Pockets of market stress are broadening (trade, hawkish Fed due to strong wages) hurting investors’ risk appetite
Global equity markets declined in the past week, due, inter alia, to broadening pockets of stress in emerging markets, amid renewed focus on trade wars. The US is set to impose increased tariffs of 25% on $200bn worth of Chinese imports (on top of the previous tariffs of 25% on $50bn of Chinese imports).
China has cited it will respond “decisively”, while already having announced a list of $60bn worth of US imports to face increased tariffs, if the aforementioned $200bn list from the US is activated. Further potential retaliation from China could involve targeting: i) services imports from the US ($59bn); and/or ii) US-based companies operating in China. According to the US Bureau of Economic Analysis, total sales in China by majority-owned foreign affiliates of US multi-national companies amounted to $345bn in 2016.
The S&P 500 declined by 1.0% wow, with IT down -2.9% wow (+16.5% ytd). The sector faces the prospect of tighter regulatory scrutiny, with attention on major social media firms, e.g., Facebook (FB: -7.2% wow | -7.6% ytd) and Twitter (TWTR: -13.3% wow | +27% ytd).
In a similar vein, the EuroStoxx fell by 2.6% wow (-4.1% ytd), with the Autos sector continuing to underperform (-3% wow | -16% ytd). Recall that the German autos sector has been hit hard in 2018 due to trade concerns (-18.3% ytd). Besides the impending threat of US tariffs on auto imports from the EU, US tariffs on China also hurt German autos, as 30% of 16.4mn autos are produced in China (34% in Germany).
The complexity of production and supply chains weighs. As the President of the German Association of the Automotive Industry, Mr. Mattes, noted, a successful completion of NAFTA negotiations (including Canada) is vital for the German auto industry, as 9% of German autos are produced in the NAFTA region.
Risk appetite for emerging market (EM) equities continued to weaken in the past week, with the MSCI EM falling by 3.1% wow and currently standing 20% (in $ terms) below its peak on January 26th 2018, having entered a bear market (see chart). Softer-than-expected growth, tighter domestic financial conditions, trade-war concerns, inter alia, cloud the outlook for EM.
Pressure on EM assets could increase, if the USD strengthens further (+1.2% wow | +13.3% ytd against EM currencies) or if US interest rates are repriced upward due to a more hawkish-than-expected tightening cycle by the Fed. In the event, 2-year US Treasury yields rose by 7 bps on Friday, to 2.71%, the highest since July 2008, following strong US wage data (see Economics).
Looking ahead, no major announcements are expected by the ECB and Bank of England (BoE) meetings (due on September 13th). The ECB is expected to confirm the phasing out of the Asset Purchases Programme (APP) during Q4:18, with the monthly pace of net purchases declining from €30bn/month currently, to €15bn/month as of October – December 2018 (zero thereafter). The BoE will also maintain its rates unchanged following the 25 bps increase to 0.75% in August.