To look out for this week

 Mini update:

This week (week of 29th January 2023) we will see a lot of action in the markets mainly because of 2 main factors - central bank announcements and company earnings.

Central banks from the most powerful economies - Federal Reserve, ECB, and BOJ - are expected to announce rate hikes this week. Current rates are at 4.50%, 2.50% and 0.5%. 

ECB - expected to hike rates by 50bp in both February and March this year to curb inflation. With the 9.2% inflation in December and improving PMI report in the Eurozone, I think the ECB might have to further raise rates more than the anticipated 25bp in the second quarter of this year if this continues. 

BOJ - With Japan's yen falling over the last year, prices have increased substantially, causing a 41-year high inflation of 4%. BOJ has recently started to loosen its yield curve control policy from 0% to 0.5%, but analysts expect the rates to increase further.

Earnings season - Q4 earnings are coming. This week alone, there are 109 companies within S&P500 that will be releasing their reports, including megacap firms like Apple, Amazon and parent company of Google, Alphabet. 

I believe we will see a lot of movement in the markets this week, but with the earnings reports coming out, I think we will get some direction for the coming year in terms of whether inflation and rate hikes are set to continue, demand within the economy, and perhaps nonfarm payrolls further down the line. Nonfarm for January will be out on Friday.

Economic Development of Luxembourg

What about Luxembourg?

Luxembourg, one of the smallest countries in the world with a population of less than 650,000 as of 2021 (World Bank), is the richest country in the world. Its GDP per capita was the highest at US$110k in 2021 (Trading Economics) and its minimum wage is one of the highest in the world at €1,923 per month. Consequently, with such wealth, it is 13th in the world in terms of quality of life QOL, above Japan, Sweden and Canada (Numbeo), and one of the safest countries in the world.

Natural resources kick-started its growth

Its shining ray of hope was its iron ore deposits discovered in the 1840s, which allowed it to launch its industrial revolution, and its membership in the Zollverein. That was the period of the industrial revolution, so steel was used in almost everything and thus was in very high demand. This accelerated Luxembourg’s trade. Subsequently, it played an active role in the European Community (Britannica), including through the establishment of the Belgium-Luxembourg Economic Union in 1921 and participation in the North Atlantic Treaty Organisation. It also had a sound position within the European Coal and Steel Community. 

The 1929 Holding Law was instrumental in its continued success (discontinued)

Companies were allowed to hold multiple subsidiaries under one holding company, which provided many tax benefits to these corporations (Mondaq). This drew many MNCs into the country, pumping investment, jobs and skills into the country. The economy took off in the 1970s when big US holding conglomerates expanded to European markets and chose Luxembourg to hold their European headquarters (HQ) because of the tax benefits. There were also many big banks, law firms and accounting firms that were already operating there, which helped these big conglomerates to set up the HQ. 

The arrival of Big Tech grew its economy exponentially

The 2000s was an era of the dot com boom, in which their economy doubled within 5 years (World Bank), and has been growing exponentially. Luxembourg was the ideal location in Europe for tech companies and was also becoming a financial hub. To date, Luxembourg is the second-largest investment fund centre and a worldwide leader in cross-border fund distribution. There are more than 14,800 Luxembourg-domiciled funds with more than €4.7 trillion in assets as of December 2019. It has a stable business, political and social environment and a wide treaty network and a favourable tax regime (EY). 

Sacrifices of economic progress
Income inequality has been rising. The Gini Index of the country has been increasing over the last few decades (World Bank). 21.5% of its residents live on the brink of poverty and social exclusion, and 18.7% of its working population is considered “the working poor”, who have low-income jobs that fall below the poverty line (SDG Watch Europe). This proportion is one of the highest in the EU. 

Prosperity in the country may not have been the same for everyone. Foreigners make up more than 60 per cent of the workforce (Harrington), holding high-paying jobs, pushing up the cost of buying a house. Furthermore, its public services such as education are lagging behind. Only 74 per cent of adults aged 25-64 finished their upper secondary education, compared to the average of 79 per cent in the OECD (OECD).

My thoughts on the future
I opine that there are two approaches to ensure sustained prosperity and happiness in Luxembourg, namely through continued upside development and reduced downside development. The country is doing good in thinking ahead, as seen by its “City of the Future” blueprint which aims to improve infrastructures, such as through digital transformation and transition to a green economy, such as through improved waste management and reduced energy consumption (Digital Luxembourg). I believe that more can be done, or perhaps done more visibly, in terms of improving its education system and addressing social mobility issues. These mean investing in the people who are the future of the country and modifying or introducing policies to improve their lives.  

The current tension between global powers and the teetering of a global recession paints a grim picture for the financial hub in Europe. The financial sector which makes up more than a third of its GDP will likely shrink or stagnate, possibly causing its GDP to follow behind. Expats might move back to their countries, causing a brain drain and potentially impairing the sector. The country will be less affected by the lack of gas due to the Russia-Ukraine war in the future if it is successful in its transition to alternative sustainable energy systems. Overall, once market activity picks up, its economy will probably pick up as well.

Analysis of Brexit

Edit: this research was done prior to the recent volatility in the UK markets.

Background

It is the withdrawal of the UK from the EU after having voted to leave in 2016. It officially left the trading bloc on 31 January 2020. After leaving the bloc, the UK and EU agreed to keep the status quo on several issues until the end of the year. This gave them time to agree to the terms of a new trade deal. They came to an agreement on 24 December 2020. 

It seems that leaving the EU was due to several factors, including how Brits felt that being in the EU wasn't all that beneficial, unhappiness following the 2008 recession, and the Arab Spring refugee crisis (Essex). 

What are some implications of Brexit?
There is now a restriction to work and living across the border, as well as restrictions on trade and travelling. UK nationals now need a visa if they want to stay in the EU for more than 90 days in a 180-day period. The UK has also become less open with its exit from the EU, which is detrimental to its economy and its growth. It is now less open and competitive (Bloomberg), which ultimately affects its growth. As a whole, the UK’s total trade as a percentage of GDP fell by 8% since 2019, and the country has lost market share in 3 of its largest non-EU import market in 2021 (US, Canada, Japan). The UK will be expected to grow by 3.6% in 2022, and zero growth in 2023, which renders it the slowest growing among the G7 (Guardian). This could trickle down to the individual as an analysis by LSE mentioned that the reduced productivity and lower salaries may result in employees earning 500 pounds less per year by 2030 (Reuters).

With the close integration of the UK and the EU, the impact of Brexit has certainly been reflected in the EU as it has on the UK. For example, with the decreased movement of goods and labour across the border, the EU will likely experience a decrease in labour supply in the financial sector because of the UK’s status as a financial hub in Europe. The market size of the UK is much smaller compared to the EU, so I expect that the decreased labour supply and trade across both regions is likely to affect the EU to a lesser extent. 

The effect of Brexit is not the same for every sector
Sectors that are heavily reliant on cross-border supply chains are among the worst-hit, like electrical equipment manufacturing. The fishing industry was also expected to shrink by 30% with the increased regulations for their catch to their customers in the EU (Reuters). On the other hand, some sectors might actually benefit from Brexit, or at least remain unaffected (Bloomberg). Sectors that focus on service will “remain largely unaffected”, and those that focus on supplying the UK market will benefit from the decreased import of goods and services. One example is food manufacturing, a key industry in the east of England that is set to thrive because it supplies the UK market. 

A silver lining for the UK
There is a glimpse of a rebounding system of economic governance in the UK (Bloomberg). It has started to improve regulation for businesses and consumers by enhancing competition and technology. Trade-wise, exports and imports to and from the EU have increased to above pre-pandemic levels, signalling a reignition of their collaborations.

My thoughts on the future
In order for the UK to retain its position as a hub in Europe and globally over the long run, it will have to make adjustments and establish new trade relations with other countries and trading blocks. Brexit was majorly supported by the older generations while younger generations supported staying. This could mean that in the future, the UK might choose to return to the bloc once the younger generation takes over unless Brexit proves to be the better decision for them (Bloomberg). Ultimately, the direction of the EU economy will not be as affected by Brexit as it has been by the Russia-Ukraine war. If the EU and UK can come to a consensus on a fair-trade deal, I believe this will be the most beneficial to both parties. 

The Euro-Dollar parity

The overarching theme of the 2-decade low Euro-Dollar: investors buying more USD, causing it to appreciate relative to the Euro. There seem to be 2 main reasons for this – inflation in US and a recession risk in EU.

Russia and Ukraine supply a significant amount of wheat and corn, and Russia itself is also a “major supplier of oil, gas, and metals”. With the war, the supplies of these commodities have sharply decreased, causing a spike in prices (Ellyatt, 2022). Europe was hit particularly hard because of their closer trading relations with Russia. In 2021, EU imported US$168.75 billion worth of goods from Russia, while US only imported US$30.76 billion in that same period (Trading Economics, 2022).

Although inflation hit both regions, peaking in US at 9.1% in June and 8.9% in Eurozone in July (Trading Economics, 2022), only the US was quick to tackle this problem. They increased their Fed Funds Rate from 0.25% in March to 2.5% in July this year. In contrast, the Euro Area only increased its interest rate from 0% in June to 0.5% in July (Trading Economics, 2022). With the higher increase in interest rates in US, investors move towards USD, causing it to appreciate relative to Euro.

The Eurozone is also facing a recession risk (Faller & Landon, 2022). The reduction of oil and gas imported is alarming as these are needed for heating in the coming winter, representing an energy crisis. There is uncertainty in the region, with Italy’s and UK’s prime ministers Mario Draghi and Boris Johnson resigning recently (Faller & Landon, 2022). Due to this recession risk, it will be difficult for the ECB to increase rates which stunt growth.

With the increased interest rate in US and the uncertainty in the EU, investors flock to the safe haven that is the US Dollar (WEForum, 2022).

According to a Cambridge professor, roughly 50% of the Eurozone’s imports are invoiced in USD (O Falk, 2022). With a weakened Euro, their Dollar imports will get more expensive, exacerbating inflation. Households and businesses will feel the pinch, especially if they import their goods and services. The upside is that Euro exports will be cheaper and likely to benefit major Euro exporters like Germany and France, improving their competitiveness (O Falk, 2022). This also includes tourism, which is now “on sale”, prompting increased travel to Europe (O’Brien, 2022).

Food price increase, 2022

40% increase in wheat prices in 2022? (World Bank). You may have noticed, food prices have been increasing over the past few months. CNBC reported that food-at-home prices are expected to increase by 3-4% before 2023, and grocery prices have increased 7.9% in February 2022. The price increase is a general figure, and actual increase varies depending on the type of food. For example, meat and fish are up 13%, whereas vegetables are up at a much lower 4.3%. 

(note that these numbers are specific to the US, and different countries experience different levels of price variations)

Reasons for the price increase:

1) Covid-19. Business shutdowns and country lockdowns strained supply chains, shortage of labour, concerns of food security which caused some countries to limit supply to the global market.

2) Ukraine crisis. Russia and Ukraine account for almost 1/3 of the global wheat and barley market, and majority of the world's export of sunflower oil (cooking oil). Some knock-on effects include other exporting countries to ban their own exports to maintain food security in their countries.

Countries have begun to be more protectionist and reduced reliance on foreign countries during the pandemic. This issue of food shortage will likely spur further protectionism (as already seen in the case of Indonesia banning palm oil exports), and countries already facing a food crisis will likely bear the brunt of the food shortage. Such countries include Somalia, which obtained most of its wheat from Russia and Ukraine in 2021. 

As individuals, we can reduce food waste, help one another out, or even plant some foods of our own. Let's hope things get better ASAP.

Edit: why did the price of meat and fish increase more than vegetables? This is dependent on how the supply chains have been affected. Meat and fish are said to have more labour involved along the value chain as compared to vegetables, which could be a reason for this. Aside from labour shortages, food for livestock are also more expensive now, further driving up the cost.

18th July - Nestle and The Bountiful Company

(Test run)

Nestle announced on 30th April that it has entered into an agreement with PE firm KKR to buy The Bountiful Company (TBCo). TBCo will come under Nestle's Health Science (NHSc) division, and synergies between the firms will be fully established by 2024.

Background: Nestle is multi-national F&B conglomerate that deals with many types of food. Its NHSc division is a leader in the nutritional science space, and sells nutritional products for various purposes, from food allergies to constipation. On the other hand, TBCo is also in the nutrition and supplement industry, and is a pure play branded leader. TBCo blends science and nature to manufacture, market and sell their products to improve people's health and wellness. 

Why: TBCo seems to be strategically in line with NHSc's vision and angle, which is to integrate science to improve health and wellness. TBCo has several high-growth brands that will be crucial to improved and sustained growth for NHSc, including Nature's Bounty and Solgar. This is especially the case when TBCo's brands complement NHSc's brands. Ultimately, this establishes NHSc as the industry leader, with increased growth especially with their synergies in play. 

Details: The deal is valued at US$5.75b, on a cash-free debt-free basis with multiples of 3.1x net sales and 16.8x EBITDA. Net sales of acquired brands LTM 31 March 2021 were US$1.87b, EBITDA 18.3%. 

Thoughts: This acquisition benefits NHSc as stated above. For TBCo, joining NHSc also has its benefits. TBCo is vertically integrated and manufactures, markets and sells its own products. Nestle's global outreach and e2e supply chain will increase TBCo's production output and outreach to global markets, increasing sales and profit growth. Overall, NHSc will be the key player in this industry with increased sales and profit growth. The key to the success of this acquisition would be to manage the integration well by ensuring synergies between the companies are maximised.

19th June 2021

1) How China is targeting Big Tech - FT

Content: China's State Administration of Market Regulation (SAMR) has recently spurred into action against Big Tech in the country. For instance, chat records from Alibaba's own communication platform was taken, and the regulators also interviewed the staff. These had rippling implications, impeding company operations and ultimately led to a fall in share prices by 18%. Other Big Tech firms were also affected,  such as Meituan, whose share price dipped 5 per cent less than 8 weeks ago.

Why the sudden rise in regulations? Chinese tech companies have grown and benefitted from the coronavirus pandemic, because they provided essential services such as food delivery and online grocery platforms for the masses during lockdown. However, it was said that they didn't share their earnings with the delivery drivers, who were "overworked". The government also seems to be getting these companies to grow not just in terms of profits or customers, but also to "decouple" from the US and serve the society. However, the limitation is that the SAMR only has about 50 employees, so the process may be slow. However, it still acts as a good deterrence for the companies. Currently, company leaders are assuring investors about their growth potential and position with respect to the tighter regulations.

So what: With Jack Ma's case causing his company to lose billions, we can see that the Chinese government has significant power over companies. This is due to a strong culture of collectivism and the way business is done in the country - companies must work well with the government. 

2) US stocks endure worst week in nearly four months  - FT

Content: With the rate of vaccination picking up and other positive events like borders easing up, the likelihood of market recovery is becoming more probable - and with that, an expectation of future inflation. The Federal Reserve chair Jay Powell mentioned how the Fed expects interest rates to be raised in 2023, a year earlier than what was expected. Simply put, by raising interest rates, cost of borrowing is higher which depresses consumer and corporate spending, thereby lowering inflation levels as prices increase by a lower extent. So with this increase in interest rates earlier than expected, companies' earnings are then adversely affected, ultimately leading to a fall in stock prices. 

Because of the expected increase in rates, investors are flocking to bonds as the Fed seem's to be willing to control inflation levels. Bond yields thus decreased with the increase in bond price, and the dollar appreciated. On the other hand, gold prices have fallen.

So what: The US market will probably improve in the near future, and this will ripple down to the individuals in terms of lower unemployment and higher per capita income.