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Market Insights – 13th of May 2019

Each week, a team of experts shares its market views with you.

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Essentials

US investors moved into the most defensive sectors last week. Consumer staples, health care and utilities held up better than industrials and materials, as the renewed US-China trade tensions are now threatening growth in Q2.

Even though the European Commission revised down Germany’s growth forecast from 1.1% to 0.5% – mainly because of the trade tensions – the DAX outperformed all other European markets, maintaining the trend begun in early April.

Commodities were weakened by the new bout of uncertainty surrounding the US-China trade talks. The most affected segments were metals, which were dragged down by fears of a slump in growth, and agricultural commodities, as China had been expected to increase its imports of US produce.

Trade skirmishes rattle the stock markets

Just when the USA and China seemed about to strike a trade deal, tensions between the two economic superpowers escalated once again, and this has put a damper on things for investors. The increased uncertainty in the short term prompted us to reduce risk within our portfolios last week. We decreased our equity exposure by 2% (1% for income profiles), bringing it back down to early-January levels. It makes sense to take profits at this point: the markets have rallied sharply so far this year, valuations2 are now more expensive, and sentiment is once again riding high. US and European markets have seen the largest gains, so that’s where we are reducing our exposure first. Instead, we will invest in cash and cash equivalents in the respective base currency. This will help to reduce forex volatility within our portfolios. It also makes sense to increase investments in the base currency for CHF-denominated portfolios, given that the franc normally rises when global geopolitical tensions escalate. Our decision to reduce our equity exposure is above all tactical – we think the climate is still relatively buoyant for stock markets. We expect the trade talks to drag on for a little longer but to ultimately be successful. It would certainly be better for the global economy if the two countries sorted out their differences sooner rather than later. For the moment, the US economy is still holding up very well, China is being buoyed by the stimulus measures introduced in recent months, and economic growth in the eurozone appears to bottom out. But the prolonged uncertainty could hit business confidence. Luckily, the monetary-policy situation is very different from what it was in late 2018, when the US Federal Reserve was focussed on raising rates and shrinking its balance sheet. US monetary policy has since changed course: rate hikes have been put on hold, and the Fed will soon stop pulling liquidity out of the financial system. Elsewhere in the world, major central banks have followed in the Fed’s footsteps and become more accommodative. Unless there is an unexpected economic downturn, this new policy direction should help to shore up the financial markets while the details of a new trade deal are being ironed out.

Make Americans Pay Again

In the space of a few days, we went from a deal nearly being reached in the US-China trade talks to a tariff increase from 10% to 25% on USD 250 billion of goods, which is about half of what the USA imports from China. An increase in tariffs on the other half would mean a 25% duty applied on a fifth of all products imported by the United States, as most would be passed on to US consumers. Contrary to what Trump claims, these tariffs would be counter-productive if they affect key consumer goods, even if they could serve as a useful bargaining chip for now.

It is hard to explain this sudden change of course. However, the economic rebound since the beginning of the year, for both China and the United States, has certainly made a compromise less appealing. China can be more patient after the suspension of its deleveraging policy, and with stable economic growth and rate hikes on hold, the USA seems in no hurry to reach a deal.

A further tariff hike seems unlikely at this point, given that the remaining imports are primarily products that would directly affect US consumers. Provided the negotiations continue, the risk for global markets should remain limited.

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