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Investors Might Not Like It. They Still Buy It

European equities are now up more than 16% this year with both the DAX and Euro Stoxx 50 back in bull territory. While such a broad rally should suggest optimism and increased appetite for risk, sentiment indicators signal otherwise. Cautious is needed as a number of indexes are approaching strong resistance levels.

No matter how you look at it, the latest macro figures aren’t great. Geopolitical issues are here to stay and equities outflows have not reversed. Still, the market has rallied relentlessly. Whether it’s complacency or fear of missing out, traders are still buying.

The Stoxx Europe 600 estimated price-to-earnings ratio has risen back to 14, near a one-year high hit in April. The re-rating was purely driven by price, as EPS estimates have been relatively stable.

Barclays strategists say despite the rally, investors continue to de-risk and move into relative safe havens, like bonds and cash. They call it an “unloved” bull market. Global sentiment remains negative, whether you look at the Sentix index in Europe or the AAII Bull-Bear spread. The continuous rally in gold and the strong inflows into the metal’s exchange-traded funds is another sign of caution.

The sector momentum map also hints at the careful general sentiment. Investors may buy, but they favor safer or defensive sectors. Over the past 12 weeks, food & beverages have been leading, while momentum has been strengthening fast for utilities, health care, and even telecoms. By contrast, the drive for banks, basic resources, autos, retail and oil & gas has been weakening as fast.

Technically, the Stoxx Europe 600 is testing strong resistance levels. The index failed to break out from last July’s high (392.7) on several occasions in April this year. The index has also reached overbought territory.

The strong correlation between asset classes (almost everything has rallied this year) and the collapse of volatility, is increasing the risk of a broad negative turnaround, according to Unigestion strategists. The asset manager says in a note this week that it continues to use derivatives for equity downside protection. The low volatility may indeed create some cheap opportunities to hedge portfolios.

That said, Unigestion remains positive about risk assets, as investors’ positioning is still low, especially as it might be risky to fight the tape and the Fed, they say.

Clearly, the higher the market goes without a real resolution to the China-U.S. trade conflict or an effective central bank policy easing, the greater the risk of disappointment. The market is currently pricing a 100% probability of a Fed rate cut at the next meeting on July 31. The 50bps cut probability is about 24%.

In the meantime, Euro Stoxx 50 futures are trading little changed ahead of the open, while volumes might be lighter than usual as U.S. markets will be closed for Independence Day.

SECTORS IN FOCUS TODAY:

  • Watch the pound and U.K. stocks after yields on U.K. government bonds fell below the Bank of England’s policy rate, following the trend across European bonds as investors charge into the asset class seeking safety from ugly economic forecasts.
  • Watch miners as iron ore prices slipped back a little from recent highs after a warning that the jump in the price this year has left the material disconnected from fundamentals. Watch Rio Tinto, BHP, Anglo American and Ferrexpo and watch for any impact on steelmakers like ArcelorMittal, Voestalpine and Evraz.
  • Watch oil stocks as Brent prices edged lower after a smaller-than-expected decline in U.S. crude and gasoline inventories added bearish sentiment to a market reeling from a gloomy economic outlook. Watch oil majors like Shell, Total and BP, oil-services firms like Wood and TechnipFMC and smaller oil explorers like Tullow Oil and Lundin Petroleum.

COMMENT:

  • “Christine Lagarde’s nomination - and that of Ursula von der Leyen as Head of the Commission - means the risk of a hard Brexit has risen,” said Michael Browne, Co-manager of the Legg Mason Martin Currie European Equity Long/Short strategy. “These appointments smack of the thesis ‘the trouble with Europe is it is not integrated enough’ we should do more, and I expect the U.K. to be the first country to struggle with this, as it attempts to re-negotiate Brexit. This looks like a closing of ranks.”

COMPANY NEWS AND M&A:

  • Osram Confirms $3.8b Buyout Offer from Bain, Carlyle
  • Northstar Realty Europe to Be Bought by AXA For $17.03/Share
  • VW Management Board Completes Talks With Ford on Alliance: HB
  • Caixabank Sells NPL Portfolio to U.S. Funds: El Confidencial
  • Deutsche Telekom: T-Mobile on Cusp of Justice Department Approval for Sprint
  • EDP Renovaveis Secures 20-Year Contract at Greek Energy Auction
  • Danske Crisis Exposes Full Extent of Damage From Negative Rates
    • Danish Police Probe Danske Firing of Firm Hired to Examine AML
  • Banca Generali Is Not Up for Sale, Radiocor Says Citing Sources
  • Wacker Neuson Holder to Offer Up to 3.77m Shrs
  • Zalando to Invest EU200 Million in Dutch Distribution Center: FD
  • Germany’s Private, Public Sector Banks Reach Wage Deal
  • YIT to Sell Paving, Mineral Aggregates to Peab for EU280M

NOTES FROM THE SELL SIDE:

  • Nordex’s unexpectedly high 2Q order intake has led Citi to raise both its 2020 estimates and its price target for the wind-turbine maker. Broker boosts PT to EU14.60 from EU13.60 while keeping a neutral rating.
  • RBC downgraded Lufthansa to sector perform and slashed PT by 42% to EU14.5 following strategy update and Eurowings profit warning, with enterprise value mix outlook worsening.

TECHNICAL OUTLOOK for Stoxx 600 index:

  • Resistance at 392.7 (July 2018 high); 397.9 (May 2018 high)
  • Support at 385.7 (76.4% Fibo); 381 (50-DMA)
  • RSI: 70.7

TECHNICAL OUTLOOK for Euro Stoxx 50 index:

  • Resistance at 3,596 (May 2018 high); 3,687 (2018 high)
  • Support at 3,519 (76.4% Fibo); 3,411 (50-DMA)
  • RSI: 72.7

MAIN RESEARCH AND RATING CHANGES:
UPGRADES:

  • Burberry upgraded to outperform at MainFirst; PT 21.50 Pounds
  • H&M upgraded to reduce at AlphaValue
  • Immofinanz upgraded to buy at Baader Helvea; PT 25 Euros
  • Kloeckner upgraded to hold at Kepler Cheuvreux; PT 5 Euros

DOWNGRADES:

  • Commerzbank downgraded to neutral at JPMorgan; PT 7.50 Euros
  • Gjensidige downgraded to market perform at KBW; PT 170 Kroner
  • Keywords Studios downgraded to sell at Peel Hunt
  • Lufthansa downgraded to sector perform at RBC; PT 14.50 Euros
  • Spirax downgraded to sell at Goldman; PT 75 Pounds
  • TomTom Cut to Hold at Kepler Cheuvreux; Price Target 10.25 Euros

INITIATIONS:

  • None reported.

MARKETS:

  • MSCI Asia Pacific down 0.3%, Nikkei 225 up 0.3%
  • S&P 500 up 0.8%, Dow up 0.7%, Nasdaq up 0.8%
  • Euro up 0.04% at $1.1283
  • Dollar Index down 0.03% at 96.74
  • Yen down 0.01% at 107.82
  • Brent down 0.9% at $63.3/bbl, WTI down 0.9% to $56.8/bbl
  • LME 3m Copper little changed at $5919/MT
  • Gold spot down 0.2% at $1415.5/oz
  • US 10Yr yield little changed at 1.95%

ECONOMIC DATA (All times CET):

  • 9:30am: (GE) June Markit Germany Construction PMI, prior 51.4
  • 10am: (UK) June New Car Registrations YoY, prior -4.6%
  • 11am: (EC) May Retail Sales MoM, est. 0.3%, prior -0.4%
  • 11am: (EC) May Retail Sales YoY, est. 1.6%, prior 1.5%

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