Market Commentary – May 2019
US Equities retreat, bonds rally on Trade dispute/weak data
US shares, which have been the best performers among the developed markets in 2019 so far, went into sharp retreat in May, as hopes for a quick resolution to the Sino-US trade dispute seemed to diminish, and both sides hardened their rhetoric ahead of the June G20 meeting. President Trump also took aim at Mexico, threatening tariffs in retaliation for Mexico’s failure to curtail illegal immigration to the US. Softer economic data also contributed to the malaise, with Industrial production slowing markedly in the latest figures. The 10-year Treasury yield fell to a twelve-month low amid a general investor move to a more risk-off position
UK market awaits new Prime Minister
Shares in the UK managed to record a slightly smaller decline than their international peers, as blue-chip shares were supported by weaker sterling. Mrs May signaled her intention to step down after President Trump’s visit in June, and the front runner to replace her is Boris Johnson, a hard-line Brexiteer, popular with the party membership, but a divisive figure in the parliamentary party. A series of votes and televised debates will culminate in the announcement of a new leader in the week beginning 22nd July.
Europe heads lower, as car manufacturers dive
Many of the European markets saw sharp falls, led lower by car manufacturers, which fell on concerns that they will be in the front line if President Trump turns his attention to European trade. Shares in BMW fell by 18.3%, Fiat by 16.7% and Renault by 11.3% as The Sino-US trade dispute continued to heat up, in contrast to the forlorn expectation that the two presidents would reach an agreement in the Spring.
Trade dispute batters emerging markets
Emerging markets had a torrid month, falling 7.6% in Sterling terms, as measured by the MSCI Emerging Markets Index. They were hit primarily by Trade Wars, with the US announcing plans to raise tariffs on $200bn of Chinese goods to 25% in the first week of the month. The hike in tariffs came amid accusations that China has sought to renegotiate its agreements, according to US authorities. Meanwhile the Chinese side shows no signs of relenting, with threats in the final week of the month to cut exports of rare earth minerals, a resource critical to the US technology sector, to the United States.
During May, equity markets around the globe fell, as the rhetoric surrounding the Sino-US trade dispute got tougher, drawing in the US ban on sales to Huawei, and the veiled threat from China to restrict US access to the rare earth metals that are necessary for many forms of technology. President Trump also threatened tariffs against Mexico, in retaliation for Mexico’s failure to control illegal immigration into the US. Concerns that his next target will be Europe, leading to the choking of global growth drove shares down in all major markets.
Across the EU, there were very few positive returns to be found, with just a handful of the minor nations managing small rises, led by Greece, which gained 4.8%. During the month, there was no clear distinction between the major markets and the emerging EU nations, as Germany, France, Spain, Italy and the Nordics all returned losses in the 5-9% range. Economic data covering the Eurozone as a whole reflected business confidence falling for the third consecutive month, whilst industrial production and retail sales also slipped from the previous month’s levels.
Sterling remained volatile over the month, as speculation mounted over the leadership of the Conservative Party. With Mrs May’s resignation came the prospect of a more hard-line Brexiteer taking charge, and fears of a no-deal Brexit were re-awakened, and the Pound closed the month lower against other major currencies. The US dollar gained as the trade dispute with China rumbled on with positions seeming to harden, rather than moving towards a resolution. Overall the Japanese Yen was the best of the major currencies, seen as a relatively safe haven for investors amid the international turbulence.
Fixed income stocks saw a particularly strong month in May, as investors switched to a decidedly risk-off mentality, driven by softer economic data and harder trade dispute rhetoric. The US 10-year yield, which reached 3.26% in Autumn 2018, fell to just 2.12%, as the consensus opinion turned to a rate cut being the next move by the Federal Reserve. Government bond yields fell across the globe, with ECB bonds moving further into negative yield territory. The exception to this was Italy, where shares and bonds were sold as a renewed despite with the EU over the country’s budget deficit seemed to be looming on the horizon.
*A Generic bond is a theoretical bond that always has the specified tenor, unlike a Benchmark bond, which is a physical bond, with a decreasing tenor.
China, Castro and the Law of Unintended Consequences
When you think of Cuba, the image that comes to mind is probably one of a bearded leader in a green cap, possibly smoking a cigar. It is unlikely that your first thoughts would be of Cuba’s healthcare system, and yet this is surely the jewel in the crown of the small island nation. Cuba’s drug industry,medical technology and state-run healthcare system, though rarely mentioned, are among the best in the world, and there is a very simple reason for this.
The United States first began sanctions against Cuba in 1958. The embargo on arms sales was expanded to include many more exports, except for food and medicine in 1960, after Cuba nationalised American-owned oil refineries without compensation. In 1962, as a response to Cuba’s role in the Cuban Missile Crisis, sanctions were extended to include almost all exports. Faced with a crisis of supply, Cuba nationalised its healthcare industry in 1960, regulating prices and hence alienating foreign companies that had been used to setting their own prices on exports to Cuba. The crisis continued to deepen until 1967, at which point, the country had lost nearly half its physicians, and had only 22 professors of medicine working in a single medical school. However, over time, with encouragement, and more importantly, funding, directed at medical research and the provision of healthcare to the whole population, Cuba slowly began the ascent to become a shining beacon of global excellence in the field of healthcare and biotechnology.
This is a classic example of the law of unintended consequences. The USA wanted to punish Cuba with sanctions, and accidentally forced Cuba to become a leading world nation in the field of biomedical research and technology.
Knowing the story of Cuba’s healthcare industry makes it hard not to have a certain perspective on the current trade dispute between the US and China, and particularly the US’s hostility towards Huawei. With the tariff war showing no sign of easing as we head into the Summer, and commentators starting to use phrases such as ‘technology cold war’, it is easy to see how the current situation could play out. The difference is that China already has a head start in the field of technology, and Huawei is at the cutting edge of that, with its own compact operating system to replace Android, and a head start in 5G hardware; the last thing America should want is to force China’s technology industry to develop in isolation. Bear in mind too, that China already effectively controls the market in rare earth metals that are essential in the production of devices such as phones and cameras, but also find application in areas as diverse as cancer treatment drugs and high-powered lasers. In a world that will soon be clamouring for electric cars and clean energy solutions, it is hard to imagine China not playing a part.
May’s sell-off in global equity markets was a direct response to President Trump’s bellicose rhetoric and China’s own readiness to hit back if tariffs are increased further. Whilst economic data had been pointing to a recession being avoided, nothing has a better chance of choking global growth than a long, painful trade war between the US and China. For the first time, China has hinted that it might restrict the supply of rare earth metals to the US. This is no small concern, given that China has around 37% of the world’s reserves of rare earth metals, and handles 70% of the world’s production. It is also responsible for 80% of the US’s imports of them.
There is little doubt in the White House, that China has not played fairly in trade with the US, and as long as President Trump feels that a hard line against China plays well with his supporters, there would not appear to be much incentive for him to settle any time soon. Remember his words at the start of the whole dispute, that trade wars are ‘easy to win’. However, with the campaign for re-election in 2020 kicking off later this year, and the stock market (which Trump has always pointed to as a barometer for his success) starting to take an increasingly wary view of where this is going, we might see a cooler head prevail in the coming months. Trump and Xi will most likely meet at the G20 summit in Japan this month, and with the world’s cameras watching, it is not impossible that some conciliatory noises may be made.
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