Shifting narratives?

Takeaways: Despite – or perhaps because of – the disappointing US payroll numbers, markets have started Q4 in buoyant mood.  A confluence of events have contributed to the mild ‘melt-up’, including payroll inspired ‘looser for longer’ hopes, a ‘quiet’ China and suggestions of an oil price revival.

This calm augurs well for the IPO market, still subdued by the summer shudder. But, arguably there isn’t a new story here, just a more refined version of the narrative that investors finally adjusted to this summer – and which companies have had a handle on for some time. That is the mild-peril of challenged emerging markets and slower developed ones, which could develop into something riskier, but for now requires a considered, differentiated response. To use a hackneyed idiom: ‘Keep calm and nurture capital’!

Fed 2016?

The US recovery is looking less robust.  The September non-farm payroll came in below expectations; August numbers were revised down; and average wages came in flat. Not good, but not the disaster it’s been painted in some quarters. Those were pretty high expectations. So, whilst a US October interest rate hike might be almost 100% out, December might be more in play than the 35% chance currently indicated by the markets. May-be not much more, but the Fed at least want us to think it is and a rise could leave some investors with pretty burnt fingers.

News that is just disappointing enough to keep up ‘looser for longer’ policy expectations without presaging a downturn tends to hit the equity sweet-spot in this post-QE world.  And the fourth quarter has indeed started positively as global equities hit a seven week high. Liquidity hopes are further boosted by rumours of Japanese and ECB loosening. The UK picture is less clear, with some talk (before Thursday 8-1 vote to hold) of  the Bank of England moving before the Fed. This seems unlikely after the UK also appears to have suffered a softer Q3. Some analysts are still calling February 2016, more are saying May 2016 and beyond into autumn.

Changing narrative?

So after a tough summer, when hedge fund managers had their worst month since 2008, we finally have a week of relative calm – indeed nigh-on positivity – despite the fact that the fundamental story hasn’t really changed. Along with Fed relief, this lift might also have something to do with ‘Golden Week’ – China’s virtual shutdown. That said, volatility had lessened considerably in September and Shanghai’s return to trading today was muted. So, perhaps it’s more a pause for breath, a reconsideration of the evidence.  During the summer markets finally caught up with the problems in the global economy, but like most corrections it came without nuance. This week’s revised forecasts from the IMF show global growth falling to its slowest pace since the financial crisis in 2015, led by emerging markets in their fifth consecutive year of GDP decline. But, developed markets will actually have their best year since 2010 – and none will growth as much as India, at above 7%.  It’s a complex picture. Just as there is little clarity in oil – potential for lower US supply, but what will OPEC do?

It would be good to think that investors were testing out a more nuanced narrative  – rather than just betting on low interest rates.  Either way, we’d suggest that our top companies have been well ahead of investors. Our Capital Confidence Barometer shows how our companies have been consistently readying for the fight against low growth, shifting risks and disruptive realities for at least the last year, with a strong focus on capital allocation and growing emerging market concern. M&A remains their weapon of choice. Global activity was more subdued in September than the same month last year, but we’re still on track for a record year.

IPOs KO in Q3, OK in Q4

IPO’s obviously fared badly in the summer shudder. Our figures show 2015’s global volumes are still just about on a par with 2014, but the closure of mainland China to new issues and market volatility contributed to a 32% year-on-year decline in global activity in the third quarter. In the UK, a General Election hiatus contributed to an even more dramatic fall, from £1.5m raised in Q3 14 to just £194m in Q3 15.

Whilst China might remain closed to new issues, we think the pipeline in Europe and the US remains strong, with companies and sponsors ready to take advantage of any calmer waters.  Both regions have relatively strong domestic stories to tell, which won’t help those focused on commodities or emerging markets, but will help domestically focused retail or consumer businesses. This calm may be periodic and companies will need to be ready to go in short order.

For that reason, whilst we expect IPO markets to pick up in Q4, we also expect to see the current rise in multi-track strategies to continue. As we’ve said her before, we’re seeing many more sources of capital opening up alongside traditional markets and there seems to be no shortage of M&A suitors either. This might be why we’re seeing an increase in the maturity of companies coming to market. Investors may be looking for greater certainty via a longer track record too.


What could change this narrative? What turns this from mild peril unto a recession, according to the IMF, is “policy missteps” that could “trigger an abrupt rise in market risk premiums” with the potential to set off “a chain reaction of corporate defaults, a flight from government debt, a new credit crunch and a collapse in real economic growth”.

In this context, HY debt – despite its relative popularity – still feels like another potential hotspot. European credit investors elected high-yield their top marginal fixed-income asset class in the latest Fitch investor sentiment survey, despite many believing that credit conditions will deteriorate. Investment on the basis of QE, not fundamentals?

There isn’t such quick converse ‘policy saves the day’ scenario. Structural reform is still high on the IMF’s agenda – less so for many governments – although companies via M&A are doing some of the hard work on capacity reduction and investment. On the demand side, few central banks and governments have (or have given themselves) room to move in terms of stimulus. In monetary policy, ECB and Bank of Japan’s potential loosening might grab equity market’s imagination, but changes are incremental from here.

So, it back to companies and we’ll be keeping a close eye on the up-coming earnings season. In Europe, attention is turning to Germany. The 1.8% fall in factory orders, 1.2% decline in industrial production and 5.2% decline in exports – all for August – predate any diesel-defeat news and point to contagion from the emerging market (Chinese) slowdown.  As for US earnings season, this could be a bumpy one since we’re approaching it in the dark. According to BofA Merrill Lynch, the confusion of summer meant that just 26 S&P 500 companies issued guidance last month, the lowest figure for any month since 2000. The monthly average over that period is 125. Analysts’ reaction has been to cluster and aim low, so expectations are probably managed; but it’s all about the real numbers. Alcoa kicked the US season off last night with a miss, but it’s all about the Fed in markets this morning.