Global Markets Overview - 5/21/14

Global consumer sentiment is starting to slip

Discretionary spending is always the first part of the economy to suffer in nervous markets. Consumer sentiment globally is just starting to slip, after having run up very solidly over the past three to four months, and it this now shifting to discretionary earnings.

The slide in retail earnings in the US is the first sign that things are slowing as the Fed's asset purchase program is unwound and the hot money slows. The news from the retail sector is also giving reasons for investor to pause and reflect on valuations.

Over the past year fundamental valuations have been completely ignored, as momentum, future expectations and hot money all drove investors to risk assets - particularly equities. However, the one thing that always happens with fundamental is that they will catch up to the market one way or another.

Valuations on US small caps, tech stocks and retailers are on the top-end of historical trends; these questions were raised at the start of the year and have not yet abated, even with the current pull-back. Fixed incomes plays are seeing support as the high-price momentum trade unwinds and the return of capital trade sees a pick up.

I have changed my strategy on return on capital plays; there are parts of the global macro landscape that are certain to see short- to medium-term weakness and I think positioning for this is prudent. The falling knife pattern in iron ore, the nervousness in nickel trading and the breakdown in copper since January all suggest equities with a return on capital profiles, exposure to bulk commodities and exposure to China and emerging markets are likely to underperform in the coming 12 months, particularly pure plays. It's likely that we are seeing the start of an unwinding of long positions here.

The fact US discretionary plays are also starting to see softness is a sign the next stage of the slowdown is coming, as consumers switch back to saving mode, over spending. With the Westpac consumer condition survey due out at 10:30am AEST, will this prompt forward positioning in discretionary stocks here that have seen a 33% return in 2013?

Ahead of the Australian Open

We are currently calling the Aussie market down 26 points to 5394 on the 10:00am bell (AEST), as the commodity slip continues. Iron ore continues to make 20-month lows, now at $97.50 and is unlikely to slow its fall any time soon, yet there was a bullish reversal in FMG. I think this is likely to break down today as FMG is the best proxy to trading the iron ore price in the market, as the Dalian futures and spot price are still sliding - don't catch a falling knife.

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