US investors rotate towards cyclical names as long bond yields spike
Last week’s stock markets remained somewhat subdued ahead of the US presidential election which is drawing ever closer with Mr. Trump’s chances of staying in the White House fading fast. However, despite continued spikes in rate of Covid infection across the US and Europe, with many European states going back to lockdown, hopes for vaccines and more effective therapeutics as well as heavy government support have kept the markets reasonably steady.
Indeed, we suspect the US market is starting to anticipate not only the election of Mr. Biden’s as the next US president but also prospects of Democrats grabbing a majority seats in the senate, leaving the path clear for a huge fiscal stimulus which may finally include big public works projects. This was also being clearly signalled by longer-term treasury yields which have started spiking towards their June highs when cyclical stocks had a brief but a notable rally.
Last week we saw a similar rotation away from technology names and towards financials, other economic sensitive plays as well as smaller cap stocks. This is a scenario which in our own market in Japan, we have been well positioned for since early August when we turned negative on tech stocks for the first time since January 2019 as we felt the pandemic had brought with it a huge positive earnings distortion to the sector as well as other stay-at-home beneficiaries like video games that looks very difficult to sustain for next year.
Big week for Japan earnings with positive revisions on the cards
Not unlike the US where almost 80% of corporate earnings have beaten estimates, we think the coming big earnings week for Japanese firms should bring with it generally positive results and better guidance. Certainly, corporate earnings released thus far have been most encouraging as demand from China has notably picked up while autos and machinery-related segments, not to mention, retailers have shown much improvement in their business conditions.
This prospect leaves us fairly bullish of our own market, especially as stocks have generally reacted very positively to better earnings guidance. Although Topix has moved sideways since start of October, we believe a big leg up towards its February, pre-pandemic highs look be on the cards before the year-end as cyclicals start to outperform pushing up Japan’s stock market which remains highly economic sensitive.
However, as we have also previously underlined, the only headwind we can see which could provide some drag for stocks is the strength of the Japanese currency against the US dollar. The ¥$ rate has continued to trend downwards since the pandemic began, failing to make much headway above its 50-day moving average and is looking poised once again to test that crucial 104 level which if broken, could take us to March lows of 102 and ultimately towards parity. We see this less as a reflection of a risk-off market mood and more as an issue plaguing the US dollar which even the recent spike in treasury yields have failed to remedy.