Trump’s Tariff Tweets Do the Markets a Big Favor
(Bloomberg Opinion) -- President Donald Trump’s threat on Sunday to levy additional tariffs on Chinese goods because of the slow pace of trade talks sent the S&P 500 Index down by as much as 1.61 percent before it recovered to end lower by a less jarring 0.45 percent on a report that a delegation of Chinese officials still plan to travel to Washington this week to talk trade. The initial decline was painful, for sure, but cathartic as well, in that it should act as a sort of reset and make the market healthier following a nearly unimpeded trek upward this year. As the strategists at Cantor Fitzgerald put in a research note, sentiment had swung from December’s “we’re all gonna die” to “I gotta buy.”
That’s not to say the 17.5 percent gain in the S&P 500 this year was unwarranted. The risks to the economy have clearly receded following the Federal Reserve’s dovish pivot and some strong jobs reports. Bank of America Corp. says a model it uses to track the odds of a recession over the next 12 months – which takes into account items such as the yield curve, credit spreads, equity values and various risk metrics – has collapsed to just 4 percent from 55 percent in December. Nevertheless, stocks aren’t cheap: The S&P 500 is trading at about 17.6 times projected earnings and is valued about as highly as it was just before the fourth quarter’s steep sell-off. If, in fact, trade tensions escalate and the U.S imposes more tariffs on Chinese goods, it might make it harder for U.S. companies to meet already low earnings growth projections. “It has been and remains our view that expectations are too high for forward returns and can be derailed by the smallest of wobbles to the bull narrative,” the Cantor strategists added. That’s not an isolated idea. Despite the run-up in stocks this year, strategists have generally been hesitant to boost their forecasts. The median estimate of 25 strategists surveyed by Bloomberg News is for the S&P 500 to end the year at 2,950, not much higher than the 2,913 forecast back in July and representing about a 0.5 percent increase from Monday’s close of 2,932.47.
The question the bulls need to ask themselves is whether it make sense to pay premium prices for equities now in return for a relatively puny 5 percent return being forecast for the rest of the year, especially with geopolitical risks on the rise. And that’s far from the only thing to worry about. The Fed on Monday stepped up its warnings about the perils of risky corporate debt, saying in a report that the market grew 20 percent last year and that lending standards continue to slip. The Fed said the businesses with the biggest existing debt loads are also the ones taking on the riskiest loans, and protections that lenders include in loan documents in case borrowers default are eroding.
THE TREASURY WINS
Trade jitters sure helped the U.S. Treasury Department on Monday. Demand at the Treasury’s weekly auction of three-month bills was the highest since January, with investors submitting bids totaling $123.6 billion for the $39 billion offered, the highest so-called bid-to-cover ratio for that maturity since January. The auction of $36 billion in six-month bills generated a bid-to-cover ratio of 3.21, the third-highest of the year. Clearly, the bond market is worried about the potential for an escalation in tensions that could send global investors to seek out havens and the Fed to eventually lower interest rates. Money-market traders now see a full quarter-point cut priced in for April 2020, whereas at the end of last week that timing had been pushed out to the middle of next year, according to Bloomberg News’s Liz Capo McCormick. “A persistent tightening of financial conditions will only support the argument for a preemptive Fed cut,” said Valentin Marinov, head of Group-of-10 currency research at Credit Agricole SA. Treasury yields rose last week for the first time since the period ended April 12 amid data showing the economy remains strong. Investors pulled $792 million from the iShares 20+ Year Treasury Bond ETF, or TLT, on Wednesday, the fund’s biggest daily outflow on record, data compiled by Bloomberg show. ETF buyers had flocked to the fund on expectations that a Fed rate cut could be on the way, adding close to $1.5 billion – the most since TLT began trading in 2002 – on April 18 alone, Bloomberg News’s Vildana Hajric reports.
GOLD BUGS ARE NONPLUSSED
To gold traders, who are often seen as a proxy for the general attitude toward risk sentiment, the latest U.S.-China trade kerfuffle appears to be little more than a tempest in a teapot. While investors were fleeing stocks and seeking out havens such as U.S. Treasuries, gold barely budged. And at $1,281 an ounce, gold is far below this year’s intraday high of about $1,347 an ounce in February. Maybe gold traders feel that cooler heads will prevail, since each side has potentially much to lose from an ongoing battle. Such a scenario makes sense, given that a further escalation of tensions is generally believed to raise of the odds of a Fed rate cut some time this year to counter the impact of Trump’s higher import tariffs on the economy. That all should bolster gold’s appeal against interest-bearing investments such as bonds. The prospects for lower rates are generally a boon to gold, which doesn’t pay interest. “It is a mystery to us that gold is not profiting more from the current turmoil, especially since rate-cut expectations in the U.S. have risen again” due to Trump’s tweets, the strategists at Commerzbank wrote in a research note Monday. Maybe the gold market is still focused on last Friday, when the U.S. jobs report showed another decent gain in monthly wages, bolstering the notion that inflation may soon firm, which would diminish the likelihood of a Fed rate cut.
EMERGING MARKETS HAS A BIG LOSER
Emerging-markets didn’t take the trade tweets well, with the MSCI EM Currency Index falling at one point to its lowest since January. That’s not unusual, given how emerging markets tending to react disproportionately to any perceived bad news or heightened risk. But what was unusual is that the worst-performing currency had nothing to do with trade fears. Turkey’s lira depreciated as much as 3.16 percent Monday after an official said on Twitter that new municipal elections would be held in Istanbul, raising the prospect of prolonged political uncertainty. Turkey’s highest electoral body nullified the Istanbul municipal election results and called a new vote, which was a request of President Recep Tayyip Erdogan’s party after the ruling-party candidate was defeated in a March 31 election. The decision fueled concerns about the democratic foundations of the Middle East’s largest economy and the prospect of more political turmoil. Erdogan’s refusal to concede defeat in the city where he built his political career has been criticized by opponents as a sign of his increasingly authoritarian rule, including an effort to have more sway over the central bank, during more than a decade and a half in power.
GRAINS GO FROM BAD TO WORSE
No market has been penalized more since the advent of the U.S-China trade war back in March 2018 than commodities, especially the agriculture sector. The Bloomberg Agriculture Subindex was already at its lowest since the early 1970s, and it has fallen an additional 22 percent since then, compared with a decline of 9.27 percent for the broader Bloomberg Commodity Index. It dropped as much 2.41 percent on Monday, the most since August. Grains such as soybeans and corn have been particularly hard hit, with tariffs only adding to the pain from already swollen stockpiles and the spread of African swine fever. The pig-disease outbreak has forced China to cull more than 1 million hogs, denting the outlook for grain used in livestock feed, according to Bloomberg News’s Michael Hirtzer. July soybean futures headed for a seventh straight loss Monday as the contract slumped to a record low. The fallout from the trade tiff isn’t just confined to the U.S. and China. The latest escalation comes at an awkward time for Argentina, whose economic problems have worsened, leading to a 51 percent depreciation in its peso over the past 12 months. The country’s two leading exports are soy meal and corn, both of which tumbled on Monday.
One of the week’s more important events for global markets will take place in a few hours, when the Reserve Bank of Australia announces its monetary policy decision. There’s a chance that the Reserve Bank of Australia becomes the first in the developed world to cut interest rates in the current cycle following some soft inflation data. Of the economists surveyed by Bloomberg News, 15 expect the rate to be cut to a record-low 1.25 percent from the current 1.50 percent, and 14 see rates staying unchanged. While subdued prices make it tough for the inflation-targeting Reserve Bank to resist action, an election in less than two weeks might encourage policy makers to hold off until June, according to Bloomberg News’s Michael Heath. Australia’s three-year bond yield fell below 1.25 percent Monday as the revival of trade war fears further boosted the chances of a cut by giving central banks even more reason to turn dovish. It’s now more than 25 basis points under the RBA benchmark for the first time since Aug. 2, 2016 – the day Australian policy makers last eased. Regardless of what happens with rates, market participants will be eager to hear what the RBA may have to say about China’s economy. Australia is largely seen as a play on China, which is its largest trading partner, and on industrial metals, because it’s a leading producer of iron ore.
The Trade Theory That Explains Trump’s China Policy: Karl Smith
Trump's Trade Threats Hurt U.S. More Than China: David Fickling
After the Stock Carnage, Wait for a Big Fat Yawn: Shuli Ren
Deutsche Bank Is Still a Worry for the ECB: Ferdinando Giugliano
India Needs an Investment Czar to Get Rich: Andy Mukherjee
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Robert Burgess is an editor for Bloomberg Opinion. He is the former global executive editor in charge of financial markets for Bloomberg News. As managing editor, he led the company’s news coverage of credit markets during the global financial crisis.
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