US economy

Tech cold war clouds the horizon for investors


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The global growth forecast is turning murkier, spurring further selling in equities and a search for safety via sovereign bonds. 

That is hardly a surprising outcome as the trade spat between the US and China has moved beyond tariffs and is focusing on the very tangled issue of technology. With the US reportedly pushing South Korea to also ban some Chinese tech products, this increasingly looks like a new cold war and one that sends a chill through many globally focused companies and investors. 

Marc Chandler at Bannockburn Global Forex sums up sentiment across markets:

“China and the US appear to be digging as if the trade tensions will remain for some time and the breach is beginning to look too big for Trump and Xi to pull another rabbit out of the hat like they did at the end of last year when the tariff truce was struck.” 

Trade-sensitive sectors, or those with complex global supply chains, are feeling the heat as the sun shines brightly in London today. Leading the Stoxx Europe 600 lower are global sectors spanning oil and gas (see Quick Hits on the oil price slide) carmakers, technology and industrial goods. In Asia trading, smartphone component makers were among the biggest decliners with Sunny Optical Technology and AAC Technologies both sharply lower.

Absolute Strategy Research remind us that equities still price in a global recovery for 2019, rather than a growing headwind from an entrenched trade impasse between the US and China.

They add:

“The rotations seen so far from cyclicals to defensives, away from EM and industrial stocks, and away from tech hardware to software, are only consistent with existing levels of economic activity. Any intensification of US/China trade wars would see these trends go further.”

Not helping matters for eurozone markets today was the news that both manufacturing and services purchasing managers’ indices readings missed forecast gains. Germany’s Ifo business confidence indicator fell to 97.9 in May from 99.2 in April, the lowest reading since November 2014. 

Clearly the dominant story is the increasingly fraught trade relations between the US and China as equity markets finally show signs of a bigger correction. Here’s how the retreat among major equity markets from their recent peaks looks.

The weaker tone for equities has pushed global sovereign bond yields lower with the US 10-year note yield today falling towards 2.30 per cent, a level previously seen in late 2017, and one that leaves the benchmark sitting below the effective average fed funds rate of 2.375 per cent. The trend remains fairly clear from this snapshot of global 10-year yields. 

Playing a role in powering the rally in government bonds is demand from Japanese investors as the latest weekly data from the ministry of finance show net buying of $12.3bn of foreign bonds.

Also of note is how the US 30-year bond yield has dipped to 2.73 per cent, an area also not seen since late 2017 for an important fixed-income benchmark. Investment portfolios tend to hold long-dated Treasuries as ballast to help offset weakness in their riskier holdings. The performance of the long bond yield suggests that defensive positioning is picking up. 

Over at Saxo Bank, they show via this chart, the flow of new credit or what is called the “credit impulse” in China and for the global economy. The bank explains that the credit impulse leads the real economy by nine to 12 months with a correlation of 60%. At the moment, Saxo says the global figure is minus 1.8 per cent of global GDP, while that of the US is “running at minus 2.2% of GDP, the lowest level since 2009”. 

The key here is whether China, which represents a third of the global credit impulse, opens up the taps. But as Saxo’s Christopher Dembik notes:

“This is a challenging task that implies the implementation of very targeted support policy. The goal here would be to avoid fuelling the debt bubble as much as is possible. The manufacturing goods sector, most notably the communications sub-sector, represents the largest share of Chinese exports and thus is the most vulnerable to ongoing tensions. It will certainly be subject to support measures very soon.”

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Quick Hits — What’s on the markets radar

Gold struggles as dollar rallies — The classic haven is not enjoying much of a ride as the currency market favours the US dollar. Gold has bounced $10 today, to about $1,287 an ounce, but that still leaves it shy of $1,300, a level it tested earlier this month. When markets are really worried, they buy the US dollar, particularly when the threat of a weaker renminbi loiters with intent.

Oil gets a message — A demand hit via trade is not good news for oil prices and energy sector companies. Brent crude is back below $68 a barrel, after trading above $72 on Wednesday. For all the noise between the US and Iran, the market is a lot more focused on the outlook for the global economy. 

Pound has few friends — The UK currency has entered dangerous waters. Rising volatility and the currency’s sharp slide in the past couple of weeks hits the economy and deters business investment. UK equities have long been shunned by global investors since the 2016 referendum and the latest political developments will not change such thinking. The performance of the FTSE 100 this month shows that blue-chips have dropped 2.6 per cent, a better outcome than other developed world benchmarks such as the S&P 500 and Germany’s Dax, reflecting a weaker pound. The absence of global companies and their foreign-based revenues shows up in the more domestic-focused FTSE 250, which is down 4 per cent in May. But switch the figures into US dollar terms and you can understand the reluctance of global investors, as the FTSE 100 is down 5.3 per cent and the 250 has dropped 6.6 per cent so far this month. 

The $1.30 level against the US dollar had until recently represented solid support, reflecting the view that the UK would not leave the EU without a deal. That is now in doubt and explains why the pound has slid towards $1.26, and perhaps has room to fall further as the likely next prime minister (at least in the eyes of bookmakers) is Boris Johnson. That raises the prospect of the EU rejecting a revised Brexit deal from the next PM. From there, the likelihood of a general election or a second referendum is high, scenarios that will keep the pound under pressure and also below its old support of $1.30 to the dollar.

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I’d love to hear from you. You can email me on michael.mackenzie@ft.com and follow me on Twitter at @michaellachlan.





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