Mixed sentiment has surrounded global markets this week as an approaching Brexit vote in June seems to have taken the biggest slice of market concerns.
Investors have in fact highlighted the negative implications a Yes vote would have on the UK economy, with the financial sector and universities primarily set to take the brunt.
With earnings season in the US approaching an end, over 75 per cent of companies in the S&P 500 have beaten earnings estimates, following analyst downward revisions in estimates.
With oil prices having stabilised in recent weeks and the FED keeping rate hikes on hold, US high yield debt has enjoyed ongoing rallies, on the back of significant undervaluation in the asset class during the peaks of the oil crisis and recession fears.
Affairs in Europe are looking better of late, despite France still struggling to regain momentum. German and Italian PMI’s (Purchasing Managers’ Index) last week beat expectations, supporting the increase in consumer confidence issued by recent surveys in the Eurozone.
The Brexit vote is no doubt keeping consumer confidence subdued, at least until a clearer outcome path is known. Recent talks on Greek debt relief have also had a positive impact on the yield on Greek sovereigns, whereby the 10 year yield as at yesterday tightened by a good 55 basis points. As a rule of thumb, tighter yield spreads are positive for bond prices.
One would have expected disappointing manufacturing data out of China last week to have a negative domino effect on US and European equities. The pair however stood firm to date and performed well this week thanks to stable oil prices.
The fears of a Brexit as soon as June has subdued the potential of consumer confidence to regain momentum. A yes vote, as stressed by investors could see the Sterling depreciate by estimates of over 20 per cent.
Not only would the currency take a hit, the UK’s financial sector has over 250,000 jobs reliant and exposed to ongoing relationships with the European union.
Nonetheless, UK Gilts have recovered to tighten by 24 basis points over the past 2 weeks, despite the release last week of negative services PMI in the UK, indicating the sovereign is possibly recovering from being oversold in recent weeks on market fears of a yes vote.
Patience will be key to the risk-on investor over the coming weeks. Should the UK remain a part of the EU, oversold UK assets could see significant upside potential, with the sterling at the foreground of any potential gains.
Meanwhile fading interest rate hike expectations in the US, complimented by an improving energy sector, allows for further upside in US high yield. Energy high yield issues account for over 13.5 per cent of the Merrill Lynch US High Yield Index, which year to date has returned over six per cent.
The risk-on investor may well get ready to source an attractive entry point, as the energy sector improves. Any considerations however should wait until a Brexit vote outcome is known.
Regardless of the correlation between US high yield and the UK, if any, a yes will vote will surely trigger a renewed wave of volatility that could affect all risky asset classes.
Disclaimer: This article was issued by Mathieu Ganado, Junior Investment Manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt .The information, views and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice. Calamatta Cuschieri Investment Services Ltd has not verified and consequently neither warrants the accuracy nor the veracity of any information, views or opinions appearing on this website.