The Selloff That Had To Happen




US equity markets were lower on Friday and Monday with the technology sector taking the brunt of the selloff. This led to weakness in tech related stocks globally. The US Indices were lower on the open but recovered during the session on Monday with the S&P 500 closing 0.10% down at 2,429 while the Dow Jones was off 0.17% at 21,235. The Nasdaq composite, after falling to as low as 6110, closed 0.5% down at 6175, the highest level during the day.

The sell-off in the technology sector started on Friday and had no obvious catalysts. It is fair to say that the top technology stocks have been leading the indices higher for some time, so much of the selling therefore would have been profit taking related.

The UK financial markets continue to digest the election. The FTSE 100 fell back by 0.21% with precious metal miner Fresnillo (which we hold) down 4.75% at the close as silver corrected 2.2%. Political uncertainty remains in focus with the Queen’s Speech delayed amid talks between the Conservatives and the DUP.

The ratings agency Moody’s has warned that the UK election result poses a risk to Britain’s credit rating.  This is because it is deemed to have “hampered” Brexit negotiations and would increase the threat to public finances. Division has sprung up within the political parties over the path to Brexit and politically the UK will be in a state of volatility for some time.

The UK election results saw the Conservative party give up its majority in Parliament with the loss of 13 seats. The Labour party won 30 seats, while the Scottish National Party lost 21 seats and the Liberal Democrats won 4 seats. The House of Commons has 550 seats in total and as such a Government needs to have 326 seats. The Conservatives won 318 seats and have agreed to a deal with the Democrat Unionist Party (DUP) who won 10 seats.

This would provide a slender majority of only 2 seats, making it difficult to govern effectively.  A coalition with the Liberal Democrats, who won 12 seats, would have been out of the question given their opposition to Brexit.

What has mitigated the political risks for the FTSE has been the weaker pound. Sterling shows all the signs of reaching an inflection point and the Brexit lows of last year are unlikely to be challenged any time soon.

Asian markets were generally weaker on Monday with the Nikkei closing 0.52% lower at 19,908. In China the CSI 300 was off 0.05% at 3,574 while the Australian market was closed due to a public holiday. The technology sector in Asia also came under pressure with Nintendo off 2.3% at the close.  Samsung Electronics lost 1.56%, Tencent was off 2.4% but Baidu and Alibaba – both listed in the United States – were little changed.

Baidu, which is our largest position in the Fat Prophets Global Contrarian Fund (ASX:FPC) and is held in the Global, Asian and US Managed accounts, has underperformed the Nasdaq significantly over the past three years, but I think this could change and the stock will close the gap. Baidu is China’s largest search engine and will unveil in July its driverless car software which will be made available to all the major car manufacturers.

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Amazon moves in on UK car sales: Auto Trader and Scout24. The technology sell-off on Wall Street hit the IT sector in Europe on Monday with blue-chip companies like Amadeus and Sage seeing weakness. Car listing platforms were also hit by reports that Amazon is set to enter the sector. A German trade magazine, Automobilwoche, reported that Amazon is in talks to start car sales in the UK.  It would then look to move into other European countries and has already been testing limited car sales – three Fiat models – in Italy.

It is not clear whether Amazon will seek to focus on new cars or the used car market.  It also remains to be seen whether the online giant can successfully forge relationships with car manufacturers. Shares in Auto Trader and Scout24 both sold off on the report with Amazon seen as a formidable online competitor. Auto Trader closed 3.4% lower at 406p while Scout24 closed 3.8% lower at €32.84.

The main focus of Auto Trader is the UK used car market and 80% of its revenue comes from retail car dealers.  Auto Trader is four times larger than its nearest competitor in the UK and benefits from strong network effects and dominates online traffic. In the past this has provided a significant barrier to entry. The majority of profit at Scout24 is generated from its property portal but its car portal is the fastest growing part of the business.  The company improved the market position of its car portal in Italy in 2016.

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Japan machine orders drop

Japan’s core machinery orders (a leading indicator of capital spending) have been mixed over the past year, but expanded moderately in February and March, by 1.5% and 1.4% respectively. According to data released by Japanese authorities yesterday, they fell a seasonally adjusted 3.1% in April. The figure was mostly dragged down by declines in finance, insurance and construction orders. The headline core machinery number was weaker than expected, with economists forecasting the number to be negative 1.3%.

Core machine orders in April were estimated to have been ¥835.9 billion (US$7.6b) and exclude orders from the shipping and utility sector due to their volatility. Orders from the manufacturing sector bucked the trend and gained 2.5% to ¥361.8 billion, rising for a third straight month. This was driven by solid demand for general purpose industrial machinery, semiconductor manufacturing and other equipment.

That led the Cabinet Office in Japan to maintain its view that the recovery in machinery orders has slowed, but not been derailed. Robust export figures are supportive of that view.

Overseas demand for Japanese machinery reportedly surged 17.4% to ¥993.2 billion yen and is an indicator of future exports. Other recent surveys and indicators have generally been supportive of solid exports and manufacturing as well.

Although the robust demand for manufacturing equipment was weaker than expected, the manufacturing details from the data would normally have been supportive of our Japanese automation and robotics exposures. However, Fanuc, THK and Yaskawa Electric all lost some ground in trading yesterday, declining 2.0%, 1.2% and 4.0% respectively. In context, this profit taking is understandable after ringing up some large gains over the past twelve months, but we don’t expect weakness in these Japanese stocks to be long-lived.

They were possibly tarred by the wave of technology sector related selling, spurred by the sharp falls in the FAANG (Facebook, Apple, Amazon, Netflix and Google) stocks on Friday in the United States.

Disclosure: The Fat Prophets Global Contrarian Fund holds shares in Baidu, Fresnillo, Fanuc and Autotrader.

Carpe Diem!

CEO | Fat Prophets
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