Hopes for a trade agreement

Investment Policy, December 2019

Hopes for a trade agreement

Hopes of a trade agreement and greater monetary liquidity have triggered a rise in equity markets and a certain amount of profit-taking in government bond markets. Corporate results for the third quarter were satisfactory overall. In the event of an initial trade agreement being signed between the US and China, emerging markets could make up some of the ground they have lost against other equity markets, as earnings forecasts and economic growth could benefit.

Global economic indicators continue to point two different ways at the moment. Specifically, consumer spending and services remain in better shape than manufacturing and investment. Historically low unemployment rates are propping up consumer spending in the US but also in Europe, which is particularly important as the Christmas shopping season gets underway. The financial markets have increasingly been boosted by a renewed increase in monetary liquidity in recent weeks. The resumption of bond-buying programmes by the Fed and the ECB (expansion of balance sheets) and their recent interest rate cuts have provided support globally to equities as well as bonds, particularly corporate bonds. In addition, rising expectations of at least a partial trade agreement being concluded between the US and China have resulted in a certain stabilization of sentiment among companies and exporters. An important question now is whether the US will go further than just suspending the new tariff hikes planned for the fourth quarter (if indeed it does that at all, with Trump you can never be sure), and actually reverse some of the existing tariff increases. 

Equities
Stock markets are hoping that an initial trade deal between the US and China will be signed before the end of the year. In the event of such a scenario coming to pass, the equity market could claw back some of the ground lost in recent years to the MSCI World index, as long as no other fresh political problems beset them in the meantime. Corporate results for the third quarter proved satisfactory. In keeping with the trend we have seen in recent quarters, companies in the US unveiled better earnings and sales results than their European counterparts – and not just compared to consensus expectations, but also on a year-on-year basis. The growth in global earnings expected by analysts this year, which has been reined in considerably, now looks more realistic. On the other hand, the rise in equity markets since the start of the year has been driven primarily by an increase in valuations, something that is true of both price/earnings ratios and other valuation criteria. By contrast, the valuation of emerging market equities has declined against the MSCI World over the last 18 months due to uncertainties over the trade conflict – a decline that lies in double-digit percentage territory over the last decade against a backdrop of lower economic growth rates, particularly in China. The successful conclusion of a trade agreement could improve investor sentiment towards the economic growth prospects of the emerging markets, which could in turn see their stock markets embark on an upward trajectory.

Emerging markets could benefit if a satisfactory trade agreement is concluded.

Gérard Piasko, Chief Investment Officer

Bonds
As expected by the markets, the Fed cut key US interest rates by 25 basis points in October for the third time this year. However, it also indicated that it would refrain from initiating further rate cuts for the time being in order to observe the repercussions of monetary easing measures implemented so far. A certain amount of profit-taking was seen in government bond markets as a result. The decline in inflation evident in both Europe and the US for a number of months now is nonetheless providing a basic bedrock of support for bond markets. Corporate bonds benefited from the satisfactory results unveiled for the third quarter. The trend of the corporate bond segment outperforming the sovereign segment since the start of the year therefore continued. This has worked in favour of our overweighting of corporate bonds compared to government bonds. The renewed expansion of the balance sheets of both the Fed and the ECB in recent weeks is prompting investors to search for higher yields, hence the greater demand for corporate bonds generally rather than government bonds.

Currencies
The euro has been under pressure against the Swiss franc for some time now. This phenomenon has been caused not just by the downward trend of the euro against the US dollar, which has held sway for several years and is attributable in particular to America’s superior economic growth compared to the Eurozone. The Swiss economy has also performed more strongly than the Eurozone in recent years, although this trend has waned somewhat recently. However, the Swiss economy is set for a boost next year against the backdrop of the 2020 Olympic Games (the International Olympic Committee being domiciled in Switzerland), which could prove an indirect source of strength for the Swiss franc for purely technical reasons. The Swiss National Bank has reiterated its willingness in recent weeks to intervene in the foreign exchange market if required to prevent any excessive rise in the franc. For its part, the greenback has continued its volatile sideways trading pattern against the franc, a trend that first became apparent a number of months ago

Commodities
The consolidation of the gold price that we predicted last month has come to pass, as evidenced by gold depreciating by some five percent in US dollar terms. Whether or not this decline is now at an end will depend, among other things, on whether a satisfactory trade agreement is actually concluded between the US and China, and whether the detail of such an agreement convinces. This factor is also likely to determine the direction of industrial metal prices over the next few weeks. Copper in particular often reacts very sensitively to factors with the potential to impact Chinese economic growth. This is hardly surprising, given that China is responsible for more than 50% of all demand for copper. Price gains in the oil markets have also been a feature of the last few weeks, mirroring the development of equity markets. However, it is not a given that the price of WTI crude will be able to break upward out of its existing bandwidth of USD 50-60 a barrel, which has held firm since the early summer. Key factors here include the development of demand for oil – which in winter is often driven by prevailing temperatures in the northern hemisphere – and above all whether the production cuts agreed by OPEC are extended. 
 

Gérard Piasko

Gérard Piasko

Gérard Piasko is CIO and head of the investment committee of private bank Maerki Baumann & Co. AG. Before he was for many years CIO of Julius Baer, Sal. Oppenheim and Deutsche Bank.

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Editorial deadline: 26 November 2019

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