Markets climb as US political dust settles, AO World plunges

European stocks rose as global risk appetite got a fillip from the US political front as Donald Trump formally began the transition of power to Joe Biden’s camp, whilst news of ex-Fed chair Janet Yellen being the top pick for the US Treasury was also greeted with approval.

Trump’s decision to effectively acknowledge Biden as the president-elect (though he will keep fighting the result) removes any last vestiges of a constitutional tail-risk for markets. Clearing the way for an orderly transition may also allow for a more effective policy response – dare we talk about stimulus again?

Meanwhile, Janet Yellen is also seen as a market-friendly Treasury Secretary after her dovish stint at the Fed. Positive vaccine news continues to underpin confidence in reopening trades. This will be a fascinating comeback for a very able Fed chair who was ditched by Donald Trump.

Having closed marginally lower in the previous session, the FTSE 100 climbed back to yesterday’s peaks – starting to knock on that important 6,400 level enough times to break through, or will too many failures deter the bulls?

The daily chart indicates a bullish break out of the flag formation beginning to form, but we need to take out last week’s high at 6,463. US stock futures rose after a positive session on Monday as we head into a Thanksgiving-curtailed back end of the week. The S&P 500 is set to open back above 3,600. WTI crude moved to the top of the long-term range at $43.75.

Deutsche Boerse announced it will increase the number of stocks listed on the blue-chip DAX index from 30 to 40 next year. Expansion will take place in September 2021 with the mid-cap MDAX to shrink from 60 to 50 members to facilitate the change.

Meanwhile, as of Dec 2020, members will be required to have had positive earnings before interest, taxes, depreciation, and amortisation for the past two financial years. The move could have some implications for traders, but we will dig deeper into these changes and potential ramifications. Clearly, the Wirecard fiasco has rocked confidence in the system. Regulators are tightening up various aspects of index inclusion to make the process more robust and avoid a repeat of Wirecard.

Let’s go: AO World shares fell 12% despite blockbuster half-year results as the company failed to deliver any detailed guidance for the rest of the year in its half-year report. The stock has been the best performer on the FTSE 350 this year, rising 364.56% YTD by yesterday’s close. The numbers are undeniably impressive but with such stellar gains this year, it’s no surprise to see some selling on the news.

Revenues rose 53.9% in the UK, and by 85.2% in Germany. Total revenues were up 57.6%. Adjusted EBITDA for the UK +140% to £32.6m, whilst in Germany it was +61.6% though still a loss at –3.8m. Group operating profit rose 260% to £16.8m and pre-tax profits rose 417% to £18.3m.

Lockdowns created a unique selling opportunity for online retailers this year that AO World has exploited to the full, whilst there has been a structural shift in the electricals market to online. Today’s sharp move lower can be put down to profit-taking after this year’s run-up and the absence of any clear guidance for the rest of the year.

Indeed, if you subscribe to the reopening trade rotation back into value then with a PE multiple of 1,200 this is a very richly valued stock that may find it hard to sustain the level of growth seen in 2020.

GBPUSD retains its upside bias as sterling continues to track higher on hopes for a Brexit deal, though persistent dollar weakness is helping. Cable flirted with almost 3-month highs at 1.34 before paring gains but continues to hug the bullish channel.

EURGBP also dipped to test the area around 0.88670, the lows of Jun and Sep. The outline of a deal is likely to emerge in the next few days. There are several permutations – a skinny deal, an incomplete deal with partial extension of the transition to allow finer details to be worked out next year, or a complete and comprehensive trade package.

The last of those would be the most positive for the pound, however, I fear it will be a more nuanced package and one that still leaves the UK with a number of non-tariff type barriers that weighs on demand for sterling. Remember no deal is not an end state, though of course, it would entail significant disruption in the New Year. Michel Barnier has warned that significant divergences remain, but the Irish leader says he’s hopeful of a deal being announced as early as the end of the week. I would be prepared for a material announcement towards the end of the week.

Cometh the vaccine, cometh inflation?

There were some big swings in the dollar and gold after a surprise rise in US economic output in November signalled by the flash composite PMI. The divergence between the world’s largest economy and the situation in Europe, where lockdowns have been in place for the month of November, is stark.

▪ Flash U.S. Composite Output Index rose to 57.9 (56.3 in October), a 68-month high.
▪ Flash U.S. Services Business Activity Index rose 57.7 (56.9 in October), also a 68-month high.
▪ Flash U.S. Manufacturing PMI rose to 56.7 (53.4 in October), a 74-month high.
▪ Flash U.S. Manufacturing Output Index jumped to 58.7 (53.3 in October), again a 68-month high.

Note this important paragraph from the report: “The improving demand environment allowed increasing numbers of firms to raise their selling prices, with November consequently seeing the quickest rise in prices yet recorded by the survey. The rate of inflation hit a record high in the service sector and a 25-month high in manufacturing.”

I’ve talked before about how the pandemic will be initially deflationary but ultimately likely to spur a bout of inflation. The pent-up demand, glut of savings, supply chain disruption and vast amount of monetary and fiscal stimulus creates a powerful environment for inflationary pressures to take hold. On the supply chain side, the trend towards greater resilience over ‘lowest-cost-is-best’ will be an important upward pressure on prices. Add to that cocktail a vaccine regime that gets life back to normal relatively quickly next year and inflation expectations may start to become unanchored.

Paraphrasing Paul Tudor Jones in May, the question of whether the current bout of money printing will ultimately prove inflationary comes down to how reasonable is it to expect that in the recovery phase the Fed will be able to deliver an increase in interest rates of a magnitude sufficient to suck back the money it so easily printed during the downswing? Most agree it won’t be easy – in fact the new average inflation targeting policy shift would effectively kick the can down the road for many years. The Fed is not even thinking about thinking about sucking the money back in.

Gold broke down at the key $1,850 support yesterday as the dollar roared back to life on those positive PMI numbers. The 38.2% retracement briefly offered support but this too has failed, and the move lower now opens the path to the 200-day line at $1,793.

Gold broke down at the key $1,850 support yesterday as the dollar roared back to life on those positive PMI numbers.