rob zdravevski's blog

Macro Extremes (week ending October 14, 2022)

The following assets (on a weekly timeframe) registered an Overbought or Oversold reading and/or have traded more than 2.5 standard deviations above or below its rolling mean.

Extremes “above” the Mean (at least 2.5 standard deviations)

EUR/AUD

Overbought (RSI > 70)

U.S. Dollar Index (DXY)

TBX

U.S. 2,5, 10, 20 and 30 year government bond yields

German 2, 5 & 10 year government bond yields

British 5 year government bond yields

Spanish, French, British, Greek, Italian, Korean, Portuguese and New Zealand 10 year government bond yields

The Overbought Quinella – Both Overbought and Traded at > 2.5 standard deviations above the weekly mean)

TBT

Extremes “below” the Mean (at least 2.5 standard deviations)

INR/AUD

AUD/CAD

Shanghai Composite

CSI 300 

FTSE 100

Oversold (RSI < 30)

Tin

Hot Rolled Coil Steel (HRC)

TLT

IEF & IEI

CAD/USD

EUR/USD

NZD/USD

CNH/USD

DKK/USD

JPY/USD

ZAR/USD

KRW/USD

SEK/USD

Hang Seng’s HSCEI and HSI equity indices 

And Taiwan’s TAIEX equity index

The Oversold Quinella – Both Overbought and Traded at > 2.5 standard deviations above the weekly mean)

AUD/USD

AUD/SGD

Notes & Ideas:

The big news for the week was the first visit for the AUD/USD into a quinella of Oversold readings not seen for 2.5 years, which last occurred in March 2020.

The Aussie was also weak against the Singapore Dollar and the Euro (it has lost 8% vs EUR in a month) although more interestingly against another commodity sensitive peer, being the Canadian Loonie.

There will be a seperate post about my thoughts on the AUD/CAD currency cross.

This somewhat correlates with the was weakness in the energy commodities complex but that is OK for in last week’s edition I wrote, “ Gasoline, Brent, Heating Oil and Diesel rose somewhere between 15% and 26% in a single week”.

In other news, equities were mostly muted except for the movers in the list below while Palladium and Silver had a rough week.

If you are a ‘market person’ you’d know that many government bond yields (albeit they rose for the week) are not higher than seen 3 weeks ago.

The British Pound against the USD and other currencies is no longer Oversold. In fact, the Aussie has weakened 8% against Pound Sterling in the past 2 weeks. That’s a heck a move for a developed world currency cross however the fact that the AUD/GBP is no longer overbought isn’t a surprise as it was reported at such an extreme in this publication 3 weeks ago.

In other news, Bitcoin hit an intra-week low of $18,131. It’s lowest since June 13, 2022. The prior time that it traded that low was in December of 2020.

Cotton and Toronto’s TSX mean reverted to its 200 week moving average.

The New Zealand 10 year yields reappeared into Overbought territory.

The South Korean KOSPI isn’t Oversold this week.

The Philadelphia Semiconductor Index (SOX) has now fallen 30% in the past 10 weeks. 

The second biggest news was that most of the energy complex (attributing much to the CRB Index percentages rise) had a cracker of a week with Gasoline, Brent, Heating Oil and Diesel rose somewhere between 15% and 26% in a single week……all except Gas, including Natural Gas which saw an intra-week low of $6.30 and closing in on my $5.00 target.

Dutch TTF Gas and the Japan-Korean LNG Marker continue their string of notable weekly declines.

It’s not a surprise that Rotterdam delivered coal rose 5% follow a 34% drubbing over the past 5 weeks and after touching an Oversold extreme last week and that the Baltic Dry Index fell 6% following its tear of 81% over the past 5 weeks.

The larger advancers over the past week comprised of; 

Australian Coking Coal 3.9%, Aluminium 1.8%, Rotterdam Coal 4.7%, Lumber 10.9%, Uranium 4.1%, Oats 5%, DAX Index 1.3%, Copenhagen 2.6% and Helsinki rose 1.9%.

The group of decliners included;

Bloomberg Commodity Index )3%), Baltic Dry Index (6.3%), WTI Crude (7.6%), Gasoil (13.7%), Gold (3%), Lean Hogs (11.5%), JKM LNG Marker (6.4%), Coffee (9.8%), Tin (2.2%), Natural Gas (4.4%), Palladium (8.9%), Platinum (2.5%), Gasoline (3.8%), Silver (9.2%), CRB Index (3.1%), Dutch TTF Gas (9.1%), Brent Crude (6.8%), Silver in AUD (6.9%), Wheat (2.3%), SP GSCI (5.2%), AEX (2.6%), HSCEI (7.3%), HSI (6.5%), Bovespa (3.7%), Nasdaq 100 (3.2%), Oslo (2%), SOX (8.3%), STI (3.4%), TAIEX (4.2%), FTSE 100 (1.9%), Nasdaq Composite (3.1%) and Australia’s ASX 200 was flat for the week. It fell 0.06%.

October 16, 2022

By Rob Zdravevski

rob@karriasset.com.au   

The real return matters

Once upon a time when you bought a government bond to receive a yield of 2% and the inflation rate was 1%, your real return was 1%.

When bonds were yielding 0.5% and inflation was 0.5%, the real return was 0%. At least investors weren’t losing money.

Heck, when German 10 year bonds were yielding negative 0.5% and inflation was negative 0.2%, investors capital remained mainly intact.

Now that bond yields have risen sharply, many holders of those bonds have lost capital. If you are not aware, when the price of a bond falls, the yield inversely rises. And vice-versa.

Today, if you are tempted to or are pondering buying a U.S. government bond, you will receive a 4% yield but when inflation is 7% (and I’m being kind), your real return is Negative 3%.

With this losing prospect, (unless you seek riskier or distressed opportunities) many investors are choosing to either sell their bonds (and realising capital losses) or not buy them at all.

This is exacerbating the selling or general distaste of or for bonds and that means prices continue to fall as bond yields rise further.

The latter is a problem for governments or companies who need to issue debt. Their interest (coupon) repayments costs are higher than recent times.

If you are in business, the cost of (capital) borrowing is now more expensive.

But, if investors are selling bonds or choosing not to buy them, logically that means those intended funds are remaining as cash.

The real return for cash is worse than being in bonds.

Real Estate may yield 3% or 4% but its real return isn’t any better especially if you need to account for taxes and any borrowing costs.

Commodity prices do correlate well with inflation and worthy of investment merit although they don’t produce income or a yield per se.

This brings me to the equity market.

Generally speaking, valuations of many equity markets are not demanding in their own right.

When compared to their real return (earnings yield minus inflation) they are presenting a slightly better proposition than government bonds.

The S&P 500 has a forward P/E of 16, thus its earnings yield (divide the PE ratio of 16 into 100) is 6.2% and so when we subtract a 7% inflation rate, it becomes slightly negative.

That is better than the (3%) real return from a 10 year government bond.

S&P MidCap 400 P/E is 13 so its earnings yield of 7.7%, making the real return slightly positive or breaking even.

The Chinese equities market has a P/E of 10 which calculates into a 10% earnings yield. Subtracting the China inflation rate of 3% (its actually 2.7%) renders a positive real return of 7%. When also you ponder converting USD into a weak Yuan…….Whoa !!!

If those index examples are not enticing enough or too risky, then individual equities may offer a better return whilst possibly taking less risk.

There are companies with terrific franchises trading at P/E ratios of 8 (or an earnings yield of 12%) with real businesses, hard assets and have little to no debt.

Instead I’ll look at companies that have real businesses, with hard assets and current cashflows. The ones which don’t have any debt or only a little.

The ones with P/E ratios below 8.

And if they have debt, some of them issued their bonds cleverly such as Apple’s recent 40 year maturities on a yield of 2.8%. This implies that Apple Inc. is more creditworthy than the U.S. Government.

I like the the type of companies whose businesses are solid and don’t rely on the ‘kindness of a stranger’ to use them. Companies who may have market share or pricing power. Where they have balance sheets and income statements which suggest that one year of EBITDA (even if its discounted and reduced) would easily cover all of its debt, where its current assets could pay off the whole of its total liabilities or where I don’t want to pay too much for an inflated amount of goodwill.

With a little more movement in markets and adjustment in corporate valuations, equities could once again carry the moniker of T.I.N.A. …….There Is No Alternative.

More so, with all this cash sitting around earning negative real returns.

October 12, 2022

by Rob Zdravevski

rob@karriasset.com.au