a trendless but volatile oil market, with spot crude prices in 2Q 2016 ranging between $25 and $45/bbl.
Which brings us to the main point of this post: what Goldman thinks is not being priced in by investors: a return to a hawkish Fed, and a resumption in the climb of the dollar.
While investors focus on oil and the ECB, they overlook the largest current macro market risk – and opportunity – which centers on the Fed. Next Wednesday the FOMC will announce a rate decision, release its revised projections, and hold a press conference. Although our economists expect rates will remain unchanged, a credible argument can be made for the FOMC to proceed with the “flight path” it had previously outlined. The unemployment rate stands at 4.9%, and core inflation has surprised to the upside, with PCE rising to 1.7% in February. Our economists expect three 25 bp funds hikes in 2016. However, despite the Fed standing within striking distance of its dual mandate, investors have rejected this forecast. Fed futures prices currently imply less than a 50% chance of a hike in June, and only two full rate hikes through the end of 2017.
The punchline: “The market’s eventual acceptance of the Fed tightening path will spur some parts of the momentum trade to resume and others to unwind.“
In other words, just as we took the elevator up after taking it down just as fast in February, and then again in early January, the whole process may repeat, especially if the stronger USD leads to the now well-known retaliation by the PBOC. To wit:
Fed tightening, especially contrasted with easing by the ECB and BOJ, should drive the dollar higher and benefit domestic-facing US stocks. As we discussed last week, our FX strategists expect policy divergence and interest rate differentials will drive the USD higher by 8% this year.
Who knows, maybe Goldman’s FX strategist Robin Brooks will finally get one right.
As for Kostin’s forecast…
We forecast a tightening Fed and lower oil prices will return upward momentum to the performance of stocks with strong balance sheets. Strong balance sheet stocks began to outperform their weak balance sheet counterparts as QE ended. We believe the trend will continue as the Fed normalizes policy given that leverage for the median S&P 500 stock stands at the highest level in a decade
For Goldman to be warning about the market’s near record leverage ratio (when coupled with the ECB’s scramble to unlock the debt/buyback issuance channel) things must be perilously close to getting unhinged.
In summary:
Although the recent oil rally tightened credit spreads and eased the pressure on weak balance sheet stocks, we expect high leverage and tighter financial conditions will support strong balance sheet stocks as the cycle matures. The reversal in crude oil prices expected by our commodity strategists should hasten the dynamic.
How to trade this? For the Goldman faders (after all Goldman got exactly one of its Top 6 trades for 2016 right) it means buy momentum and sell value; for those who believe that the market will actually appreciate the fundamentals that not only we, but even Goldman is now pounding the table on, the time to fade the momentum and energy rally has arrived, and the best trade to put on is long companies with less net debt, while shorting those companies which continue to see their leverage rise, mostly as a result of another year of record debt-funded stock buybacks.
Here’s the problem though: while this trade would have worked easily before the ECB decided to start buying corporate debt, now that the European central bank is backstopping bond issuers, it will almost certainly lead to even more outperformance by weak balance sheet companies as yet another central bank intervention unleashes another divergence between fundamentals and central planning.
Запись Goldman Warns Its Clients They Are Overlooking “The Largest Macro Market Risk” впервые появилась crude-oil.top.