Maybank KE SG: Putting the cart before the horse

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Maybank KE Singapore issued a note on 6 Feb 2018 suggesting that traders may have put the cart before the horse in the inflation-induced sell-off. I reproduced it here:


For some market watchers, markets could be tumbling on fears that the Goldilocks era could be coming to an end, especially after equity indices have been on a heady run since the start of the year.

For context, the sharp market correction was sparked by a stronger-than-expected US jobs report last Fri. Apart from robust job additions, the report showed upward pressure in wages, fuelling expectations that inflation may flare up, and force the Fed to accelerate the pace of rate hikes.

As a result, the US 10-year government bond yield spiked to 2.86% on 5 Feb from a low of 2.41% at the end of Dec ’17.

To this, Maybank KE highlights that historical bear markets and recessions typically occur when 10-year bond yield plunge (not rise. I confirmed it by checking historical charts. Quite surprising). Rising yields is a normal pattern seen in past growth recoveries, and during the early phase of Fed rate hikes.

The MSCI Asia ex-Japan stock market index has traded higher alongside rising 10-year bond yield in most of the previous Fed rate hike episodes. Therefore, the upward normalisation of 10-year bond yield is consistent with the current global growth recovery.

Moreover, it remains unclear whether the upward pressure in wages is sufficient to accelerate US core inflation, especially with the “Amazon effect” being a key mitigating factor for inflationary pressures in this era.

Online retailers are largely able to sell products at lower prices, thanks to cost cutting drivers such as automation and highly efficient warehouses. This also forces traditional retailers to keep prices low to stay competitive. Furthermore, growing penetration of e-commerce globally is also taking a larger slice of retail sales.

Finally, the house opines that central banks have moved away from the old-school “pre-emptive” to a “show-me-first” reaction mode. The Fed will likely want to see core inflation climb and stay above 2% before accelerating its rate hike pace.

Given this view, it would imply that the current market correction could present opportunities for investors to accumulate.

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