New article from Tatton Investment Management: No surprises

15 June 2018

From last week’s perspective – and in terms of what we wrote then - this week bore little in terms of surprises. The US’ central bank, the Federal Reserve, raised rates by 0.25% for the 2nd time this year to 2%, which felt entirely justified considering the currently more than robust health of the US economy.

The Eurozone’s central bank, the ECB, held on to its 0% interest rate and said it was likely to keep it at that level
“at least through the summer of 2019 and in any case for as long as necessary….”. This was probably because they also decided to discontinue further monthly bond purchases under their QE programme by the end of the year ”subject to incoming data confirming the Governing Council’s medium-term inflation outlook”. This confirmed the view of all those who regard the current slowing of economic growth in Europe as temporary and merely a counter reaction to last year’s growth overshoot.

Anybody who might have expected a replay of the 2013 Taper Tantrum with severe corrections in bond and equity markets will have been relieved. Instead, bond and currency markets did not budge particularly and hovered at the levels they had traded around for the past months. Equity markets experienced slightly more volatility, but that had less to do with central bank actions and more with the political dimension we also discussed last week.

Here, US president Trump displayed – as expected - his emotionally unstable side, although more after than during the G7 summit. Belittling of, and hurling personal insults at demo­cratically elected leaders of the US’ hitherto closest NATO allies may prove far more damaging to the USA than withdrawing support to the previously agreed G7 communique on the withdrawal of trade barriers or the imposition of the first wave of trade tariffs. At the very least it has made it much more difficult for these politicians to justify any compromises with Trump towards their electorates without indeed appearing weak.

However, what stock markets actually appeared to take umbrage at, was the administration’s announcement of applying tariffs of 25% on Chinese imports worth $50 billion from 6 July, which was immediately matched by Chinese tariffs of the same amount and volume on US imports. Given the Trump administration had already threatened to retaliate against retaliation with further tariffs on $100 billion worth of trade, it may be dawning on capital markets that Trump’s approach to trade negotiations might not be leading to similar success as his defusing of the North Korea situation, but more likely a tit for tat trade war.
Despite this unsavoury global trade perspective equity markets remained fairly sanguine, with robust current global trade and strong U.S. economic activity helping investors stay calm or at least wait until trade sanctions really bite.

For the time being it appears that the buoyant economic present is distracting enough to outweigh the perspective of a future of global trade decline. And maybe markets are right, given the North Korea tensions had also previously deteriorated to the point where the actual exchange of hostilities seemed quite possible. What speaks against this appraisal is that neither the western leaders nor China’s leader Xi Jinping are quite as driven by gaining Donald Trump’s respect and attention as Kim Jong-un.

All this tells us that the summer of 2018 may prove less quiet than average, but there is also hope that politicians everywhere will not want to risk losing the general economic tailwinds they are enjoying at the moment. The only positive that can be drawn from the dark horizon of trade politics – and this includes the UK’s Brexit stalemate – is that investors are unlikely to abandon fixed interest bonds any time soon. This may therefore go some way to explaining why markets took central bankers’ insistence to continue on their path of monetary tightening quite as relaxed as they did.

 

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