The Illusion of Control

  • We expect the year-end equity market consolidation to begin from here. We expected profit-taking to prevail in the US market after Thanksgiving. As for Europe, we must be close to the point at which market expectations of QE-max from the ECB generates frustration that investors are being made to wait.
  • We devote most of this week’s note to the reverse oil price shock, the first to take place in a context of deflation anxiety in the major economies. The resulting world-wide redistribution of income is welcome. However, the positive effects upon growth, although significant in the medium term, will probably be slower to manifest themselves than many are hoping.
  • The realignment of oil prices encourages the shift in leadership from “global growth” to growth that is more regional and domestic in nature. We are short “global” cyclical segments. We are long regionaldomestic cyclicals, exemplified by Transportation and Travel & Leisure.

Recommended sector and market asset allocation

The familiar forecasts for the New Year ahead emphasise how bullish the sell-side consensus has become about the outlook for developed equity in general, and Europe in particular. At first sight the mini-collapse in the price of oil would appear to reinforce the positive arguments for developed equity. Although we are not an equity bear we do not want to participate in the year-end party atmosphere. We think that it is too early at this time for market recovery to be sustained. We do not think that an aggressive, high beta portfolio is appropriate here.

We devote most of this week’s note to the reverse oil price shock. The resulting world-wide redistribution of income is welcome. However, this is the first such shock in recent history to take place in an environment of deflation anxiety in the major economies. It is producing controversy about the conduct of monetary policy. Its positive effects upon growth in the major economies, although significant in the medium term, will be rather slower to manifest themselves than many are hoping. We doubt that the growth of output world-wide will re-accelerate before the spring. The reverse oil shock is a significant component of the realignment of asset values that is encouraging the emergence of a new pattern of growth leadership in trans-Atlantic markets. Growth leadership is shifting from “global growth” to growth that is more regional and domestic in nature. We continue to be under-weight “global” cyclical segments like Capital Goods and Chemicals. We continue to be over-weight regional-domestic cyclicals, exemplified by Transportation and Travel & Leisure.

We said that profit-taking would probably prevail on the US equity market after Thanksgiving. As for Europe, we must be close to the point at which market expectations of QE-max generates frustration that investors are being made to wait. The ECB general council has not changed its nature. There is not a clear majority for a pre-emptive counter-deflationary strategy. We expect the year-end market consolidation to begin from here.

Weightings and asset allocation for the MSCI Europe Universe



01/12/2014 Neutral weight in MSCI (%) 2-yr beta values
(vs MSCI)
Tactical sector rating Recommended allocation (%)
Consumer Discretionary 10.4 1.1 OW 13
Automobiles & Components 3.2 1.5 N 3
Consumer Durables & Apparel 2.5 1.0 N 3
Consumer Services 1.0 1.0 OW 2
Media 2.2 0.9 OW 3
Retailing 1.4 0.9 OW 2
Consumer Staples 13.7 0.8 OW 15
Food & Staples Retailing 1.2 1.0 UW 0
Fod Beverage & Tobacco 10.7 0.7 OW 13
Household & Personal Product 1.8 0.7 OW 2
Energy 7.8 0.9 N 8
Financials 23.0 1.2 UW 20
Banks 12.4 1.2 UW 10
Diversified Financials 3.2 1.3 UW 2
Insurance 6.1 1.1 N 6
Real Estate 1.3 0.9 OW 2
healthcare 13.7 0.8 OW 16
Healthcare Equipment & Services 1.2 0.7 OW 2
Pharmaceuticals & Biotechnology 12.5 0.8 OW 14
Industrials 11.0 1.1 UW 9
Capital Goods 8.3 1.1 UW 5
Commercial Services & Suppy 1.2 0.8 UW 1
Transportation 1.5 1.1 OW 3
Information Technology 3.4 1.1 OW 4
Software & Services 1.5 1.0  UW 1
Technology & Hardware Equipment 1.0 1.3 OW 2
Semiconducors 0.9 1.2 OW 1
Materials 7.5 1.1 OW 5
Telecommunication services 5.3 0.9 N 7
Utilities 4.3 0.8 N 4
Exposure to risk
(beta value)
  0.99    
Lquidity ratio   6%    
* The exposure to risk is measured by the weighted average of 2-y betas.
We manage the liquidity ratio within a 0-10% rank.
Source: Kepler Cheuvreux