Markets cool as the weather hots up

Are we prepared for the bumpier road ahead?

28 June 2019

1 minute read

Our Chief Investment Officer discusses our outlook for the global economy in the face of further trade tariff escalations and the resulting volatility they bring.

The current landscape

The broadening front in trade tensions has got many investors increasingly worried about global growth prospects. Market expectations for a rate cut in the US have risen accordingly. Despite our recessionary indicators ticking up slightly and trade war uncertainty hitting private sector confidence, we still believe that the world economy remains in good shape.

Elsewhere, Emerging Markets Equities have suffered a swing in sentiment. We think the market has been disproportionately punished and retain our overweight exposure.

Sterling weakened over the month as the market priced in the rising probability of an exit from the EU without a deal. We still expect an exit with a deal but the risks of both a no-deal exit and indeed no Brexit at all have risen in recent months.

While opportunities remain, investors should expect a slightly rockier road ahead than in 2018. However, the message remains the same: Get invested. Stay invested. Stay diversified.

Toby: Hello, and welcome to another episode of Monthly Market Insights where we dissect what’s been going on in the markets over the past month. Well as the UK weather hots up the international markets seem to be cooling off. With me to discuss that in a bit more detail, our ever-present Chief Investment Officer, Will Hobbs.

Will: Morning Toby.

Toby: Will, thanks for joining us. Over the last few weeks we’ve seen markets tail off slightly, but to set that in context, they’re back to their 52-week average or so. What’s been happening over the last two weeks and should we read much into it?

Will: Toby, so generally what you find is that at this stage of the economic cycle, when you’re getting towards the end; we don’t know how close we are to the end, the doomsayer trade tends to get a bit more active. That’s because investors tend to get a bit edgier, particularly when in your rear-view mirror you’ve got a recession like 2007-2008 looming large over you. Everyone gets a bit more anxious, any turn in the data. That’s what been happening more recently. So, the broadening front in the global trade tensions and that’s got many in the fixed-income complex more worried about the growth prospects, the equity market too. So, you’ve found that traders have started to price in interest rate cuts in the US. We’re coming almost back to where we were in December but for a slightly different reason. Now to our understanding the world economy looks okay, absent a trade war. It’s not like there’s no warts at all but it’s a reasonably okay looking economy. But the trade war is obviously hitting private sector confidence in that sense.

Toby: So, before we go into the trade war in a little bit more detail, let’s think about some of those big indicators that we like to talk about on a monthly basis. Is this a case of markets just being a little bit more anxious and the volatility coming from anxiety because of where we are in the cycle? Or is there anything fundamentally that you and the guys in the Research and Strategy team are looking at and thinking ‘Actually these couple of data points are giving me some anxiety’? What do you think?

Will: It’s very much the latter actually Toby, interestingly. You are finding; so if you imagine yourself as a global business looking at the world and obviously at the moment some of those tensions, they’re hindering your confidence, they’re making you less confident in the short term outlook for the economy. So that’s showing up in some important indicators. Now context and perspective is always vital in this. So, although the recession probabilities have been ticking up a little bit over the next 12 months, mechanically so. If you take a step back and look at some of the major actors in the world economy: the US private sector, so the US consumers and businesses, the thing that’s important for us is that segment, that important slice of global demand is still in reasonably good shape. Now while that’s the case that remains a significant impediment to an imminent global recession, it doesn’t mean it can’t happen. But it just sort of trains you a little bit to dampen down that first look at some of those more worrying indicators.

Toby: So, as we film this, President Trump is arriving in the UK for his much-anticipated state visit, formal state visit. Of course, the US accounts for an enormous amount of global capital market activity. The last time we spoke trade tensions were ramping up a bit, but we didn’t have too much anxiety about them, it was very isolated, it was very local. Things seem to have expanded over the last couple of months. Is there anything in there that we should be looking at? What are the areas that are affected specifically and what should we be looking at, data-wise, to understand whether the trend is positive or negative?

Will: Very difficult. One of the things that you would look at at the moment is that in a sense you call it a game of trade chicken. Both sides are trying to get some agreement out of it that allows them to go back to their domestic audiences and say, ‘look what I’ve done’. On the US side, they kind of need to have change in Chinese law, particularly with regards to intellectual property practice. On the Chinese side, they probably need the immediate reduction of all tariffs that have been imposed. So, in order to find that agreement they don’t seem to be quite there yet so what you’re seeing is sort of an escalator scenario. Both sides escalating showing how hard it is to get over the line essentially. We still think there’s a deal in there somehow, somewhere. We still think that both sides are incentivised to come to that deal, but it could get uglier in the near-term.

Toby: Now you mentioned the domestic outlook, let’s bring it back to the domestic UK outlook. The next time we speak there’s likely to be a new UK Prime Minister. How is Brexit? How is the power struggle in Westminster affecting the UK markets?

Will: So, over the month of May you saw sterling weaken a little bit and that seems to be a reflection of the market trying to get on top of, or trying to price in the rising probability, that you’re going to exit the EU without a deal. Depending on what political persuasion you are: it’s either a clean break or a hard Brexit, just exiting without a deal. Now, it’s difficult to work out how easy it is for a Prime Minister, whichever the Prime Minister, to prosecute that action: i.e. bring the UK out of the EU without a deal in the face of a parliament that is unwilling to allow that to happen. The laws are quite unsure in terms of how much power that Prime Minister has or how much power parliament has to frustrate the Prime Minister in this circumstance. Our continuing bet is still the most likely exit is with a deal but the risks, I guess, of both a no-deal exit and indeed no Brexit at all have risen a little bit in the last few months.

Toby: In summary then: lots of opportunities out there for investors but you should expect a slightly rockier road than you may have enjoyed perhaps in 2018 but the message remains the same. Get invested. Stay invested. Stay diversified. Will, thank you very much and we look forward to catching up with you again next month.

Markets cool as the weather hots up

Will Hobbs, Chief Investment Officer, talks with Toby Cross, Head of Client Investment Solutions, about the ongoing trade tensions, emerging markets and recent sterling weakness.

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