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The assessment of global economic prospects here has been consistently more pessimistic than that of the consensus in recent quarters. The consensus is now shifting to acceptance of US / European recessions but these are widely expected to be “mild” and / or “short-lived”. The view here remains bleaker, based on three considerations.

First, global six-month real narrow money momentum continued to weaken during H1 2022, reaching a level historically associated with serious recessions. The further decline into mid-year suggests no economic recovery before Q2 2023, allowing for an average nine-month lead.

Secondly, the 3.33 year stockbuilding cycle is judged to have peaked in Q1 2022, with a downswing likely to last at least 12 months, again suggesting no recovery before Q2 2023. The prior upswing, moreover, was exaggerated by overordering of inputs due to perceived supply shortages, raising the possibility of a larger-than-usual drag during the downswing.

Thirdly, recessions involve self-reinforcing dynamics that magnify and prolong weakness unless offset by policy intervention. Recent evidence suggesting that a tipping point into a serious recession has been reached include:

Weak business surveys. US / Eurozone PMI composite output indices fell below 50 in July, while an average of current and future new orders balances in the Philadelphia Fed manufacturing survey plunged to a level reached only before / during major recessions – see chart 1.

Chart 1

Earnings downgrades. The MSCI ACWI earnings revisions ratio had been holding up relative to business surveys but has recently fallen sharply – chart 2.

Chart 2

Weak commodity prices. A year-on-year fall in the CRB raw industrials index confirms that a stockbuilding cycle downswing is under way, during which prices are likely to soften further– chart 3.

Chart 3

Restrictive credit conditions. Credit tightening and demand balances in the July ECB bank lending survey reached recession-consistent levels – chart 4.

Chart 4

Softer labour market data. The 13-week change in a four-week moving average of US initial claims has reached a level historically associated with recessions, while the monthly increase in UK payrolls in June was the smallest since March 2021, with recent downward revisions to initial data suggesting an actual fall – chart 5.

Chart 5

Chinese monetary data for June confirm that policy easing is gaining traction but narrow money growth remains modest compared with previous reflationary episodes and a H2 economic recovery is likely to be dampened by weaker exports.

GDP fell by 2.6% between Q1 and Q2 but monthly activity data indicate a significant recovery from an April trough, with June exports and retail sales particularly strong – see chart 1.

Chart 1

Six-month growth rates of narrow and broad money, meanwhile, rose further in June, to 17- and 22-month highs respectively – chart 2.

Chart 2

Six-month growth of real narrow money has moved sideways, with faster nominal expansion matched by a rise in consumer price momentum. Nevertheless, positive and stable real money growth compares favourably with deepening contractions in the US, Europe and many emerging economies – chart 3.

Chart 3

What is driving faster money growth? The credit counterparts analysis of broad money shows major contributions from banks’ net lending to government, reflecting expansionary fiscal policy, and from unspecified items within non-monetary net liabilities. Growth of bank lending to other sectors bottomed last year but has yet to establish a rising trend – chart 4.

Chart 4

Six-month growth of broad money is close to levels reached in previous successful reflationary episodes since the GFC but narrow money growth remains well below the corresponding highs – chart 2. The judgement here is to place more weight on the less upbeat message from narrow money. The demand for broad money may have been boosted by risk aversion due to housing and equity market weakness, as well as the pandemic. Domestic credit expansion, like narrow money growth, is below previous reflationary highs – chart 4.

The Emergency Plan for Gas for the Federal Republic of Germany was published in September 2019. The third paragraph of the background section states “Germany’s natural gas supply is very secure and reliable”. It goes on to say, “a serious deterioration in supply cannot be ruled out completely… though the likelihood of such a severe crisis in supply actually occurring is very small.” On June 23, Germany announced they were moving to stage two of the three-stage national gas emergency plan due to reduced Russian gas supplies coming from the Nord Stream 1 pipeline. Currently at 58% gas storage levels, the German government is aiming to reach 90% by December.

Stage two does not involve gas rationing. The focus instead is on increased coordination with network providers and mechanisms such as an auction system to incentivize industrial users to slash consumption and sell back unused gas. These measures could come too late for some players as Uniper (UN01.GY) submitted a bailout application for government support due to financial distress (Uniper is not one of our holdings).

Stage two also allows the government to trigger an article of the new energy security law that would allow utility companies “in case of a substantial reduction in gas import volumes” to increase gas prices for companies and households to an “appropriate level” with a notice period of one week. An upward adjustment of retail gas prices could potentially have a double-digit percentage impact on inflation and negatively affect GDP growth due to weaker consumption. This would be an unacceptable situation for the German government. Should energy prices remain elevated, some kind of fiscal response would be needed, either to dampen the impact on retail gas prices or in the form of cut taxes.

By moving to stage two, the risk of advancing to the emergency level (stage three) is also clearly on the table. At stage three, gas rationing would be allowed for unprotected customers, including industrial users. Should gas supplies be interrupted, it is highly likely that Germany would fall into recession. This would be a huge blow to the manufacturing industry, which serves as the engine that drives the German economy. In June, the German Central Bank lowered its forecast for GDP growth in 2022 to 1.9% from 4.2%.

Natural gas provides about 25% of the energy needed for German industry, with over half of coming from Russian imports. Tough decisions would need to be made on which industries would be allocated gas supplies in order to keep producing, and which would be considered dispensable. For example, it would be impractical to turn off large gas-powered furnaces or smelters. Once they cool down, bringing them back up to the required operational temperature would consume even more energy. Switching to another source of power or relocating is also impossible, due to size as well as the environmental and economic cost. If the worst case scenario plays out and some industries do have to shut down in the winter, there would be significant job loss; one study estimates that Germany’s GDP could fall by 12.7%.

There are calls for home owners to have their gas boilers and radiators checked and adjusted to maximize their efficiency, and if possible, to save energy in order to reach the needed storage levels for winter. Vonovia (VNA.GY), one of Europe’s leading private residential housing providers with an estimated 1 million tenants in Germany, has instructed technicians to place a limit on its tenants’ overnight heating systems to 17° Celsius (63° Fahrenheit). (Note, Vonovia is not a Global Alpha holding.)

We will soon know how the gas supply situation will play out for the rest of the year. Regularly scheduled maintenance on the Nord Stream 1 pipeline that runs under the Baltic Sea from Russia to Germany started on July 11. In the past, the shutdown has lasted for approximately 10 days. If the gas flow from Russia does not start up when the maintenance is complete, the discussion around rations will ramp up and limits on hot water for private households should not be ruled out.

Aurubis (NDA.GY)

Our most exposed German holding to gas supply disruption is Aurubis. Aurubis is a leading global producer of non-ferrous metals and one of the largest copper recyclers worldwide. Annually, the company produces more than 1 million tons of copper cathodes as well as a number of other metals and additional products such as sulfuric acid. As an energy intensive business, increased energy prices have had an impact on costs, despite a large part of the company’s energy needs being hedged.

Aurubis can successfully pass on some of the higher energy costs to customers in the form of product surcharges. The biggest risk would be a lack of supply to two of its smelters that are reliant on Russian natural gas. Despite this, the share price weakness so far this year is more related to base metals and copper price in particular declining due to growing concerns over a global economic slowdown on the back of rapid interest rate hikes across the world. We continue to like Aurubis as a play on the secular recycling trend. The company has the multi-metal expertise and network to capitalize on the opportunity that is expected to present itself by way of a significant increase in the supply of complex recycling material.

Our other German holdings are less affected. Evotec (EVT.GY) is a biotech company that is a leading provider of outsourced services for early-phase drug research and development to the pharmaceutical industry. Patrizia (PAT.GY) is one of Europe’s largest real estate asset managers, with about €55billion of assets under management. Finally flatexDEGIRO (FTK.GY) is one of the leading and fastest growing online brokerage businesses in Europe.

While most of the focus has been on Germany, other European countries are affected deeply by the reduced gas supplies. The Global Alpha team is closely following the situation for any signs of escalation.

A fall in global six-month real narrow money momentum below zero in March signalled a shift in the economic outlook from slowdown to recession. A subsequent further decline in momentum to its weakest since 1980 suggests a deep recession extending into Q1 2023, at least. Economic contraction will release liquidity for markets, with “safe” bonds and quality stocks possible beneficiaries. Chinese real money momentum is diverging positively, supporting relative economic / equity market prospects.

Global (i.e. G7 plus E7) six-month real narrow money momentum in May was below its GFC low and the weakest on record in data extending back to 1995. In longer-run G7-only data, the current rate of contraction was matched in 1973 and 1979 before severe recessions – see chart 1.

Chart 1

A further recessionary consideration is the recent pace of stockbuilding: the G7 stockbuilding share of GDP matched a 1974 high in Q1 – chart 2. The cycle upswing was supercharged by firms overordering inputs because of supply shortages. With final demand falling away, a liquidation of inventories will be amplified back through supply chains – the “bullwhip” effect.

Chart 2

The assessment of market prospects here is informed by two measures of global “excess” money: the gap between six-month real narrow money and industrial output momentum; and the deviation of 12-month real money momentum from a slow moving average. Both measures were negative by end-January, a condition historically associated with weak equity markets – table 1.

Table 1

The expected recession and a likely sharp fall in six-month consumer price momentum suggest that the first measure – the real money / output momentum gap – will return to positive territory in H2, possibly in Q3. The second measure may remain negative: 12-month real money momentum is currently far below its moving average and will be slower to recover. The implication is a possible shift from the bottom right quadrant in the table to top right – still an unfavourable backdrop for equities but less grim than during H1.

The excess money indicators are informative about sector and style performance. Recent outperformance of defensive sectors and underperformance of tech accords with the historical pattern under “double negative” readings – table 2. A switch to the upper right quadrant would suggest a tech recovery but further outperformance of defensive vs. non-tech cyclical sectors. Within the defensive basket, however, energy has historically performed poorly under this regime.

Table 2

Style-wise, recent outperformance of high dividend yield stocks accords with the historical pattern in the bottom right quadrant but quality has not on this occasion proved defensive, probably reflecting its inverse correlation with Treasury yields and the magnitude of the H1 rise in the latter – table 3. This suggests that quality will stage a come-back if yields reverse, with a potential shift to the upper right quadrant an additional positive – this was the best regime for quality and growth historically.

Table 3

Six-month real narrow money momentum is similarly weak in the US and Europe but China and, to a lesser extent, Japan are diverging positively – chart 3. A further pick-up in China would support a forecast of economic recovery despite an export drag from recessions elsewhere. The latest PBoC bankers’ survey is consistent with monetary acceleration, indicating substantial policy easing and an increase in loan supply – chart 4.

Chart 3

Chart 4

Global inflation prospects have improved dramatically. Having warned of the current overshoot, monetary trends are now consistent with inflation rates returning to target. G7 annual broad money growth was down to 4.9% in May from a peak 17.3% and is on course to move below its 2015-19 average of 4.5%: the money stock expanded at an annualised pace of only 1.3% in the latest three months.

The monetarist rule of thumb is that money growth leads inflation with a long and variable lag averaging two years. G7 annual broad money growth peaked in February 2021 so this average would suggest no inflation relief before early 2023. Some monetarist economists argue that the 2020-21 money growth surge has left a large monetary overhang, raising the possibility of a longer-than-average lag.

The view here is that the historical variability of the money growth / inflation lag partly reflects the position of the stockbuilding cycle, which is a key driver of commodity prices. The assessment that the cycle has peaked and will be in a strong downswing in H2 2022 suggests that recent commodity price weakness will be sustained, in which case their current large positive impact on annual CPI inflation rates will moderate through H2 and turn negative by early 2023.

Core inflation is widely expected to remain high into 2023, reflecting labour market tightness. Recession and monetary weakness, however, suggest that firms will lack pricing power to pass on increases in labour costs, which may, instead, squeeze historically generous margins and trigger early job cuts. Labour markets could weaken surprisingly sharply, with signs of an imminent unemployment reversal appearing recently in a range of sensitive indicators.

Close-up trading monitor with stock market candle chart

Several major global indices fell into bear market territories in the past weeks. Investor behavior has shifted from ‘buy the dip’ during the pandemic to ‘sell the rally’, fearing of a potential recession. A wave of layoffs has swept across businesses, especially in the tech sector in the United States (U.S.) in the first half of 2022. The University of Michigan Consumer Sentiment Index fell sharply to a record low of 50.2 in June of 2022, well below market forecasts of 58, mostly attributable to the soaring inflation, which is at a 40-year high.

To combat the inflation, the Federal Reserve (Fed) has accelerated the pace of its interest rate hike, lifting interest rates by 75 basis points in June. This represents the third hike in 2022, and the largest since 1994. Historically, recessions start a median of 25 months after the Fed begins a tightening cycle, although there have been three cases (in 1963, 1994, and 2015) when a recession did not follow.

The best scenario for the markets would be a so-called soft landing, where the Fed could bring inflation under control without causing a recession. An ideal outcome would be similar to 1994, when the Fed hiked interest rates seven times in 13 months, almost doubling the rate from 3.05% to 6.05%, while avoiding a recession. However, the annual inflation was only 2.7% in 1994, while the latest inflation rate accelerated to 8.6% in May of this year. The unemployment rate was also higher in 1994, at 5.5%, versus 3.6% in May 2022, indicating a tighter labour market and higher labour cost today. These factors suggest it will be more challenging for the central bank to tame the inflation this time around. It is more likely than not that we are going to have a recession as early as next year, as predicted by leading economists.

How long does a recession last?

Based on data provided by the National Bureau of Economic Research, since 1945, the U.S. has experienced 13 recessions, including the short one in 2020. The average length of a growing economy is 5.3 years, and the average recession lasts for 10 months. A full economic cycle is around 6.3 years.

What about the stock market? In the same time period, the S&P 500 experienced 11 bear markets, six of which were accompanied by a recession, according to data compiled by Invesco. Bear markets on average have taken about one year to go from peak to trough, and 2.3 years to return to break-even. The S&P 500 index plunged an average of 33% during bear markets in that period, with the biggest decline occurring between 2007 and 2009, when the S&P 500 dropped 56%.

What does small cap do historically in bear markets or recessions?

History indicates that small caps tend to outperform larger caps after a bear market, and small caps have outperformed large coming out of nine of the last 10 recessions since World War II, according to the Jefferies Equity Research report published on April 8, 2020, JEF’s SMID-Cap Strategy – Thoughts & Observations.

Small cap vs. inflation

Small caps have historically outperformed and have shown better pricing power during most of the previous high inflation regimes, including the early 1960s, and the 1970s. Margins of small cap companies have declined less than large caps when inflation goes up, and in some cases, small cap margins go up with inflation, according to the BofA report by Jim Carey Hall, Small cap primer: the big guide to small stocks, published on May 31, 2022. Companies we invest in at Global Alpha are leaders in their niche markets, which gives them the pricing power to pass on higher costs to clients, hence maintain a healthy margin in an inflationary environment.

Small cap vs. high interest rates

Two types of companies are most likely to suffer from higher interest rates. From the valuation perspective, expensive stocks are more likely to get hurt; from the operation point of view, heavily leveraged companies are likely to suffer. The valuation of small caps looks particularly attractive today, as small caps were expensive vs. large leading into almost every other Fed tightening cycle since the 1980s. Today, small caps trade at discount to large caps, as noted in the BofA’s report, Small cap primer: the big guide to small stocks. Companies we invest in at Global Alpha are high-quality companies trading at reasonable prices. Approximately one third of the companies in our portfolios have a net cash position.

Expansion and recession are a natural part of the economic cycle. It is important to be diversified, and stick to quality names that benefit from secular trends. It is during the down markets that more investment opportunities will emerge. The Global Alpha team has identified many great companies that are trading at attractive valuations, and we will introduce these names in future commentaries.

There are three messages from Eurozone monetary data for May released yesterday.

The region faces a major recession that is likely to extend into early 2023, at least.
Economic prospects are at least as bad for core countries as for the periphery.
Nominal monetary trends are consistent with inflation returning to – or falling below – the 2% target in 2023-24, arguing for an immediate suspension of ECB tightening plans.

The “best” monetary leading indicator of Eurozone GDP, according to ECB research, is real non-financial M1, i.e. holdings of currency and overnight deposits by households and non-financial corporations deflated by consumer prices.

The six-month rate of change of real non-financial M1 turned negative in January and fell further to -1.9% (not annualised) in May, below the lows reached before / during the 2008-09 and 2011-12 recessions – see chart 1.

Chart 1

Based on longer-run data for real M1, the current rate of real narrow money contraction is the fastest since 1981.

All previous recessions ended only after the six-month rate of change turned positive. The ECB research, meanwhile, found that real narrow money led GDP by three to four quarters on average. The suggestion is that an incipient recession will extend into Q1 2023, at least.

Chart 2 shows six-month rate of changes of real non-financial M1 deposits in the big four economies. (A country breakdown of currency holdings is unavailable.) In a reversal of the pattern before the 2011-12 recession, weakness is more pronounced in Germany and now France than in Spain and Italy. German divergence partly reflects higher inflation but nominal growth of deposits is also weaker in France / Germany than Spain / Italy.

Chart 2

Eurozone nominal money trends, meanwhile, indicate rapidly improving medium-term inflation prospects. Annual growth of broad money, as measured by non-financial M3, slowed to 4.8% in May, with three-month momentum down to 2.8% annualised, the lowest since 2018 – chart 3.

Chart 3

The slowdown has occurred despite a rise in annual growth in bank loan to a post-GFC high of 5.3% in May. This pick-up does not contradict the negative monetary signal – lending is a coincident or lagging indicator of GDP (confirmed by the ECB research). The coincident / lagging relationship partly reflects a correlation of corporate credit growth with the stockbuilding cycle – demand for short-term loans is strongest as inventories swell at the peak of the cycle. Consistent with this explanation, loans to corporations with a maturity of up to a year grew by an annual 7.0% in May.

The counterparts analysis of M3 shows that the slowdown has been driven by the ending of QE but also a significant balance of payments outflow, reflected in a fall in banks’ net external assets. This outflow is the mirror-image of a basic balance deficit, which has widened as a current account surplus has been wiped out by high energy prices while the Ukraine crisis and other factors have triggered an exodus of capital from the region.

Economic “optimists” argue that UK / US recessions will be avoided because households and firms have accumulated a “war chest” of excess monetary savings that will be deployed to support spending. The assessment here is that high inflation is rapidly eroding excess money balances while households / firms are unlikely to reduce precautionary savings against a backdrop of deteriorating economic / financial conditions.

Chart 1 is a recreation of one used to support the optimistic case. The suggestion is that UK households have amassed £170 billion of excess monetary savings, equivalent to 11% of annual disposable income.

Chart 1

A statistical issue here is the reliability of a measure of “trend” calculated over just two years.

More importantly, the demand to hold money depends on a host of influences, of which the most important is the price level. Any assessment of the magnitude of excess money balances should, at a minimum, take account of inflation.

Chart 2 recasts the analysis in real terms, while calculating “trend” over a 10-year period. The suggestion is that high inflation has already eroded a large proportion of the monetary excess, with the current deviation equivalent to 3% of disposable income.

Chart 2

Real money holdings were 2.7% above trend in April. Household M4 grew at a 4.2% annualised rate in the latest three months. If this pace were to be maintained, nominal money holdings would rise by 2.4% by Q4 2022. The Bank of England’s May forecast of CPI inflation of 10.2% in Q4, meanwhile, implies an increase in prices of 5.0% between April and then. These developments would result in real money holdings contracting by a further 2.5% by Q4. With “trend” increasing by 1.2% between April and Q4, the positive gap would be eliminated without any additional consumer spending.

Shorter-term leading indicators are confirming the negative signal for US economic prospects from monetary trends.

An independent calculation of the OECD’s US composite leading indicator suggests another fall in the indicator in June along with upward revisions to declines in prior months – see chart 1.

Chart 1

The indicator is calculated as a ratio to trend, i.e. a decline indicates that output will lag its trend rate of growth. The extent of the shortfall should be related to the speed of descent of the indicator. The current pace has been consistent with a recession historically.

The June indicator estimate incorporates new information for four of the seven components: housing starts, consumer sentiment, stock prices and the yield spread between 10-year Treasuries and Fed funds. Data for the remaining three – durable goods orders, the ISM manufacturing PMI and average weekly hours worked in manufacturing – will be released on 27 June, 1 July and 8 July respectively.

The indicator’s decline is notable for its breadth as well as speed: all seven components have contributed to recent weakness.

The June indicator estimate assumes little change in the three missing components. The ISM PMI could fall significantly. The Philadelphia Fed manufacturing survey for June reported a plunge in new orders (average of current and future balances), mirroring weakness in May’s Richmond Fed survey and suggesting a crash in the ISM orders index – chart 2. The latter has a 20% weight in the PMI and usually leads the other components.

Chart 2

A vicious real money squeeze, meanwhile, is intensifying. A weekly broad money measure calculated here was unchanged in nominal terms in early June from its level at the start of the year – chart 3. With consumer prices up by 4.1% over December-May and expected to post another large rise in June, real broad money will have contracted by about 5% (10% annualised) during H1.

Chart 3

People walking through airport, silhouette (focus on aeroplane)

As the first official day of the summer approaches, it finally feels like the world is getting back to normal. Many countries are now dropping Covid requirements and restrictions, such as testing, masking and quarantining. Tourists are definitely itching to get their holiday plans back on track. In fact, travel is forecasted to reach pre-pandemic levels this year in many regions of the world. In the last two years, countries around the world have lost billions of dollars due to the lack of tourists and many are launching campaigns to attract foreigners back to their favourite holiday destinations.

Earlier this week, the United States (U.S.) announced a five-year strategy to revive national travel and tourism, which is aimed at promoting the U.S. as a premier vacation destination. According to the Bloomberg article, US launches plan to bring back foreign tourists, before the pandemic, travel contributed about $240 billion to the U.S. economy, benefiting companies operating restaurants, hotels, attractions, shopping and more. Despite a lull in international travel, demand in the U.S. has picked up quite rapidly. Over the last five months, travellers have contributed to a trade surplus in the country, signalling an improving appetite for travel. Demand is likely to continue increasing over the summer as international tourists have yet to reach their pre-Covid numbers.

Pent-up demand has been seen across Europe as well. If April travel data is any indication of what’s to come, Europe is in for a busy summer. In April, popular tourist destinations have seen tourist numbers increase anywhere from two to tenfold. Travellers are also spending a lot during their holidays. In France, for instance, foreign travel spending was up 201%, compared to 2021, and up 477%, compared to 2020, as noted in the Bloomberg article, France Foreign Travel Spending Up 201% in April Y/Y. Another Bloomberg article, Number of tourists visiting Spain in April up nearly tenfold YoY, notes that in Spain, the 6.1 million tourists who visited the country in April spent close to what 7.14 million tourists spent back in 2019. It seems that higher prices for hotel rooms and plane tickets are not dissuading tourists from packing their bags, enjoying their holidays and doing some shopping and eating out too.

Japan has taken a more cautionary approach to its reopening plans. As of Friday, June 10^th, the country will be accepting visa applications and allowing tourists to come into the country, but only if they are part of a guided tour and continue masking. They have been allowing up to 20,000 arrivals a day since June 1, and this daily cap includes business travellers, foreign students, and Japanese nationals. It will also include the newly allowed tourist arrivals. It will be interesting to see how many tourists will book holidays to Japan on these organized tours. One factor that could boost the attractiveness is the weak Japanese Yen. It is currently trading at a 20-year low, which could incentivize travellers to take advantage of lower than usual prices within the country.

China remains in an uncertain state. The country has been looking to ease border restrictions, especially after the two-month lockdown in Shanghai. While they loosened restrictions, parts of Beijing and Shanghai are already back in lockdown for a mass testing exercise, given the country’s zero Covid policy. We will be keeping a close eye as the situation emerges, although it remains unclear as to how things will progress over the summer.

Despite the Organisation for Economic Co-operation and Development (OECD) lowering its global growth outlook to 3% in 2022, down from the previous 4.5% forecast, summer travel does not seem to be a casualty of the slowdown. We believe that travel-exposed names could really benefit from the summer vacation tailwinds and keep performance on track despite the general economic slowdown.

Samsonite (SMSEY)

Samsonite has been one name that has benefitted from the global travel recovery and could further benefit from the reopening of the Asian regions. Sales for 2022 are on track to reach 80% of pre-Covid levels. The company is a well-established travel and lifestyle bag and luggage company with several brands under its umbrella. Some of these brands include Samsonite, Tumi, American Tourister, Gregory, and Lipault. The company’s exposure to different segments within the travel industry, as well as different geographies, makes it particularly attractive. In terms of business and leisure travel, which has been on the rise, they own Tumi and Samsonite, which cater to the more frequent, long-haul travellers. Gregory and High Sierra on the other hand, cater to the short-distance, outdoor-casual travellers who are looking to buy new gear for their road trips and backpacking adventures. As a result of these trends, sales in North America have been growing at a strong pace this year.

Asia is their second most important region in terms of revenues, accounting for about 34% of sales, just behind the Americas at 40%. However, the company’s sales in the Asian regions have been lagging, given the harsh lockdown measures that were in place over the last few months. Although more recently, news coming from Japan about the loosening of border restrictions for tourists and the slow reopening of several regions in China have given their Asian regional sales a boost. As China opened its inter-province travelling, sales have been improving, and with the broader reopening of the region, we remain confident that the company will be able to deliver strong sales in 2022 despite the slow start to the year.

L’Occitane (LCCTF)

Another one of our holdings that could benefit from tourists opening their wallets abroad is L’Occitane. The company owns many different brands in the cosmetics and beauty industry that appeal to diverse demographics. Their three top markets are China, the U.S., and Japan. Although there are still some uncertainties about the reopening situation in China, we expect the U.S., Japan and the rest of their geographies to make up for the slower growth in China. The company not only operates independently-owned boutiques, but it also has its products in major airports around the world at duty-free shops while also having a strong B2B distribution channel through which the company sells to airlines and hotels. With the global travel rebound, the company is looking to benefit not only from individual consumers’ spending during their trips but also from its B2B segment in which airlines and hotel chains will need to replenish their inventories to welcome travellers.

On the cost side, like most companies, L’Occitane has also been facing some expenditure inflation. However, the company has been able to swiftly manage its increased input costs. The pricing pressure that L’Occitane has been facing mainly stems from logistics and raw material costs. The group raised prices in all geographies during the month of April by 4-5%. This has been its largest price increase to date and the company expects it to be sufficient to maintain margins this year.

Global six-month real narrow money momentum – a key monetary leading indicator of the economy – is estimated to have moved deeper into negative territory in May, suggesting that a likely recession over the remainder of 2022 will extend into early 2023 – see chart 1.

Chart 1

The May estimate is based on monetary data for countries accounting for a combined 65% weight in the G7 plus E7 aggregate tracked here, along with 93% CPI coverage. Missing numbers are assumed to have maintained stable rates of change.

Real money momentum of an estimated -1.2% (not annualised) compares with lows of 0.4% and -0.5% associated with the 2001 and 2008-09 recessions respectively.

Chart 2 shows a longer-term history using G7-only data. The current rate of contraction of G7 real narrow money was reached only twice over the last 50+ years – in 1973 and 1979 before severe recessions. The rate of contraction of real broad money is faster than during those episodes.

Chart 2

Global real narrow money weakness intensified in May despite stable growth in China, mainly because of faster US contraction – chart 3. China’s positive monetary divergence may explain recent better equity market performance, with the MSCI China index now outperforming global indices year-to-date – chart 4.

Chart 3

Chart 4

The fall in global six-month real money momentum in May was driven by a further slowdown in nominal money growth, with six-month CPI inflation stabilising after a January-April surge – chart 5.

Chart 5

CPI momentum will almost certainly fall back in H2 – the relationship in chart 6 suggests that commodity prices would have to rise by a further 50% by December to prevent a decline.

Chart 6

A CPI slowdown, however, could be offset by further loss of nominal money momentum – unless rising growth in China (22% weight in the G7 plus E7 aggregate) offsets likely weakness in the US / Europe.