US EARLY MORNING: Stocks lower on global recession fears; Fed Chair Powell's Friday speech at Jackson Hole is the main event of the week

SNAPSHOT: US equity futures are lower, with the growth style coming under pressure amid global growth concerns. YM -0.9%, ES -1.1%, RTY -1.1%, NQ -1.4%. Overnight, Asia-Pac stocks were mostly lower amid headwinds from global inflationary concerns and power restrictions in China, while participants also digested the latest PBoC rate actions where it asymmetrically lowered LPR rates following cuts to MLF and RRP rates last week, as policymakers attempt to support the economy after weak July activity data. European equity indices open lower at the start of the week; gas prices are surging on news that Russia’s Gazprom will shut down the Nord Stream 1 pipeline for three days at the end of the month to conduct an unscheduled maintenance, exacerbating recession fears, while participants are concerned whether flows will resume after this period, despite Gazprom’s assurances that it would. Crude oil prices, meanwhile, as easing amid hopes that an Iran nuclear deal could help offset the absence of Russian barrels on the international markets, although Iranian officials on a deal caution that ‘nothing is done until everything is done’. The fixed income complex is bid as risk sentiment comes under pressure, with Treasury yields narrowing by 1-3bps, with most of the rally being seen in the belly; 2s yields are a little higher as concessionary dynamics play a role ahead of this week’s shorter dated US supply.

GROWTH VS VALUE: The FT reports that large investors have been favouring the growth style over value in recent months driven by shifting views on interest rates, inflation and the threat of a US recession; value strategies have been underperforming since mid-June when US stocks began a rebound. The sell-side commentary over the weekend has been attempting to dissect whether the recent upside in stocks is indeed a catching the Fed pivot, or whether it is a bear market rally. Goldman Sachs’ analysts says the recent performance resembles both bear market rallies and end of Fed hiking cycle: The bank points out that recent sector and factor performance closely resemble the historical patterns around the actual end of Fed hiking cycles; “Cyclicals have outperformed defensives by a median of 2ppts following the end of Fed hiking cycles, and since the June trough, cyclical industry groups have outpaced defensive ones by 6ppts,” it writes, “momentum has reversed and small cap companies have outperformed large ones, both matching the median historical experience.” By sector, GS observes that Tech is outperforming, while Energy, Staples, Communication, Health Care have all lagged, similar to the usual rotations when the Fed stops hiking rates. Nevertheless, recent performance has differed from the typical end of Fed hiking cycles in a few ways, GS says, as Financials and Industrials have failed to outperform like they historically have. It goes on to note that the S&P rebound also resembles bear market rallies: “We analysed 6 bear markets and 17 rallies since 1981,” GS says, “during that time frame, the average bear market rally lasted 43 days and saw the S&P 500 rebound by 14%, the index’s 17% appreciation during the last 63 days looks similar to this pattern.” And the factor performance also resembles that of a bear market rally, with cyclicals outperforming defensives by about the same magnitude as the median experience, where Growth has outpaced Value, as it historically has during these rallies, and Momentum has reversed. “While the index, sectors, and factors behave similarly in both situations, the 2000 experience illustrates the risk that the market could decline even after hiking stops if the US economy enters a recession,” it writes, “by contrast, if inflation surprises to the upside and requires the Fed to tighten more aggressively than our economists expect, we would expect equity valuations to compress as a result.” In terms of what this means for traders, GS argues that given this macro backdrop, upside seems limited while downside risks loom.

DAY/WEEK AHEAD: The economic docket is light for today (full day ahead here), but the highlight of the week is Fed Chair Powell's remarks at Jackson Hole on Friday. Traders will naturally be looking for some steer on the increment by which the FOMC will lift rates on September 21st; the current expectation is that 50bps is more likely than 75bps, although Powell will reiterate that it will depend on incoming data (NFP on 2/Sep, CPI on 13/Sep). Q3 macro indicators have been constructive, dismissing Q2 recessionary signal (NFP upside surprise, CPI downside, ISMs), and has allowed the Fed to lean back against the policy pause narrative, but still gives cover for a downshift to 50bps. Perhaps more useful, however, is the debate surrounding the terminal rate. More specifically, where officials estimate it is (the June SEP forecast 3.75-4.0%; market view is around 3.5-3.75%), when we will get there (before the end of the year is likley), and how long will the Fed be able to hold rates at Terminal. BMO Capital Markets offer us some historical context, noting that the Fed has typically stayed at terminal for between 3-15 months, with the average being around 6.5 months. The upshot is that if terminal is achieved by year-end, it could imply a rate cutting cycle will begin in H2-2023. Week Ahead preview here.

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22 Aug 2022 - 09:39- Research Sheet- Source: Newsquawk

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