The Multi-Asset Process

August 2019 Market Review

There have been many times over recent years where the world has seemed to be through the looking glass and we are now at a point where a US president can call the head of the Federal Reserve clueless and it barely moves the news needle.

Like many of us, President Trump turned his attention to the CRAZY INVERTED YIELD CURVEin August, with yields on 10-year Treasuries falling below those on two-year for the first time since 2007. Pausing momentarily for some basic economic theory, an inverted curve is where short-term rates are higher than medium and long term, suggesting investors are negative on economic conditions and expecting rates to be cut. This has been a fairly reliable recession indicator over recent decades, predicting seven of nine downturns since World War Two.

While Trump is keen to blame Fed chair Jerome Powell’s inactivity for this, despite the first rate cut in a decade at the end of July, most see America’s worsening relationship with China as the major factor behind rising fears.

Of course, the President claims to be winning, big timein this trade conflict but the situation is becoming increasingly hard to follow, with one flip flop after another. After a meeting in Osaka at the end of June, Trump said new tariffs on $300 billion of Chinese imports would not be triggered for the time being. He then flipped in early August, tweeting his intention to levy a further 10% on this $300bn, but flopped again days later with a delay on certain imports to 15 December. Donning his Santa suit, he told the media this delay was to avoid any adverse impact on US shoppers before the festive season.

Despite conciliatory noises from both sides over the month, Beijing also introduced a levy of 5% on US crude oil, the first time the fuel has been targeted since the world’s largest economies began their dispute.

Of course, we also have the Brexit clock continuing to tick down towards 31 October and Boris Johnsons whistle-stop tour around European leaders in August seeking a solution to the backstop question proved fruitless. He then sent us scrambling for our dictionaries with plans to prorogue the government, which would suspend parliament for a month from 9 September in a fairly blatant attempt to force through his agenda.

Amid a haze of sackings, demonstrations and legal challenges, it remains to be seen what effect this has on the situation with trust in politicians already so damaged. As ever, the pound has taken the brunt of the pain so far.

Elsewhere around the world, Italy lurched into its own political crisis, with Prime Minister Giuseppe Conte resigning and effectively collapsing the country’s government. Conte blamed his deputy Matteo Salvini for the mess, with the latter pushing for snap elections in the hope the rising popularity of his League party might create a path towards the top seat.

With the coalition of right-winger and populists ended, President of the republic Sergio Mattarella asked Conte to form a new government with the Democratic Party replacing Salvini’s League in partnership with the Five Star Movement and none of this is helping an already fragile eurozone. 

Against this backdrop, as might be expected, fears of recession are picking up and Bank of America Merrill Lynch's monthly fund manager survey shows investors taking refuge in bonds at a rate not seen since the financial crisis in 2008. This is despite figures showing the worlds pile of negative-yielding debt has now surpassed $16 trillion; a quarter of the entire global bond stock is in negative territory. A third, or 34%, of those surveyed, now expect a recession over the next year, the highest reading since October 2011.

So what we can say at this point? Political volatility, while a constant companion in recent years, has certainly picked up and in portfolio terms, it is hard to make any decisions until we know how the cards will fall. Ultimately, we continue to favour equities and hold to our view that while recession fears are understandable, too many powerful people have too much to lose from economic downturn. As we have seen, the current inhabitant of 1600 Pennsylvania Avenue will stop at nothing to continue the market expansion for which he claims credit, including threatening the Federal Reserve.

Right on cue, Trump took to Twitter mid-month and on top of puzzling efforts to buy Greenland berated a horrendous lack of vision by Jay Powell and the Fed’ and claimed the Democrats are trying to “will” the economy to be bad for purposes of the 2020 election. Trumpean economics suggests the Fed Rate, over a fairly short period of time, should be reduced by at least 100 basis points, with perhaps some quantitative easing as well.

Moving to his favourite frame of reference, he went on to decry Powell as a ‘golfer who can’t putt, has no touch’. According to Trump, big US growth awaits if only the Fed does the right thing.

Commentators are understandably pointing to the yield curve as a recession indicator, with data from Credit Suisse showing the economy has tended to turn down around 22 months after such an inversion. But as we have outlined, we are hardly in a normal environment in terms of policy, on rate setting or anything else, and it remains to be seen whether traditional economic precepts still hold up in a world where quantitative easing taps have been running non-stop for a decade. As we said at outset, we are well and truly through the looking glass and while some caution is wise at this point in the cycle, we would want to see more than just inverted yield curves before turning bearish.

At time of writing, it looks like we are heading into a General Election in the UK over the coming weeks and given the febrile state of our political parties, who knows what government and Brexit deal – or not – we end up with. All we can say with certainty is that it will be interesting to look back at this commentary in a few months’ time.

For a comprehensive list of common financial words and terms, see our glossary here.

 

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Friday, September 6, 2019, 9:33 AM