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Global Economy & Markets, Weekly Roundup 04/12/18

04/12/2018 - Reports

Global Economy and Markets

Equity markets rebound, following dovish Powell and the suspension of trade tariffs between the US and China

Key Takeaways

Following the G20 summit, US and Chinese senior policymakers met and agreed to remain committed to trade negotiations, with compromises from both sides. President Trump agreed to suspend, at least until March 2019, scheduled increases on tariffs (from 10% to 25%) on $200bn of Chinese goods that was to take effect on January 1st. President Xi agreed to import more US goods (e.g. agricultural, energy and industrial products) and to tighter supervision of certain drugs (i.e. Fentanyl), a significant issue in the US.

Furthermore, both sides promised to begin discussions on structural changes regarding forced technology transfer, intellectual property protection, non-tariff barriers and cyber security is examined by the US administration, possibly making a comprehensive deal more challenging. In all, despite a limited timeframe to reach an agreement and a potential to prolong trade uncertainty into next year, the result to commit to further negotiations is positive for risk assets.

Moreover, China will reduce its tariffs of US auto imports (currently at 40%), benefitting auto manufacturers based in the US. With the EU and Japan likely to engage in trade talks with the US in 2019, the investigation by the US Department of Commerce (due by mid-February), into whether auto imports pose a national security threat, may also lead to trade concessions from US trade partners.

The suspension of the imposition of tariffs could also support the Chinese authorities’ efforts to boost the economy, easing pressures on the yuan (Monday: +1% to RMB 6.88/$ | -6% ytd). Consensus expects growth to moderate to 6.4% yoy in Q4:18 from 6.5% in Q3 and 6.8% in H1:2018, suggesting stabilizing activity, albeit business surveys appear mixed (see Economics).

Before the onset of trade optimism, Fed Chair Powell’s comments that US policy rates “remain just below the broad range of estimates” of the neutral rate (see graph below) lifted risk sentiment in the past week, implying a more dovish view of the amount of the additional rate hikes required to normalize monetary policy. In October, Chair Powell had expressed a less benign outlook stating “we’re a long way from neutral at this point, probably”.

Global equity markets rebounded strongly in the past week (MSCI ACWI: +3.3% | -4.3% ytd) and continued to recover on Monday (+1.3%) after the Trump/Xi meeting. However, investors’ skepticism regarding the details of the trade truce strengthened on Tuesday, tempering risk appetite and reversing some of the equity markets’ gains. Cyclical sectors advanced, with US technology and consumer discretionary (both >6% wow) over-performing due to a dovish Fed (as lower rates support higher valuation levels). Indeed, core government bond yields declined on a weekly basis (-5 bps) and on Monday (-2 bps), as Fed rhetoric offset trade developments, with the US Treasury yield at 2.97%, a 2-½ month low.

Oil was mixed in the past week, but recorded solid gains on Monday (Brent: +4.5% to $61/barrel), as Russia and Saudi Arabia appeared to have agreed to an extension of production curbs ahead of the OPEC+ summit (December 6). However, the scale of production cuts needs to be c. 1 million barrels/day to balance the market in H1:2019.