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It has been a mixed week for equities as disappointing corporate earnings mixed US data and uncertainty over Greece offset the euphoria from the European Central Bank’s quantitative easing programme announced last week.
The Greek electorate’s emphatic rejection of austerity blew a cloud of uncertainty over the Eurozone wiping almost 20% off the country’s stock market this week while the yield on three-year government bonds jumped towards 17% the highest since the country completed its debt restructuring in 2012.
The broader impact of the election result was more muted with other peripheral Eurozone yields remaining close to recent record lows. This reflects a belief that the Syriza-led government would reach a compromise with creditors although contagion could spread as negotiations drag on.
The mood in markets was hit by the US Federal Reserve’s upbeat view on the US economy signalling that it remained on track to raise interest rates this year despite an uncertain global outlook. The Fed’s optimism and hawkish tone contrasted with a recent spate of dovish policy shifts at many other central banks around the world citing the drop in oil prices as a transitory factor that benefits consumers.
US durable goods orders viewed in the markets as a proxy for business investment dropped sharply in December. Headline orders fell 3.4% last month compared to expectations for a modest increase while November’s decline was revised lower from 0.7% to 2.1%. Orders have now fallen for four consecutive months as a slowing global economy strong dollar and plummeting crude oil prices have made businesses cautious about undertaking new investments.
Oil prices remained marginally above their recent lows supported by positive comments from OPEC strong equity markets and slight weakness in the US dollar. Recent data however revealed record US stockpiles yet as inventories fill-up and oil supply continues to pump prices appear vulnerable to renewed weakness.
On a domestic front Britain’s economic growth slowed more than expected in the final three months of last year but 2014 recorded the fastest annual growth rate since 2007. Fourth quarter growth fell to 0.5% from 0.7% in the previous three months slower than the 0.6% growth expected yet for the year as a whole the economy grew by 2.6%.
Meanwhile retail sales in January slowed less than expected helped by the largest rise in clothing sales in almost two years as falling oil prices and low inflation mean consumers have more disposable income.
Technical analysis of the FTSE 100 illustrates the choppy trading of late with the blue-chips currently trapped in a tight range between 6740 and 6890. The bearish divergence evident from the fading oscillators suggests that momentum is dwindling implying a break lower looks likely. Additional support is seen at 6650 6620 and 6550 although a break to fresh 14-year highs above 6910 could reinvigorate the bulls.
In conclusion European Central Bank support and low inflation are positive for equities in the short-term but the longer-term headwinds are growing. Deflation is a real threat in Europe while uncertainty about Greece and Russia mixed corporate earnings and a growing divergence between country specific economics and stock markets is a threat to valuations.
Historic performance in the six months following previous quantitative easing announcements in the US UK and Japan found that while it was generally positive for equities there were some clear losers. Beverages tobacco telecoms and pharmaceuticals companies seen as defensive bets because of their resilience during downturns generally underperformed after QE announcements as investors choose to invest in riskier stocks that stand to gain most in a growing economy.
A related stock I have been monitoring is (Epic: BATS) a global tobacco group with brands such as Dunhill Lucky Strike and Kent sold in more than 200 markets. A trading statement on 22nd October revealed a big fall in nine-month revenue blaming a slow recovery in Western Europe.
BATS said revenue fell 9.6% in the nine months to 30th September blaming currency weakness in its main markets. Cigarette volumes also declined 1% in the period as growth in the Middle East Pakistan and Ukraine failed to make up for falling demand in Russia Vietnam and Brazil.
The British-American tobacco group does a lot of business in Russia which has been impacted by the weak Ruble with 8% of sales and 6% of EBITDA coming from the oil-dependent nation. BATS stock slid over 10% in mid-December following the Ruble’s well-publicised descent but after improving initially the Ruble is back on multi-year lows yet BATS is undeterred.
Tobacco companies are constantly under attack from various regulatory amendments but the forthcoming UK general election casts a further shadow over the industry. If the opposition Labour Party wins it will immediately standardise cigarette packaging meaning all tobacco products would be sold in unbranded packs adorned with graphic health warnings. The present government are currently considering the proposal but it is unlikely to pass a law before the election.
The chart of BATS illustrates the recent volatility with the shares rallying back from the December sell-off. That said the close proximity of major historical resistance coupled with the bearish divergence evident from the overbought oscillators indicates it may fail to push higher near-term.
BATS is back on multi-year highs trading at a premium to peers on 17.4x earnings and faces headwinds from quantitative easing UK election and a strong US dollar. At the time of writing the share price is 3778.5p which traders might consider shorting. A tight stop-loss above resistance 3892p offers an attractive risk/reward bias with targets seen at 3627p and 3476p.
This report was written by Mark Allen – Head of Derivatives at Simple Investments Stockbrokers. The writer does not hold a position in but client accounts may. The material in this report has come from Simple Investments internal data sources Simply Charts and ’s corporate website.
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