Prime Trade Ideas: High Yield Looks Highly Attractive

We consolidate our favourite biases into one, easy-to-read, weekly report! Please find the original pieces linked throughout and a summary table at the end of the document. Reach out to us on Slack or email the author with any questions about the content.

Latest Updates

FX and Rates

• EUR to benefit from softer Eurozone inflation and vigilant ECB (8 June, Richard Jones)
• GBP is set for downside in 2H 2023 (1 May, Richard Jones).
• We favour high yield over investment grade credit (6 June, John Tierney).

Momentum Models

• Momentum Models Increase Equity Bullishness and US Rates Bearishness  (8 June, Bilal Hafeez).

Commodities

• Slightly bullish oil as Saudi Arabia looks to put a stranglehold on the market (5 June, Viresh Kanabar).

Central Bank Monitor

• Fed to ‘skip’ in June with a more dovish reaction function emerging (8 June, Dominique Dwor-Frecaut)
• ECB to hike 25bp but dovish mood could persist in near term (7 June, Henry Occleston).

Bilal’s Asset Allocation

Find Bilal’s latest asset allocation biases here.

• We stay overweight cash and TIPS while maintaining our underweight allocation to equities, long-duration bonds, property, and private equity.
• Within equities, we think Quality looks attractive as it provides exposure to companies with high profitability and strong balance sheets.
• We find that S&P earnings forecasts show that analysts are no longer expecting a mild earnings recession this year, instead expecting earnings growth to re-accelerate from Q4. We would look to fade this view.
• Within fixed income, the interest rate market has all but priced out the cuts expected in 2023. However, as inflation continues to remain sticky, we still see value in cash and shorter-duration bonds.

FX, Rates and Commodities

G10 FX

EUR to Benefit from Softer Eurozone Inflation & Vigilant ECB. You can read the entire piece here.

Eurozone CPI readings, both headline and core, are coming in softer, with the most recent data below consensus estimates. With the drag of inflation on the Eurozone economy abating, and the European Central Bank (ECB) committed to containing higher prices, this should lead to a stronger euro.

Richard expects the Deutsche Bank EUR trade-weighted index (TWI) to make a new year-to-date (YTD) high above 124. He’s also bullish on EUR/USD, after pulling back last month from its intraday YTD high near 1.11. He thinks it should trade back to that level in 2H 2023.

GBP Set for Downside in 2H 2023. You can read the entire piece here.

UK economic data, most notably inflation and employment readings, have soured recently. Meanwhile, the British pound has shrugged off this challenging data backdrop.

Richard sees expects the deteriorating data to negatively impact sterling in H2, with Brexit also set to keep dragging on the UK economy and currency. Richard’s favoured way to play this would be:

1. Bearish GBP/USD
2. Bullish EUR/GBP
3. Bearish GBP/CHF

EM FX

Our latest Asia currencies insights, in partnership with SGX. You can read the entire piece here.

Continued disappointment over the pace of China’s recovery is weighing on Asia FX. Where momentum in China has increased, it has been focused on domestic sectors with little spillover to the rest of North Asia. And other than a small gain for THB, all other Asian currencies are weaker over the past month, with USD/CNH now back above 7. Also hindering performance is the recent USD strength, with robust US data leaving potential for another Fed rate hike, and Asia’s lower carry environment compared with Latam and EMEA.

THB is now the only currency where we remain constructive in the near term. The C/A upswing is underway, domestic momentum is rising, and valuation is favourable. However, the uncertain outcome of the mid-May election leaves some near-term risks.

Oil

Saudi Arabia Wants a Stranglehold on the Oil Market. You can read the entire piece here.

Saudi Arabia announced they will cut production in July by 1mn b/d, with the potential to extend if required. OPEC+ also agreed to lower the baseline for Russia and select African countries by almost 1.6mn b/d for next year. Meanwhile, it revised the production baseline for the UAE 0.2mn b/d higher. This makes the reduction to the 2024 baseline total 1/4mn b/d.

We believe Saudi’s cuts are marginally bullish for oil as they attempt to enforce a short-term put on the oil market. However, demand concerns are still likely to drive prices ahead. The medium-term impact of the changes is negligible, however, as most countries are already struggling to meet their required production target.

Therefore, Viresh sticks with his bullish view on Brent to $85 by August.

Equities and Credit

Equities

Our broader equities view remains the same, but given the exuberance in Nvdia’s share price and the potential near time hype around AI, John would wait for a material pull-back before buying. 

Reality-Check Time for AI and Nvidia. You can read the entire piece here.

Nvidia’s stock (NVDA) jumped by a third after its CEO forecast quarterly revenue will jump from $7bn last quarter to $11bn next quarter. The good news is that NVDA has a wide and deep moat ­– it is unlikely to lose its market-leading position soon. The bad news is that little of substance exists to support NVDA’s outlook, other than sheer excitement that science fiction’s predictions about AI could be on the verge of reality.

Knowing what we know now, NVDA is priced for perfection. Any shortfall will likely be punished. When the AI mania subsides, we expect NVDA forecasts and valuations will too. It will likely be a buy at that point. The only question is, when will that happen?

Credit

Investment grade and high yield corporate bond spreads are trading in a narrow range, in line with equity volatility. We see little risk of a systemic widening until the default rate starts rising. The high yield exchange traded funds (ETFs) HYG and JNK offer wider spreads and less rate risk than the investment grade ETF LQD.

We suggest an overweight position in high yield and market-weight or underweight in investment grade.

We Favour High Yield. You can read the full piece here.

Cryptocurrency

Technical Signals:

Crypto Chart Structures Remain Bullish? You can read the entire piece here.

Ethereum continues to look more constructive than Bitcoin, a decline through 1850 would suggest a rally failure and a return to a range environment for now.

For Bitcoin, Robin believes that the near-term price action remains a little suspect, with the rally attempt last week week coming back under pressure pretty quickly.

Fundamental Signals:

Should I Buy Bitcoin Now? You can read the entire piece here.

Our broader crypto views remain unchanged.

The macro backdrop remains poor. Our recession probability indicator remains over 70%. Bitcoin is yet to experience a serious global recession, but we expect one would limit any potential upside in price action. This is because during times of economic uncertainty and weak growth, investors may be more inclined to sell risky assets like bitcoin and seek safer investments such as government bonds.

When looking at on-chain/flow metrics for bitcoin, things look more neutral. So from a fundamental signal perspective, we are slightly bearish.

Momentum Models

Our momentum models cover FX, equities and rates. The basic strategy is to use returns (lookback windows) to give buy/sell signals. You can find the latest report here. Find out how to enhance your portfolio using momentum models here.

Momentum models delivered a fourth consecutive week of positive returns, led by equities (+0.9% WoW). However, performance remains poor over a three-month horizon. FX momentum models (+0.2%) are the only to deliver a positive return over the period.

Over the last two weeks, our momentum models have turned bullish on the S&P 500, DAX, and now the FTSE as well. It remains bearish on US, and European rates, while flipping net-bullish on EUR and GBP (vs USD).

Central Bank Monitor

Since the April FOMC, there has been no progress on disinflation and no evidence of a macro impact of a credit crunch, yet the Federal Reserve (Fed) has decided to stay on hold next week. This reflects that the Fed’s reaction function has turned more dovish due to recent nominations as well as the contention that the era of low interest rates continues.

Dominique thinks the market is overpricing the odds of a July hike, though I still expect two hikes by end-2023.

Doves to Take the Reins? Read the full piece here.

ECB:

Henry believes near term dovishness from the ECB which is leading to markets pricing a terminal rate of 3.75% in the euro area will be short lived. He expects the breakdown of latest inflation print will show that one-off policy has been the main drag on services and core and that the momentum there remains strong.

ECB hawkishness has been pared lately, despite the main voices continuing to reject that underlying inflation is falling.

He still thinks the ECB will need to hike to at least 4%, driven by a recovering consumer, strong labour market dynamics, and supportive fiscal policy. However, these effects may take time to play out.

Dovish Mood Could Persist in Near Term. Read the full piece here.

Viresh Kanabar has worked in the UK financial services industry for over 8 years including in Consulting and Investment Risk. Most recently he launched The Macro Journal Substack where he puts out regular in-depth reports covering all areas of global macro.

Photo Credit: depositphotos.com

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)