More trade tensions – weekly update 3 June

Trade tensions intensified

Far from abating, trade tensions generally intensified over the last two weeks. The rhetoric coming from China suggested they were preparing to dig in, with President Xi Jinping talking about a “new Long March” in reference to the Chinese Communist Party’s strategic retreat in the 1930s that enabled the Party’s subsequent victory some years later.

President Trump also threw more rocks into the global trade pond by opening a new front against Mexico, though this is aimed more at immigration policy than trade imbalance. Nevertheless, with tariffs starting at 5% from the middle of June and increasing 5% each month until October, disruption is inevitable.

It wasn’t all bad though, as the Trump administration announced a delay to the imposition of tariffs on autos from the European Union and Japan for up to six months while discussions are ongoing. Creating foreign policy challenges to distract from domestic issues is a tried-and-tested political strategy, but the potential disruption to complex supply chains and sentiment should not be underestimated.

Disappointing economic activity indicators

Economic activity indicators were also a source of disappointment. Eurozone Manufacturing PMI dipped from 47.9 to 47.7, dashing hopes for an increase to 48.1 whilst Services PMI slipped from 52.8 to 52.5 (an increase to 53.0 was expected).

The US PMI readings from Markit added to the gloom, hit by the surprise intensification of the trade war. Manufacturing PMI fell 2 points to 50.6 (no change at 52.6 was expected) and Services PMI fell 2.1 points to 50.9 (an increase from 53.0 to 53.5 was expected). Unsurprisingly, it was the new orders manufacturing component that reacted the most, falling into contractionary territory for the first time since 2009.

These US troubles were further highlighted in the Durable Goods reading, as the headline reading fell from a downwardly revised 1.7% month on month (mom) in March to -2.1% in April (as expected), dragged down by a collapse in orders for civilian aircraft related to the problems at Boeing. Autos were also down.

Positive signals from consumers

Despite broader concerns, we still saw some positive signals coming from consumers. UK Retail Sales numbers for April were robust once again, with a flat month-on-month reading (a contraction was expected), helping the year-on-year (yoy) number come in at a healthy 5.2%. This is lower than the 6.7% seen in March but significantly ahead of the 4.5% expected. This positive disposition was also supported by data from GfK showing UK Consumer Confidence improving from -13 to -10 (-12 was expected).

The Eurozone Consumer Confidence measure was also improved, from -7.3 to -6.5 (-7.7 was expected), whilst in the US the Conference Board’s Consumer Confidence index rose from 129.2 to 134.1 (130.0 was forecast). Rising real wages are no doubt helping the mood, but consumers are likely to remain fickle.

Inflationary pressure remain absent

Inflationary pressures remain noticeably absent. UK CPI inflation ticked up from 1.9% to 2.1% yoy, but fell short of the 2.2% expected, whilst the core measure was unchanged at 1.8% (an increase to 1.9% was expected).

In the US, the Personal Consumption Expenditure inflation measure came in at 1.5% yoy, just below the 1.6% expected and some way from the 2.0% target. With little prospect of a meaningful increase in inflation, Central banks are relatively free to remain in wait-and-see mode, with growing expectations that the US might end up cutting rates later in the year.

Last fortnight’s other events

• Japan’s first-quarter GDP surprised to the upside, growing at an annualised 2.1% (from 1.9%, -0.2% was expected). Core Machine Orders growth improved from -5.5% to -0.7% yoy (ahead of the -3.4% expected), and Industrial Production improved from -4.3% to -1.1% yoy (-1.5% was expected). CPI inflation rose from 0.5% to 0.9% yoy.
• Official China Manufacturing PMI dipped into contractionary territory, falling from 50.1 to 49.4 (49.9 was expected), whilst Non-Manufacturing was unchanged at 54.3 as expected. Manufacturing PMI from Caixin slipped from 50.2 to 50.0, whilst Services fell from 54.5 to 54.2.
• US Personal Income rose from 0.1% mom in March to 0.5% in April, ahead of the 0.3% forecast, whilst Personal Spending slipped from an upwardly revised 1.1% to 0.3%, ahead of the 0.2% expected.

The markets

It was another challenging fortnight for risk assets, with equities weakening as core government bonds saw significant flows.

One-month performance of major asset classes in sterling terms

Equities

Most major equity markets continued to move lower over the last two weeks as the trade war continued to intensify, with the US suffering the most and registering a fall of -3.7%. Continental Europe was down -3.0% with the UK falling -2.4%. Japanese equities were down -2.7% whilst the only region to make a positive return was emerging market equity, which gained 0.1% (all indices are MSCI measures, in local currency terms on a total return basis).

Bonds

Core government bonds continued to benefit from the very significant risk-off moves pushing yields to quite eye-watering levels. 10-year US government bond yields fell a dramatic 26 basis points (bps) to finish at 2.12% on Friday, whilst 10-year UK government bond yields crashed down through the 1%, down 15 bps to finish at 0.89%. The equivalent German bund yields moved 10 bps lower to hit a modern history record low of -0.20% (though not an all-time low, on which timeframe this is merely a 700-year low).

Commodities

Oil prices weakened during the week, with Brent Crude falling to US$64.49 per barrel. Copper was also softer, slipping to US$2.64 per lb. Gold picked up safe haven flows, helping to push the price back up through US$1,300 to close at US$1,306 per ounce.

Currencies

The pound was marginally weaker over the fortnight, with the Japanese yen notably stronger. Sterling closed on Friday at US$1.26, €1.13 and ¥137.

The week ahead

The first Friday of the new month means we have the latest US labour market report due out where markets are looking for 185,000 jobs added after last month’s 263,000 beat, whilst on wages, Average Hourly Earnings are forecast as unchanged at 3.2% yoy. On Thursday, the latest European Central Bank monetary policy meeting will conclude, and we will be watching for any details of the latest TLTRO loans package. There will also be further PMI readings to look out for from the UK, China (Caixin measures), the US (Institute of Supply Management readings) and Japan. The daily breakdown is as follows:

Monday: Japan reports Capital Spending early on, with China releasing the Caixin Manufacturing PMI reading (5.0 from 50.2 expected) a little later. Later in the morning, the UK Manufacturing PMI readings are out (52.2 from 53.1 expected), whilst the afternoon gives us the latest US Manufacturing PMI readings from the Institute for Supply Management (53.0 from 52.8 expected).

Tuesday: The British Retail Consortium releases Like-for-Like Sales in the UK a minute after midnight, with the UK Construction PMI out later in the morning, along with Eurozone Unemployment and CPI inflation (1.3% yoy from 1.7% expected).

Wednesday: The day starts with Japanese Services PMI, with Chinese Services PMI from Caixin out shortly after, and UK Services PMI a little later (50.6 from 50.4 expected). Eurozone Retail Sales (1.5% yoy from 1.9% previously) are also due out, and the highlight of the afternoon is likely to be the US Non-Manufacturing PMI from the ISM (no change and 55.5 expected). In the evening, the Fed’s Beige Book of anecdotal economic conditions is also out.

Thursday: There is little of note aside from the ECB monetary policy meeting (covered above), though that on its own could provide plenty of talking points.

Friday: Japan provides an update on Labor Cash Earnings early in the morning along with the Leading and Coincident economic indicator indices. The US labour market report in the afternoon is likely to be the highlight of the week. As well as the headline figures above, the labour force participation rate, unemployment and underemployment rates could also be of interest.

 

Important information

Data correct as at 03/06/2018. Source: Lipper.

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