New liquidity injection by China

news-single-imgcaption" style="width:240px">Julien Staehl

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The Chinese economy would have run at only 40-50% of its capacity last week. The risk to the global economy is that the coronavirus prevents businesses from operating normally, causing disruptions throughout the production chain and a lack of components. There is no doubt that the coronavirus will have an impact on Chinese growth, which could stagnate in the first quarter of 2020, with potential cascading effects for the world economy (China represents 18% of global GDP). But “temporary” currently seems to be the watchword.

German economy worries

The state of the German economy is worrying, especially since it predates the coronavirus. GDP indeed stagnated in the last quarter of 2019, with an increase of only 0.4% on an annual basis. On the exchange rate front, the euro continues to be weak, the lowest since April 2017. In the United States, retail sales rose 0.3% in January, or 4.4% on an annual basis, in line with expectations. In Japan, GDP came out down -1.6% in the fourth quarter of 2019. The increase in VAT on October 1 notably curbed consumption, which fell by -2.9% over the period. Business investment also contracted sharply.

The impact of the coronavirus is likely to be felt on corporate results in the first quarter. Some have announced it. Currently, analysts are reducing their profit estimates and yet many stock market indices are near historic highs.

This nonchalant attitude of investors, with increasing valuations, seems paradoxical. It shows, on the one hand, that after a temporary negative effect on growth, a recovery is expected and, on the other hand, that they expect the usual remedy, the easy money of the central banks. The People’s Bank of China has just distributed a new dose, with an injection of liquidity in the form of medium-term loans to banks and a drop in the refinancing rate to stimulate activity.

Little fear of recession

In his speech to Congress, Fed President J. Powel was reassuring, saying that the US economy is in good shape and that there is little fear of a recession. The job creations over the past three months are very favorable for confidence and consumption. The impact of the coronavirus should therefore be persistent to induce the Fed to change its monetary policy with further rate cuts. This option remains open in the minds of investors, however, which continues to push up equity indices.

On the bond side, the race for yield continues, with the ten-year Greek rate now at 0.9%, at the same level as the Italian BTPS.

Swatch carrier (ISIN: CH0012255151, price: CHF 253.-)

Historically, the valuation of the Swatch share is attractive at 16 times the 2020 profits, but certain elements put this initial assessment into perspective.

First of all, the luxury segment, to which Swatch belongs, has a number of titles whose positioning on the luxury scale is higher than that of the Biel group (Richemont and Hermès are good examples).

This lower positioning on the luxury scale translates into less juicy margins than those of the competition. A less elitist positioning makes the group more sensitive to the economic situation, the ultra rich being naturally less sensitive to economic fluctuations.

Also, the geographic exposure of its turnover is massively oriented towards Asia (more than 60% – against around 45% for Richemont for example). This element makes the group more vulnerable to the situation affecting the region (coronavirus and demonstrations in Hong Kong.).

The Swatch group is also, by its business philosophy, less inclined to adapt its cost structure to fluctuations in the economic cycle. In other words, firing to preserve margins is not part of Swatch’s corporate culture. Swatch remains an extremely solid, debt-free company with cash equivalent to 11% of its market capitalization. Although the 2019 figures were down compared to 2018, the dividend of more than 3% has been confirmed.

At these levels, the ratio between nominal Swatch and carrier Swatch is relatively neutral on a historical basis located in the middle of the channel. In the short term, the situation in Asia should constitute the dominant influence on the evolution of the share price.

* Responsible for discretionary management of Banque Bonhôte & Cie SA

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