US equities tumbled as rate cut expectations are pushed back by the US Federal Reserve (Fed), coupled with tensions in the Middle East. The S&P 500 index plunged by 3.00% as Fed Chair Jerome Powell signalled that it may be appropriate to keep interest rates higher-for-longer, given the unexpected surge in recent inflation readings. At a forum in Washington, Powell further added that given the strength of the labour market and progress on inflation so far, it is appropriate to allow restrictive policy further time to work.
Treasuries rallied initially in response to heightened tensions between Israel and Iran, causing the US 10-Year Treasury yield to drop to 4.50% from 4.65% (prices move inversely to yields). However, rate markets later shrugged off the incident and closed the week unchanged.
Currently, Fed fund rates are pricing-in slightly more than 1 rate cut this year of approximately 30 bps. A rate cut at the upcoming June FOMC meeting seems improbable unless incoming data suggests a shift in economic conditions. The release of the core Personal Consumption Expenditures (PCE) price index this week could offer additional insights into the Fed's progress in managing inflation.
Earnings season has begun in earnest with 15% of S&P 500 companies already reporting their results. So far, these companies have surpassed earnings expectations by 9% indicating a strong start.
This week, attention turns to mega-cap names like Tesla, Meta, and Microsoft, which are scheduled to release their earnings reports. The street is forecasting the ‘Magnificent 7’ stocks to deliver a muscular earnings growth of 38% with Nvidia leading the pack.
Meanwhile, tensions escalated in the Middle East following reports that Israel conducted a limited strike against Iran in a retaliatory exchange. However, Iranian media outlets reported no damage from the intercepted drones in the central city of Isfahan.
While the situation remains fluid, a direct military confrontation appears unlikely due to geographical factors. Current domestic and economic challenges faced by Iran, Israel as well as its key ally US also put constraints on their capacity to engage in war. (Read more in our Fundamental Flash: Unpacking Israel-Iran Tensions)
In Asia, the MSCI Asia ex-Japan index closed 3.80% lower pressured by higher bond yields and the strengthening of the US dollar. Taiwan led losses with the country’s benchmark index plunging 5.80%, while Korea's KOSPI index also lost 3.40%.
On portfolio positioning, we decided to trim our exposure to Indonesia due to foreign outflows, especially as Asian currencies like the Indonesian Rupiah weaken against the US dollar. On the other hand, we increased our positions in India as it gears up for upcoming elections in June. Cash levels range between 5% to 10% for our regional portfolios.
On the local front, the benchmark KLCI saw minimal movement, closing at -0.20%, as market sentiment was dampened by escalating tensions in the Middle East. Profit-taking was observed in the property and tech sectors, resulting in declines of 4% to 7% for large-cap names within these industries. In contrast, commodities fared well such as aluminium producer Press Metal Bhd.
Despite relatively light news flow, there was further progress seen on upcoming subsidy rationalisation measures by the government which garnered attention from investors.
In terms of portfolio adjustments, we opted to trim our tech position including Inari Bhd. We also top-sliced our exposure in Sunway Bhd, reallocating funds towards laggard property names like SP Setia. Furthermore, we increased exposure in Press Metal Bhd as aluminium prices are expected to remain supported amidst strong demand.
Despite rising geopolitical tensions and US treasury rates volatility, the Asian credit space remained resilient. The activity in the primary market was also quite healthy. There were some sell off earlier of the week with investment grade (IG) spreads widening as much as 3 – 4 bps but recovered towards the end of the week. Asian IG index credit spreads remained unchanged W-O-W at 82 bps whereas Asian high yield (HY) underperformed, widening close to 20 bps to 606 bps.
Across the key markets, apart from selective Japanese and HY names, most of the IG names held on quite well. However, in the emerging market (EM) space, we saw a USD -360 million outflow bringing YTD outflows to USD 9.8 billion. The EM outflows cuts across both hard currency like the US dollar and other local currencies signaling an overall risk-off sentiment.
In the primary market, there were a few Korean IG names such as KEB Hana, Hyundai Cards, LG Electronics in the market. There was a notable deal from Yinson Production 5NC3 at 9.625% with overall bid-to-cover ratio of 2x. In the Aussie space, we participated in Sydney Airport 10-year senior secured bond and added position in HSBC Tier-2 and Australian Government Bond (ACGB).
Back home, we saw mild sell-off in the local bond market last week. This was largely due to a knee jerk reaction from higher US treasuries and rising geopolitical tensions. However, towards the end of of the week, US treasuries lowered and we saw better bids in the market. Overall, local yields were 3 – 6 bps higher at the end of the week. The 10-year Malaysian Government Securities (MGS) ended the week at 3.96% whilst the 30-year MGS stood at 4.24%. This impacted our local funds by 20 – 30 bps.
There were new issuances in the market including a 15-year MGS auction with bid-to-cover ratio of 2.0x at 4.05%. On the corporate side, we saw names like APM Auto and Sunway Healthcare issued new primary bonds. Both received strong demand at more than 5 – 6x. We are seeing more demand for corporate bonds compared to government bonds. However, despite demand from the secondary market, offers are sticky as most investors won’t sell at a higher price. Hence, demand during primary issuance remains strong. We also participated in both corporate issuances.
On Malaysia’s economic data, the advanced estimate for Malaysia’s Q1’2024 GDP is 3.90% Y-O-Y, in line with consensus. There was strong expansion across all sectors with the strongest being the construction sector at 9% and the lowest being agriculture at 1.5%. Trade data also showed improvement as contraction in exports was milder than expected at -0.80% compared to consensus’ -1.1%. Imports grew strongly at 12% showing demand for capital goods items. As for electronics and engineering (E&E), we are seeing a narrower decline to -1.5% compared to February’s -9.7%, indicating recovery in the E&E sector. As the GDP numbers are in line with expectations, economists are expecting Malaysia’s full year GDP growth to be 4% – 5%. We believe Bank Negara Malaysia (BNM) will maintain OPR unchanged at 3%.
On portfolio action, prior to the sell off, we have reduced our positions, primarily in government bonds and took profit on some corporate holdings. Local fund durations are at 5.5 – 6.3 years and cash levels are at 4% – 10%.
