Quick disclaimer here: This is not meant to be a political piece. But one cannot help but discuss politics especially since we have viewed geopolitical risk as the single biggest threat to the market. With that being said, the relationship between China and the United States has been one of dysfunction and discourse since the Treaty of Wangxia back in 1844; but I am sure everyone knows this! I went to history.state.gov/milestones/1830-1860 for some more background only to find out that history does in fact repeat itself as we saw this past week.
Since the formation of the United States, traders have wanted a variety of products from China such as tea, silk and furniture; but there were few products China wanted from the West (does this sound familiar?). Both sides—Asia and Britain/U.S.—functioned under this and an earlier treaty, but by the 1850’s the U.S. and Europe became dissatisfied with China’s lack of adherence to the treaty…I could go on, but everyone seems to understand what happened and how we got here. The difference between now and the nineteenth century is that the world is much smaller than it was over 150 years ago and there is a mutual reliance in order to keep the status quo. So, how does this affect the markets?
Even with this risk looming in the markets, April proved to be a solid month for equities and the markets overall. At the end of March, LHT became more positive on fixed income compared to equities—small cap in particular—only because of increased volatility in the space. The flat yield curve still makes us cautious, even with a 4% increase in the 10-year Treasury yield during the month.
In terms of performance, both Small and Large Cap Value outpaced Growth month over month and International experienced some benefit from improving global growth. In Fixed Income, High Yield was up significantly—well over 100bps at least depending on the index—and Corporates in general provided decent gains. The Fed’s comments also helped the credit markets when it implied it was taking a more dovish stance in terms of rate increases during 2019. This recovery in bonds allowed Corporates to outpace Treasuries which did very well in March. But, as the deal gets closer to completion, the expectation that both parties agree to the terms of an agreement is minimal.
Domestically, the United States experienced better than expected GDP and lower unemployment, reporting a 3.2% increase year-over-year for GDP, and a 3.6% unemployment rate (down from 3.8%). But, even with this increased growth in production and jobs, Fed Chairman Powell discussed inflation as weaker than expected while wage inflation has not shown signs of accelerating; and as such has kept interest rates unchanged even with the President’s urging to lower rates. At this time, with these numbers, it would be very self-serving to lower rates as this is a lever that would need to be pulled when the economy slows down and needs a kick start.
Last week, no agreement was reached and the U.S. met China’s lack of support (for a deal) with threats of increasing tariffs to 25% (up from 10%) on $200 billion worth of Chinese goods. China has stated that it is prepared to retaliate in kind, but no one is certain of that means just yet. Whether this gamesmanship by both leaders continues for the rest of the year, or they come back to the table, is anyone’s guess. The markets have reacted accordingly to these events and through May 9th the S&P 500 index was down 2.55%, High Yield was down about 1%, the Russell 2000 was down 1.33% and the Nasdaq was down 2.28%.
History shows this love/hate relationship between the two parties has been around longer than both current leaders. The way former leaders got around their own egos was to understand the principles of competitive advantage. Let’s just hope these leaders understand that these tactics are not in the best interest of either party and it is the voters who will bear the brunt of the tariffs. I guess you can say that this trade war may have been made in China; but the U.S. certainly has made a very good knock off!
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