Norway Selling its EM Bonds?
Norway’s $1 trillion sovereign wealth fund got the go-ahead to cut government and corporate bonds from emerging markets in an overhaul of its $310 billion fixed-income holdings.Interestingly, this afternoon, I was looking at the breakout in emerging markets stocks (EEM) which have been coming back nicely this year (click on image):
The decision, announced on Friday by the Finance Ministry, comes after more than a year of deliberation. The fund will cut bonds from 10 emerging market countries in its index, including Mexico, South Korea, Russia and Poland, and will also be limited in its investments in emerging markets outside the index, such as Brazil and Indonesia.
The fund will still have leeway to invest up to 5 percent of its bond portfolio in emerging markets, or about $15 billion. It currently owns about $28 billion in such investments, with the biggest holdings in South Korean and Mexican debt.
The move doesn’t go quite as far as the initial 2017 proposal from the fund, which called for whittling its bond holdings down to just three currencies: the euro, the dollar and the pound. Big currencies such as the yen, the Australian and Canadian dollar and the Swedish krona were spared. The ministry also rejected the fund’s wishes to cut developed market corporate bonds.
The proposal was made after the fund got approval to lift its stock holdings to 70 percent of its portfolio. It has argued it makes little sense in owning government bonds across the world since they have become more correlated and that it’s also exposed to a wide array of currency risk through its ballooning stock holdings.
Reactions were muted in emerging markets.
“I understand this is a strategic decision,” said Ulrich Leuchtmann, head of currency strategy at Commerzbank AG in Frankfurt. “They change the benchmark. It’s not a sign that they get increasingly bearish on EM right now.”
He said that a shift of developed market central bank to “to a longer (perhaps permanent)” ultra-low interest-rate policy “should keep hunt for yields in general alive,” he said.
The specific changes and an implementation plan will be prepared in consultation with the fund after parliament’s deliberation of the white paper, the ministry said.
The government also agreed to allow the fund more time to do so-called re-balancing of the portfolio when it strays too far from the benchmark weighting.
Thomas Sevang, a spokesman for the fund, said it will read the report “with interest” and have an “orderly implantation after the mandate is updated.”
Also, as shown below, emerging markets bonds (EMB) have been performing very nicely too this year, and unlike EM stocks, they are making new highs (click on image):
So, I was a bit surprised when I read the news that Norway's giant fund decided to go ahead and cut government and corporate bonds from emerging markets in an overhaul of its $310 billion fixed-income holdings.
Now, Norway's giant sovereign fund isn't selling emerging markets bonds because they're bearish on emerging markets, so I wouldn't read too much into this decision (it's a strategic, not a tactical call).
If anything, I take strength in emerging markets stocks and bonds as a very positive sign that global growth will pick up in the months ahead and if the Fed stays put, it will engineer a soft landing.
Earlier his week, an astute blog reader of mine sent me Tim Duy's comment, There Will Be A Recession At Some Point, But It Won’t Be Soon. This morning's US jobs report supports this claim as the job market bounced back in March with a 196,000 gain in payrolls.
But what worries me is this chart below, the continued strength in the USD ETF (UUP) which is inching closer to making a new high (click on image):
If the US dollar is rallying because global investors remain jittery and are therefore placing a premium on USD assets, then I'd be cautious about interpreting too much into the rally of emerging markets bonds and stocks.
And while emerging markets stocks are headed for their longest winning streak in over a year, there are still issues with some EM countries:
[...] Turkey’s lira weakened and is headed for a 0.5 percent weekly decline as markets await the outcome of a vote recount in Istanbul, where the main opposition candidate said he remained ahead by nearly 19,000 votes.It remains to be seen what will happen in Turkey following the elections but it's clear the country is at a critical point in its relations with the West.
The lira has been under pressure from declining economic indicators, rising tensions with the United States and uncertainty around local elections. Fears are growing that last year’s 30 percent slide of nearly 30 percent will be repeated.
“European investors are concerned about economic and financial market distress in Turkey. While not a part of EU, Turkey is a major trading partner of many European economies, and the demand destruction there in the past year has been felt acutely by the regional exporters,” said economists at DBS Economics & Strategy.
A Reuters poll showed that 2019 outlook for emerging-market currencies was mixed, despite the U.S. Federal Reserve’s recent dovish stance.
Another thing that concerns me is how US long bond yields remain near their yearly lows and prices (TLT) near their yearly highs (click on image):
If global growth is really coming back, I'd expect to see a much more significant backup in bond yields (drop in bond prices), but so far the bond market isn't buying any of this global growth story.
All this to say, I'm not convinced the Risk On trade will dominate in the second half of the year, even if the Fed manages to orchestrate a soft landing. That all remains to be seen but so far, the trading in emerging markets stocks and bonds is encouraging and doesn't signal trouble ahead.
Will Turkey change this? Who knows, it might if something blows up there and Turkish shares (TUR) look like they're rolling over here and could retest their lows (click on image):
Still, the S&P 500 ETF (SPY) is getting ready to make a new high and if it does, we can see a meaningful breakout in US stocks (click on image):
And to all the skeptics out there, have a look at how semiconductor shares (SMH) have performed recently, they broke out and are making new highs (click on image):
There are areas of this market which clearly signal Risk On is picking up steam which is why I can't discount the possibility of another bubble in stocks even if I remain cautious given that global PMIs remain weak.
But have a look at the how the S&P sectors performed this week, courtesy of barchart (click on image):
As you can see, all the cyclical sectors rallied hard this week, namely, materials, financials, industrials and energy. This is definitely a bullish sign for those arguing that global growth is coming back.
And since it's Friday, here are the top-performing US stocks for this past week, courtesy of barchart (click on image):
Again, a lot of small cap biotechs and one shipping company that I recognize but most certainly not brand name stocks here.
Also, here are the top large cap US stocks year-to-date, courtesy of barchart (click on image):
That wraps my long week, hope you enjoyed this comment and all the other comments I posted this week.
Below, Omair Sharif, Societe Generale senior US economist, and CNBC's Steve Liesman join 'The Exchange' to discuss March's jobs report numbers and what it means for the economy on the horizon. They also discuss Trump's Fed nominees Herman Cain and Stephen Moore.
Second, Goldman Sachs chief economist Jan Hatzius joins 'Squawk on the Street' to discuss the March jobs report number and his thoughts on the state of the US economy.
Third, Ruchir Sharma, chief global strategist and head of emerging markets at Morgan Stanley Investment Management, joins CNBC's "Closing Bell" team to break down where emerging markets are headed.
Fourth, CNBC's "Closing Bell" is joined by Ruben Roy from MKM Partners and Kevin Rottinghaus from Edgewater Research to talk about semiconductor stocks and whether the rally can last.
Lastly, Jane Foley, head of FX strategy at Rabobank, and Emmanuel Cau, head of European equity strategy at Barclays, discuss the US-China trade talks and their impact on markets. They speak on “Bloomberg Daybreak: Europe.”
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