Swissquote Bank: Unbacked shot of optimism sends S&P500 to fresh highs

August 25, 2020

By Ipek Ozkardeskaya, Senior Analyst at Swissquote Bank

The S&P500’s (+1.00%) fresh rise to historical high levels on Monday proved once again that investors see what they want to see only. Yesterday’s stock rally was backed by virus treatment optimism amid the FDA approved emergency use of convalescent plasma treatments on hospitalized patients over the weekend.

While the impact of the latter statement is difficult to gauge for an average investor with no medical background, it is not the first and certainly not the last news of this kind. On the other hand, in Hong Kong was reported the second reinfection case, which we understand better, hinting that an earlier contamination, or even a vaccine, may not stop the virus from spreading. Good news was that the second time symptoms were softer on the HK patient, but there is clearly not enough evidence to tell that it would be the case for everyone.

Therefore, to us, news is not particularly good, but the market sentiment appears to be. The stock price inflation is full on and demand in sovereign debt remains solid with however an increasing number of leading investors ringing the alarm bell regarding the fact that the artificially suppressed DM government debt yields do no longer compensate for the rising default risk of governments. More worryingly, the surging inflation expectations will soon be clearly reflected in actual inflation levels and have a dramatic negative impact on debt yields. The latter situation could wreak havoc across the sovereign debt markets and cause a rapid sell-off within what investors believe to be a ‘safe’ asset class. So, the cheap liquidity is rising the risks across all markets, not only equities where the price-to-earnings ratio for many stocks do no longer make sense.

Tesla, for example, has a P/E ratio a touch below 1000, versus the average ratio of 15 among carmakers. Zoom trades about 1600 times its earnings. Overvalued?

But on the other hand, the excess liquidity should find a place to go and the slippery market environment pushes liquidity into the big names.

Airline and consumer stocks were among the biggest winners on Monday. Nasdaq (0.60%) lagged.

Stocks in Asia traded mostly higher on Tuesday. The ASX (+0.17%) and CSI (+0.24%) recorded timid gains, Nikkei rallied 1.77%, while Shanghai’s Composite (-0.19%) and Hang Seng (-0.53%) gave a part of Monday’s gains.

Activity on FTSE (+0.30%) and DAX futures (+0.73%) hint at a consolidation of the strong Monday advance.

The US dollar remains steady near the 93 mark and the US 10-year yield is little changed at about the 0.66% handle.

So are the EURUSD and GBPUSD, where the fluctuations are almost fully driven by the US dollar appetite.

The EURUSD tested 1.1780 on the downside but rebounded past the 1.18 mark on Tuesday. Released this morning, the German final GDP data confirmed a 9.7% decline in the second quarter output, a stone’s throw better than the 10.1% contraction penciled in by analysts. The euro gave a positive kneejerk reaction. But, as the rapidly surging coronavirus cases especially in southern European nations, could be a turn-off for traders betting on a relatively faster European recovery story, we could soon see a more sustainable pullback in euro versus the greenback. The next target for the euro bears stands at 1.1685, the minor 23.6% retracement on March – August rebound.

Cable fluctuated within the 1.3050/1.3150 range. The medium-term sterling outlook remains negative on lingering pandemic and Brexit risks to the British economy, hence we continue seeing price advances as interesting top-selling opportunities for traders looking for an eventual setback below the 1.30 mark, which should happen as soon as the pound takes over the reins of its destiny.

Gold treaded water near the $1930 per oz as investors piled into the stock markets on the back of a little convincing shot of optimism. It is hard to tell whether the actual stagnation in gold prices would give way to a further downside move, or a jump. But the combination of squeezed yields and rising inflation expectations offer a solid medium-term bullish case for gold bulls, even at the current high levels.

WTI crude remains little changed near $42.50 per barrel, with a pattern of lower highs for the fifth straight session hinting at a deeper downside move towards the $40 mark. Oil investors will be watching the API data today. While a deeper fall in US oil inventories could throw a floor under the oil weakness, a rise could back a further price pullback.