Riding uncertainty into December
Market movements were this week driven by a series of developments in the political landscape alongside revised expectations for future monetary policy. Over the week, movements in the markets were mixed, owing to fluctuating sentiment and high levels of market volatility. There were a number of key factors driving this sentiment, mainly the continuation of uncertainty over Brexit, developments in the trade war between the US and China, and expectations of future US rate rises.
Powell strikes a more Dovish tone
Dealing with the last one first we had some positive news last night in a speech at the New York Economic Club yesterday, Chair of the Fed Jerome Powell highlighted that interest rates are ‘just below’ neutral, signalling a slightly less aggressive monetary policy tilt. This meant that the expected four interest rate hikes in the US next year now look like 1 and maybe 2 and against that backdrop the traders breathed a sigh of relief and the US markets rallied. In his speech he highlighted the current good health of the US economy, however recognised pockets of risk in the economy which did not support much further tightening. With economic momentum expected to slow in 2019, the Fed is now focusing on a soft landing of monetary policy, resulting in expectations for two 0.25% rate hikes in 2019, down from three to four. Markets reacted positively to the slightly dovish tone, with US equities up 2% and 10-year Treasury yields falling to 3.02% at point of writing. It is clear that Powell’s assessment of rates has come a long way from the ‘long way from neutral’ characterization he gave at the beginning of October which contributed to the S&P correction.
Brexit Uncertainty continues
Now regarding Brexit, developments have dominated UK market movements this week. Over the week, May’s withdrawal deal has experienced several obstacles, and if you look at any of the options is does not look like any bar a move towards a Norway free trade agreement will obtain any cross-party support. Even then, we need a new prime minister to push a different agenda and deal as our own seems pretty much fixed on what she is tabling or nothing else. As a term of reference for those of you not obsessed with this pantomime, Norway negotiates free trade agreements with other countries through the European Free Trade Association (EFTA). The trade agreements secure Norwegian business’ access to international markets and facilitate trade with partner countries, accepting this would mean potentially free movement of people. All except Switzerland are members of the European Economic Agreement (EEA) and the principles of the EEA agreement which underpins it are that It provides for four freedoms — the free movement of goods, services, persons and capital — throughout the 31 EEA States. In addition, the Agreement covers cooperation in other important areas such as research and development, education, social policy, the environment, consumer protection, tourism and culture, collectively known as “flanking and horizontal” policies. The Agreement guarantees equal rights and obligations within the Internal Market for citizens and economic operators in the EEA. The EEA Agreement also states that when a country becomes a member of the European Union, it shall also apply to become party to the EEA Agreement (Article 128), thus leading to an enlargement of the EEA.
On 11th December, the UK parliament will vote on Theresa May’s Brexit deal, however it remains highly likely that the government will lose the vote convincingly. As discussed in the last market commentary, there are several possible outcomes should the deal be voted down, however in the interim it does bode well that the PM has maintained support of the deal in cabinet and achieved the approval of the European leaders. In the run up to the parliamentary vote, the pressure is on the PM and her cabinet to win over support from MPs. This week, the government released its analysis on the economic impact of Brexit in a bid to inform MPs ahead of the vote, however although it modelled the long-term impact of a no deal scenario, it failed to model the most likely alternative outcome, and the modelling methodology contained several oddities. It is unlikely that the analysis will have much of an impact on MPs’ decision-making leading up to the vote.
In the Bank of England’s semi-annual analysis of threats to financial stability yesterday, Mark Carney warned of a sharp decline in national income under a disorderly Brexit. The analysis concluded that the financial system could withstand all possible scenarios, however an implementation period would mitigate the worst risks to financial stability. The Bank of England’s ‘no deal’ forecasts indicate a more rapid pace of decline than in the government’s analysis. In the worst-case scenario, it also sees an unprecedented decline in sterling to below parity with the US dollar. With Theresa May’s deal facing criticism from all sides, she will be hoping that the stark analysis of a disorderly scenario may be enough to influence some MPs.
US / China Trade war conclusions could be in sight
Eight months on from the start of a trade war between the US and China, an end to the prolonged trade tensions could be on the horizon ahead of the G20 summit in Argentina this weekend. President Trump and his Chinese counterpart Xi Jinping are scheduled to meet to discuss a possible truce that could end the escalating trade war between the world’s two largest economies. This week, Asian markets rallied after White House economic advisor Larry Kudlow indicated that there is a ‘good possibility’ that the two countries can reach some sort of trade agreement over the weekend. Communication between the two sides had broken down over a series of economic issues, however this month resumed, with Kudlow revealing there has been ‘a lot of communication with the Chinese government at all levels’.
As the trade war starts to feed through into the global economy, both sides are under pressure to agree a truce. It remains far from certain that Trump and Xi will agree to a ceasefire this week, however markets are rising on hopes of a rapprochement between the two nations. Given recent losses in the midterm elections and eyeing re-election, as well as given expectations for slower economic growth in the US, Trump will be mindful as to what extent he is willing to amplify his dispute with Xi. If a deal is not reached before the 1st January, the current 10% levy on $200 billion of Chinese goods imported to the US is set to rise to 25%. As the problems between the two countries extends well beyond trade issues, discussions this week are unlikely to bring an end to tensions. The best outcome for markets would be the US holding the tariffs at 10% and committing to create a new agreement. The worst-case scenario involves the increase in existing tariffs as well as the introduction of new tariffs on Chinese goods, hitting business confidence and leading to a devaluation of the Chinese Yuan.
Markets ended the week higher on more positive global sentiment, with the expectation of easing tensions over the next month. We will be watching for further developments, however if current communications continue, we expect the US to pause the tariff rise pending further formal agreements.
Our positioning
With volatility levels remaining high going into next week and general market sentiment improving, we remain positive going into December. Portfolios are well positioned to benefit from changing market conditions and remain fully invested. In difficult market conditions, our defensive and multi asset allocations are able to add value to the strategy and protect against downside risk, where our carefully selected equity exposure will enable us to capture upside should markets rally on the back of more positive market sentiment. We remain poised to act should market conditions alter or new opportunities arise.
For anyone who wants further data to substantiate the position please review the attached Global Economic News Document.
Model Portfolios & Indices
Over the last week we have seen most of the indices that we track higher, with the exception of US markets. US markets rallied on Wednesday this week following Powell’s speech at the New York Economic Club, which is not reflected yet in the data owing to a delay in the data feeding through into the system. This will be reflected in next weeks’ data. European markets were broadly higher over the week following more positive economic sentiment, the UK market was higher on the back of improved Brexit sentiment. Portfolios were down over the period due to weaker performance in the US (prior to the impact of Powell’s speech which will be included in next weeks’ performance figures).
Important Information
The data above will not directly correlate to the indices as there is always a delay in pricing because the US markets close significantly later than the European markets and the Asian markets. The data set above reflects the last close and much of the days movements will not yet be reflected in the portfolios due to pricing delays. You cannot therefore directly correlate indices to the portfolios. The value of investments may fluctuate in price or value and you may get back less than the amount originally invested. Past performance is not a guarantee of future performance. Performance figures quoted include the fund manager charges but exclude other fees such as adviser, custodian, switch and/or discretionary investment management fees. Unless otherwise instructed and accrued, income is reinvested into the portfolio.
This Day in History
On this day in 1929, Commander Richard E. Byrd and a crew of three became the first to fly over the South Pole.
As always have a wonderful week and stay safe.
Jason
