A struggling reflation trade

Risky assets moved slightly lower last week as concerns over rising Covid cases are mounting. While sentiment was fragile, the correction in stock prices was contained and equity markets continue to display strong year to date gains, with the S&P 500 up over 11% and its European equivalent, the Euro Stoxx 600, up close to 14%. We have got a busy week ahead of us on the earnings front with 35% of the S&P 500 companies reporting their Q1 2021 results, including major technology firms.

Among the highlights include Tesla on Monday, followed by Microsoft, Alphabet, Visa, Starbucks, General Electric, HSBC, and UBS on Tuesday. Wednesday then brings Apple, Facebook, Boeing, Sanofi, GlaxoSmithKline, Santander, Ford, Lloyds Banking Group and Sony. On Thursday, releases include Amazon, MasterCard, Merck, McDonald’s, Royal Dutch Shell, Caterpillar, Total, Twitter, and Samsung Electronics. Finally on Friday, there’s more reporting from the oil sector in the likes of Exxon Mobil and Chevron, as well as BNP Paribas and Barclays from the financial sector.

In fixed income, the reflation trade continues to struggle, with nominal yields moving lower last week. The US yield curve moved lower across all of the curve, with the 10 Year US treasuries closing the week at 1.5595. 10 year US Real Yields are now 19bp lower than their peak in March, as reflation price action has weakened.

The biggest event this week is Wednesday’s Federal Reserve meeting and Chair Powell’s subsequent press conference. Strong data since the March meeting has validated the Fed's optimistic set of forecasts. As such the message is likely to remain unchanged: more optimism on the economy but still far from goals with policy based on outcomes, not projections.

The consensus is that April is too soon for the return of taper talk, and these discussions are expected to heat up during the summer instead. Historically, taper talk has been a trigger for volatility in equities, therefore active investors need to fight the complacency brought about by dovish accommodative fiscal and monetary policy and be aware of the risk of a reversal.

Another highlight this week is President Biden’s first speech to a joint session of Congress on Wednesday. Key discussions include the American Families Plan, which is expected to include fresh proposals on childcare and education. This sits alongside the American Jobs Plan that Biden has already unveiled, where he proposed investing over USD 2 trillion in infrastructure and other priorities, to be financed through higher corporate taxes.

The pandemic remains a key catalyst whereby in a seemingly parallel universe to Malta, numerous countries have moved to toughen up restrictions, with Japan shortly expected to declare a state of emergency in Tokyo and other areas. India has been one of the worst-affected countries at the moment with over 300,000 cases daily. The war between vaccines versus rising and mutating cases is still clearly raging which has dampened sentiment over the past week.

Finally, a positive catalyst may emerge from GDP. Initial estimates of Q1 GDP are coming out this week for numerous countries, including the US, the Euro Area, Germany, France and Italy. Inflation prints are also set to be reported, with the Euro area headline inflation affected by higher energy prices while core inflation remaining more subdued due to continued weakness in the pandemic-prone sectors.