10 February 2019

Having briefly broken above its 50 day moving average as we had hoped, the rally in Topix stalled as US stocks came under selling pressure in the latter half of last week, triggered mainly by renewed worries about the coming trade talks with China as the US president dashed hopes of personally meeting the Chinese premier ahead of the US March deadline in raising tariffs. In the meantime, corporate earnings continued to show weakening trend as anticipated, although Japanese stocks continued to shadow their US counterparts, leaving the direction of US market as key to what happens in Japan rather earnings guidance. 

Despite some worries about heightened trade tensions, we continue to think that some sort of a deal will be concluded with China which has been actively increasing imports of US goods and has pledged to eliminate its trade surplus with the US despite ongoing feud with the Chinese telecommunication equipment supplier, Huawei. Given that neither side can afford more anxieties that had gripped their capital markets in latter part of last year, we think higher tariffs will be avoided for now to buy more time to tackle more fundamental issues regarding US calls for big changes in China's economic structure. 

Nevertheless, geopolitical uncertainties remain an ongoing risk as the spectre of another US government shutdown looms while the US Congress, now majority led by Democrats fight back against the immigration policies of the Trump administration and are starting a multi-pronged investigations on the US president and his inner circle. Meanwhile and separately, the findings of the Mueller probe into the past US presidential election and possible interference of Russian involvement looks to be coming ever closer to being concluded. 

All the above factors, not to mention, the looming Brexit and slowing Europe are all what we consider to be 'known knowns' that could provide some headwinds in the weeks ahead but in our view, are unlikely to derail the US stock market rebound. Indeed, with the Federal Reserve clearly adopting a more dovish approach towards its monetary policy, choosing to ignore the tight labour market for now and the markets more interested in looking for a bottom in corporate earnings and sentiment, we think much of the above issues have been to some extent digested. As long as we avoid another prolonged government shutdown, or an all-out trade war, we think we are likely to see stocks charting their way to higher levels. 

Very interestingly, last week's brief rally in global semiconductors, led by Microchip Technology (MCHP) which underlined its expectations of bottoming out of orders in the current quarter, provided a glimpse of how sensitive the markets are to potential good news. We think whether demand bottoms in this quarter or next is practically immaterial to our bullish investment stance as we continue to urge our clients to drastically raise their exposure to tech stocks or risk playing catch-up in terms of capturing alpha for the rest of the year.  

As we have argued from the start of this year when we adopted our bullish stance, the strong secular growth trends in semiconductors should logically remain intact despite the cyclical and geopolitical headwinds which had created such great shorting opportunities last year which we fully exploited at the time. Despite maturing smartphone segment which remains one negative industry under-current, we see cloud computing, EVs, AI, 5G and automation as big growth drivers which we suspect will bulldoze through the current downdraft.