Charts and caffeine: Citi's two Big Four bank buys

Welcome to Charts and Caffeine - Livewire's pre-market open news and analysis wrap. We'll get you across the overnight session and share our best insights to get you better set for the investing day ahead.

MARKETS WRAP

• S&P 500 - 3,735 (-0.38%)
• NASDAQ - 11,312 (+0.21%)
• CBOE VIX - 31.95

FedEx was the top performer on the S&P 500 after it said it would raise its quarterly dividend by 50%. It also said it was adding two new directors to its board. Oracle's shares extended gains overnight following its earnings beat. Finally, shares of legacy energy producer Continental Resources soared after revealing it was the subject of a $25 billion takeover offer. 

• FTSE 100 - 7,187 (-0.25%)
• STOXX 600 - 407.32 (-1.26%)
• USD INDEX - 105.47
• US 2YR - 3.435% (+15bp)
• US10YR - 3.473% (+10bp)

(Look at those moves in the bond market! More on that in the big issue.)

• GOLD - US$1810/oz
• NATURAL GAS - US$7.25 (-15.76%)
• WTI CRUDE - US$119/bbl

THE BIG ISSUE 

Yesterday, we alluded to the barrage of central banks coming this week. Today, the question shifted dramatically from "will the Federal Reserve stop hiking rates in September" to "will the Fed be forced to hike rates by 75 basis points this week?"

Over the weekend, no less than six investment houses (Deutsche Bank, Capital Economics, Barclays, Jefferies, Nomura, TD, Goldman Sachs, and JP Morgan) have all changed their key calls for this week to reflect a yes to the above question. Here is an excerpt of Barclays' reasoning:

Although we now think that the magnitude of the surprises in recent inflation data call for a 75bp hike, we do think it is a close call whether this will be timed in June or July... although this could occur in either meeting, a June hike would be more beneficial in terms of reinforcing credibility.

Goldman Sachs had a far more muted take on the situation.

Financial conditions have tightened enough to provide a large negative growth impulse that puts the economy on a below-potential trajectory.

And Citi's Andrew Hollenhorst just hid under the subtlety blanket.

While for now we maintain our base case of 50bp rate hikes in June followed by two more in July and September, risks are clearly rising towards policy rates reaching an even higher level sooner.

Conclusion? This two-day meeting (which starts tonight) is going to be absolutely fascinating. What I would give to have a seat in the room. For now, markets are doing all the work for the Fed - the yield curve inverted twice in 24 hours yesterday (albeit, extremely briefly both times) and the short-duration selloff has been absolutely nuts.

This is what they are betting on, incidentally.

THE CHART

THE STAT

4%: Rates traders believe the RBA could have a four in front of the cash rate by the end of 2022. (Source: ASX)

This is a hard stat to read, so let me give you the TL;DR explanation. Firstly, this is the link for the source. Secondly, ignore everything bar that far right-hand column (the one entitled "previous settlement".)

The basic thesis here (and huge kudos to Stephen Koukoulas of Market Economics for explaining it to me!!) is that 100 is considered a zero cash rate. 100 minus the implied yield should give you the interest rate that rates traders are betting on from the RBA specifically. 

Now, take 100 minus the first place you see a 96 handle at the front from that far right-hand column. That means you get at least a 4% print - hence the stat. It's a strange one, it's one for the total nerds but it (weirdly) makes a lot of sense to those who follow it.

THE QUOTE

Given recent geopolitical events we have undertaken a massive review of our strategy and implemented change already. Initially to combat crisis situations and raw material shortages but to ultimately future proof our production capabilities.

My company is investing heavily now to bring production back from East Asia to the USA. This investment is being made to ensure supply continuity.

These quotes are directly taken from the Morgan Stanley CEO survey - and they reveal quite a lot about this "deglobalised" world we may very well be entering. 

For a primer on the subject, please read my colleague Glenn Freeman's work on the drivers of the global supply chain crisis.

STOCKS TO WATCH

It may have been mentioned at least once or twice (or lots of times) that rising rates would end up being a good thing for the major banks. 

Well, that certainly hasn't borne out in recent sessions. The S&P/ASX 200 Banks (total return) index is down more than 15% in the last five sessions alone. 

An outsized RBA rate hike, fears of a global recession, and the backup in yields is not doing the good financials investors were hoping for. Plus, weren't mortgage holders supposed to be resilient enough to honour their repayments?

That isn't stopping Citi's Brendan Sproules and Akshat Agrawal from declaring at least two of the Big Four a buy. Here is an excerpt of their big picture thesis:

We find that the current underwriting standards explicitly build a significant level of financial buffer, even for the most leveraged borrowers. We also find that the banks possess material excess loan loss provisions to cushion any asset quality deterioration.

As for those share prices, it turns out there's some form to their thesis.

Finally, here's the jackpot line.

We believe the peak in the cash rate during this cycle won’t be determined by rising mortgage defaults, but by a slowing of household consumption demand. 

(Conclusion: Everything is going to be fine.)

So where are they buying? The analysts are putting their money on ANZ(ASX: ANZ) and Westpac (ASX: WBC) while holding the NAB and selling Commonwealth Bank(ASX: CBA). Most importantly, they say the re-rate is a buying opportunity. 

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