Tactical Asset Allocator: trade war taking toll on sentiment

The imposition by the US of hefty tariffs on Chinese goods has sparked an alarming spiral of trade strife that has serious implications for asset allocators.

Trade war is the talking point this month, particularly after 51 US trade groups got together to warn US president Donald Trump of the ‘serious negative impacts’ of his tariffs. Some of the US’s most influential trade bodies – many focused on retail, car manufacture and agriculture – want a bill to curb the president’s powers by requiring the US Congress to approve any new tariff s. To date Trump has artfully invoked ‘national security concerns’ under Section 232 of the Trade Expansion Act of 1962 to justify his actions.

The tit-for-tat trade war shows no signs of abating and has rocked markets in recent weeks. The Shanghai Composite index has plummeted by more than 15 per cent since the start of the year. Investors are again fretting about any weakness in China’s economy, with memories of the 2015/16 meltdown never far from their minds. But the Chinese government is showing its mettle and fighting back by lowering its tariff s on a raft of goods from India, South Korea, Sri Lanka, Bangladesh and Laos.

Reduced tariffs on soybean imports from these five members of the Asia Pacific Trade Agreement (APTA) will go some way to counteracting the rising price of US soybean. The strategy will strengthen China’s commercial ties with APTA countries just as the US is turning its back on them.

Pivot point

More broadly, much depends on ‘new China’, which is to say the boom in the domestic consumer economy. Plenty of companies with massive potential are tapping into changing trends in consumer spending. In China, as elsewhere, people are spending a greater proportion of their salaries on experiences such as eating out, travel and education. Clearly, the next generation of Chinese growth stocks will not be in the manufacturing and construction sectors that have traditionally dominated, but in the technology sector and markets that may not yet even have a name.

There is a huge irony in all this, of course, because the Chinese middle class will expand rapidly over the next few years, potentially off ering US businesses a huge opportunity to tap into a new and affluent customer base. Consultancy Oxford Economics has calculated that the US’s act of apparent self-immolation could wipe out as much as 0.3 per cent of US and Chinese GDP, while some 2.6 million US jobs that depend on the US-China trade rela­tionship will be put at risk.

Global consequences

The impact of the trade war on other coun­tries will be quite nuanced. For example, Japan would pick up significant business as China sources products from countries not imposing new tariffs. However, its industries rely heavily on international customers. The Japanese car manufacturing industry is particularly vulnera­ble, as $40 billion (£30 billion) worth of cars are exported to the US each year. Mexico, Canada and Germany are the other major suppliers of US car imports worth a combined $109 billion a year.

Trade worries have also spread throughout European markets, as Trump hints at tariffs on EU exports of cars and other goods. US factories are now reporting that protection­ism is hampering order book growth. They lay the blame squarely on tariffs for customers’ lack of confidence. Of course, Trump’s modus operandi is often to blow hot, creating fear, and then follow this with some form of compro­mise, so the US may backtrack on its aggressive trading stance, particularly if its trading part­ners look as though they may join forces.

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Back in the UK, the pound could slide against the euro in coming weeks as Brexit negotiations come to the boil, and nervous­ness intensifies over weaker job creation rates and the continu­ing rise in costs. The nation of shopkeepers has also been shaken by wor­rying updates from supermarkets such as Sainsbury’s, which is sacrificing sales growth for volume, and bad news from firms such as Associated British Foods, which has issued a profit warning for its sugar division.

For several years now, the name of the game has been how to predict the top of the market. Endless comparisons have been drawn with the late 1990s, which culminated in the dot­com crash, and many research firms have been trying to read the economic signals. Some cite the return of 1990s-style high-waisted jeans and designer logos on everything as signs that the boom is in full swing and has a few more years to run. Others argue that the preva­lence of upbeat and optimistic ‘bubble gum’ pop marks the top of a stock market cycle, yet the charts are still full of relatively dark ditties – a situation not dissimilar from that in 1994. Intriguingly, this type of research could itself be interpreted as a sign that the market has reached the euphoria stage.

A more credible hypoth­esis arises from the level of excitement over new tech as a disrupter and deal-driver. In October 1999 Microsoft and Intel were first included in the Dow Jones Industrial Average index, and a parallel can be drawn between that development and S&P’s recent creation of a new communi­cations services sector to bring together the internet stocks now in the telecom, consumer discretionary and tech sectors. Arguably, as the transformational power of new tech such as blockchain and robotics begins to be widely understood by the public – just as taxi drivers became informed enough to discusses equity investment with their passengers – it’s tempt­ing to conclude that the current business cycle is nearing maturity.

Meanwhile, the FTSE has fallen by around 3.5 per cent since it touched 7880 in late May, a fairly modest fall given the Brexit shenani­gans. That aside, nothing much has changed: the UK is still in the EU operating on the same free-trade rules as before, and the way ahead for many industries is not at all clear. Still, stock markets hate uncertainty, so the UK market continues to be rather oversold.

However, the market could strengthen if confusion ebbs away, so we are buying into the UK smaller stocks sector to take advantage of a possible post-Brexit bounce. Smaller compa­nies are more dependent on the UK economy than the large exporting firms, so we have selected Jupiter UK Smaller Companies fund, which has done very well in the hands of manager James Zimmerman.

Stock EPIC Category Risk level* Quantity Price paid (£) Current price (£) Current value (£) Current weighting (%)
Lyxor ETF FTSE 250 L250 UK equity 81 1000 12.32 25.47 25,467.50 13.10
iShares Core S&P 500 UCITS ETF CSP1 US equity 110 100 103.70 201.43 20,142.50 10.36
Euro Stoxx Total Market Growth Large IDJG Euro equity 104 325 18.14 32.61 7,971.66 4.10
iShares FTSE EPRA/NA Glbl Prop Yld (2) IWDP Property 84 402 13.38 19.83 6,991.18 3.60
Neptune European Opportunities NEOA Euro equity 104 1097 3.62 6.37 10,808.80 5.56
Schroder Frontier Markets Equity fund M9S0 Em mkts equity n/a 80 100.00 135.11 11,534.00 5.93
iShares Japan Sterling hedged ETF IJPH Japanese equity 139 200 47.41 57.67 8,940.10 4.60
Standard Life Investments Emerging Market Debt GU4Z Bonds 81 1300 5.15 6.88 7,896.42 4.06
DB X-TRACKERS DBX MSCI INDIA ETF XCX5 Em mkts equity 143 900 6.59 8.77 15,924.30 8.19
DB X-Trackers MSCI EM Asia Index UCITS ETF XMAS Em mkts equity 129 420 24.12 37.92 15,924.30 8.19
iShares Global Clean Energy ETF INRG Global equity n/a 400 3.59 3.89 1,555.00 0.80
iShares Physical Gold SGLN Commodities n/a 300 18.26 18.56 5,568.75 2.86
Polar Capital Global Insurance fund NAU4 Equities 101 400 5.35 5.92 2,368.00 1.22
iShares Automation & Robotics ETF RBTX Equities n/a 1000 4.66 5.62 5,618.80 2.89
iShares J.P.Morgan EM Local Currency Bond LEMB Bonds n/a 100 36.59 33.73 3,373.00 1.74
JPMorgan Emerging Markets IT JMG Em mkts equity 135 1000 8.46 8.44 8,440.00 4.34
iShares US Pharmaceuticals ETF IHE Equities n/a 100 116.00 118.05 11,805.00 6.07
iShares S&P SmallCap 600 UCITS ETF GBP ISP6 Equities n/a 100 44.76 52.75 5,275.00 2.71
VinaCapital Vietnam Opportunity fund VOF Em mkts equity 136 1000 3.58 3.10 3,100.00 1.59
Xtrackers S&P Select Frontier Swap ETF SXFR Em mkts equity 120 500 11.72 10.43 5,215.00 2.68
Jupiter UK Smaller Companies fund GB00B3LRRF45 UK equity 84 1000 4.06 4.06 4,060.00 2.09
Cash              6,429.91 3.31
Total             194,409.22 100.00

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