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Stone's Weekly Market Guide - Week of August 12, 2018

Chart of the Week: Fundamentals are the primary driver of the plunge in the Turkish currency (TRY) and the spike in the cost to insure against default (CDS). The Turkish central bank has not taken significant action to defend the currency via rate increases. Inflation has been rising and Turkey runs a high current account deficit. Entities in Turkey also borrow significantly in foreign currency, so weakness in the TRY raises costs and increases financial system stresses. Banks in Spain, France and Italy have the largest exposure to Turkish debt which explains the euro weakness last week. Global markets fear contagion, but that risk seems limited currently.


TRY FX, CPI & CDS - Source: Bloomberg, Stone Investment Partners

Markets will continue to watch for additional trade news. Last week, the U.S. placed additional tariffs on steel and aluminum from Turkey which added to the pressure on the Turkish financial system (see the Chart of the Week), but weak Turkish fundamentals are primarily to blame for their woes.


Despite the fact that Turkey's woes have led to an increase in market volatility, the real question is whether it leads to a significant global contagion. On a size basis, Turkey is not a large part of the global economy with their GDP less than 1.5% of world GDP. In addition, Turkish stocks are a relatively small percentage of the emerging market stock index. As discussed in the Chart of the Week, Turkish debt (held externally) is primarily held by European banks. While there are certainly other countries with stressed fundamentals, there are luckily not a lot of countries following the toxic mix of large current account deficit, large foreign currency debt, high inflation, low foreign exchange reserves and unwillingness to raise the central bank policy rate like Turkey.


EM Country Data - Source: Strategas

Main report out of the U.S. is July retail sales to get a read on the pulse of the consumer. The headline reading is expected to slow to 0.1% month-over-month (M/M), but excluding autos and gasoline should accelerate to 0.4% M/M. July housing data is also on tap with housing starts and building permits expected to increase. 3Q GDP estimates from the Atlanta and NY Fed are 4.32% and 2.57% respectively.


91% of S&P 500 companies have reported 2Q earnings, but 13 S&P 500 companies are scheduled this week. The S&P 500 earnings growth rate increased to about 24.5% year-over-year (Y/Y) and the sales growth rate held steady at almost 10% Y/Y. 79% and 72% of companies beat earnings and sales respectively so far in this reporting period. Given the limited number of companies yet to report, this quarter’s impressive earnings growth rate is almost sure to end up being the second fastest since Q3 2010.


Europe: The Eurozone and Germany report 2Q GDP with both expected at 2.1% Y/Y. The German August ZEW Investor Confidence survey will be watched, especially in the wake of Turkey. U.K. releases their monthly labor reports and July retail sales. Brexit negotiations resume with the currency market signaling its concern about the chances of reaching a deal. The British currency (GBP) has posted 5 straight weekly declines against the U.S. dollar.


GBP/USD - Source: Bloomberg, Stone Investment Partners

Asia: Japan reports July trade data. China has July retail sales, industrial production and fixed assets.


The central banks of Uganda, Indonesia, Namibia, Norway and Egypt meet with all expected to hold their policy rates steady.

The S&P 500 was lower last week, but small cap stocks were higher. Both developed international and emerging market stocks declined. The U.S. dollar was particularly strong last week which weighed heavily on international returns for unhedged investors. The 10-year U.S. Treasury yield fell to 2.87%.


U.S. Dollar (DXY) Index - Source: Bloomberg, Stone Investment Partners

The 10-2 yield curve flattened last week to 26.5 basis points, and our improved measure of 3 month 6 quarters forward – 3 month flattened to 73 basis points. Please see our recent post for more details on the economic and financial market implications.


To read the PDF version of Stone's Weekly Market Guide please click here.

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