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A calmer tone prevails as US and UK markets prepare for a long weekend with global equities in a modest recovery mode and more importantly for risk sentiment, the dollar is trading defensively.

The rebound in sentiment or reprieve from further weakness in risk assets, once more reflects the latest remarks from President Donald Trump over trade. A hint that Huawei could be part of a China trade deal, however, shows just how tricky and volatile the road to the G20 meeting at the end of June looks for markets. 

Mark Haefele at UBS notes:

“When it serves his interest, President Trump takes tariffs off as quickly as he puts them on, so things can change quickly. But we don’t see the US or China hurrying to reach a deal, and the risk of miscalculation is growing.”

Indeed, analysts at Brown Brothers Harriman take a dim view of Mr Trump linking Huawei to a potential trade deal.

“This suggestion risks feeding into Chinese suspicions that the US is trying to curtail its growing global clout. All things considered, we expect global trade tensions to get worse, as a deal between the two largest economies is unlikely near-term.”

One can take some cheer that for all the noise this week, in broad terms, the FTSE All World equity index has only slipped 4.5 per cent from its late-April high and remains about 10 per cent firmer on the year. It’s a similar story for the MSCI World index.

Stepping back and viewing the performance of global equities over the past 12 months, a period marked by bouts of trade tension, shows that the MSCI World index has pretty much gone sideways. Defensive sectors have duly outperformed, a trend that has only strengthened this month, while pressure stems from emerging markets and trade sensitive sectors, carmakers and global chipmakers, a sector nursing a hefty double-digit loss so far this month.

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Expect little change in this dynamic until the trade temperature cools or economic data provides some upside surprises. On that score, this week’s run of global data have not been particularly supportive. US durable goods for April released on Friday were also disappointing, not a heartening look for business investment and for those hopes of a rebound later this year. That’s keeping US Treasury benchmark yields camped near their new lows for 2019 and the chatter of the bond market having the right call on the economy’s future prospects is certainly not fading. 

So where does this leave markets as the final week of May approaches? The short answer is watch whether the renminbi tests Rmb7 per dollar and for equities, does the S&P 500 stay above 2,800.

For Wall Street, the 2,800 point level for the S&P 500 is important as this represented a ceiling when the market tried to rebound last October, November and December. A rise above 2,800 was finally sustained in late-March, and so far in May the market has made two runs down towards that level.

Matt Maley at Miller Tabak + Co says the equity market correction has room to run, as a drop of about 4 per cent from recent highs in the S&P 500 does not fully price in the renewed uncertainty about a “trade agreement . . . not to mention Iran, Brexit and the European banks”.

These factors all chip away at investors’ faith in stronger economic and earnings growth during the second half of the year, an outcome that the market was perfectly priced for at the end of last month when the S&P 500 was just shy of 3,000. 

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Matt concludes: 

“This does not mean we’re headed for a recession and a bear market, but it does mean that the market needs to fall further . . . now that ‘perfection’ is very unlikely to be achieved.”

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Quick Hits — What’s on the markets radar

Mrs May bids goodbye — Brexit has not been delivered and that is the task for the next prime minister and a divided Conservative party, UK parliament and country. In the wake of Theresa May announcing her resignation, sterling briefly rose above $1.27 in choppy trading, before slipping. Having tumbled from near $1.32 earlier this month, Friday’s muted currency reaction does suggest the market has priced in her departure and the job passing to Boris Johnson (the bookmakers’ favourite and here’s a link to predictit.org).

Mark Dowding at BlueBay Asset Management says look for a weaker pound towards its post-referendum lows:

“As May departs, we feel that remaining hopes for a negotiated EU Withdrawal Agreement are starting to disappear with her. We see no appetite from Brussels to renegotiate with a more hardline Brexiteer, and so moves towards a hard Brexit are likely to gather momentum in the weeks ahead.”

Follow the money — EPFR’s weekly flows data show a combined $1.2bn was pulled from equities covering China, greater China and Hong Kong. Japanese equity funds saw their 13th net redemption in the past 15 weeks. Among the beneficiaries of the risk aversion mood, US bond funds extended their winning run to 20 straight weeks, and money markets attracted their second-biggest weekly inflow year-to-date.

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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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