Looking into the abyss



The US and European stock markets staged a recovery on Wednesday, as a shift in sentiment towards Italy’s election boosted sentiment. While some were calling for Armageddon on Monday, risks now look to be abating, with the “risk off – sell off” dynamic likely in remission for now. Italy looked “into the abyss” on Wednesday. Politics is one thing but economics is another, and with the Global Financial Crisis so fresh in the minds of everyone (even the millennials), the politicians will have no choice but avert the nation going over the economic cliff. Anyone who lived and breathed through the GFC will be forever conditioned by it.

And I would argue that there is precedent with the 1930’s Great Depression. That’s actually what happened back in the day. So I don’t think Italy is going down that path anytime soon. Yesterday’s rally was more a reflection of what the country really wants and is prepared to pay for, and partly driven by news that Italy’s two anti-establishment parties were renewing efforts to form a government, rather than force the country to the polls for the second time this year.

The major US indices all logged strong gains on Wednesday. The S&P 500 rose 1.27%, followed by the Dow, up 1.26% and the tech heavy Nasdaq gaining 0.89%. The small-to-mid cap Russell 2000 index was up 1.50% and the Dow Transports added 1.52%. The US Dollar index declined 0.5%, whilst bond yields generally rose as the interest rate on Italian government debt fell. The prospect that no government would be formed pushed short-term Italian bond yields up by the most in nearly 26 years, but yet on Wednesday the markets regained composure and without timidity.

Tesla CEO Elon Musk said challenging government regulations in India is the reason the company is not in the fast-growing market yet. Tesla stock gained 2.8% on Wednesday and continues to defy gravity, which is rather interesting in the current investor environment given the huge short position in the company due to its weak financial standing and long road to profitability. Tesla is set be challenged in electric vehicle manufacturing by traditional automotive giants such as BMW and Volkswagen which have both announced ambitious plans. These companies have the requisite R&D budgets to make rapid advances.

Spanish banks recovered some ground, with Caixabank and Bankia gaining 1.1% and 1.3% respectively. Local stock exchange operator Bolsas y Mercados Espanoles advanced 0.9%. The recovery in Italian and Spanish stocks supported the major pan-European indices. The Stoxx 600 edged up 0.27%, while the Euro Stoxx 50 index of Eurozone blue-chip stocks advanced 0.38%. 

 Insurers and banks, which have generally invested in relatively high-yielding foreign bonds due to the ultra-low interest rate environment at home, faced selling pressure. Insurer Dai-ichi Life and the megabanks, Mizuho Financial, Sumitomo Mitsui and Mitsubishi UFJ sold off between 1.5% to 3.4%. Some traders may have speculated that the Bank of Japan (BoJ) could deepen negative interest rate policy (NIRP) at home but that is unlikely as some members of the BoJ have already voiced concerns regarding the distortion NIRP is already having on the financial sector.

Disclosure: The Fat Prophets Global Contrarian Fund declares a holding in: Volkswagen, Caixabank, Dai-ichi Life, Mizuho Financial, Sumitomo Mitsui and Mitsubishi UFJ.

Carpe Diem!

CEO | Fat Prophets
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