Although a US/China trade deal and an orderly Brexit both look more likely neither is yet in the bag. The President can change his mind and the EU and the UK may remain at loggerheads. Yet we feel an orderly Brexit could have a more significant impact on some markets than a limited trade deal.
TRADE DEAL? MAYBE A SMALL ONE
Taking last week’s financial market moves at face value, it appears that the ‘trade deal’ amounts to a significant leap forward. However, the immediate substance is very limited. China has committed to buy US agricultural products, as promised before. In return, the US will reduce, marginally, some of the tariffs threatened. At this stage there is not any significant rollback of tariffs.
The most logical interpretation is that the market views these superficial concessions as the beginning of a broader agreement; a trade peace between the US and China. This appears highly optimistic in the short term and beyond the 2020 US Presidential elections. The US objective, certainly under this Administration, is more than just trying to redress the trade imbalance with a set of punitive tariffs. The more general goal is to contain the technological rise of China for as long as possible and maintain the lead that the US currently enjoys.
Therefore, an overly optimistic view is premature. The battle for economic supremacy is fully underway and will only be intermittently interrupted with some concessions here and there on the trade front.
BREXIT TALKS CREATE STERLING RALLY
The Brexit talks appear to be creating a genuine attempt at a deal. Negotiations are now in a so-called tunnel with a news blackout. The House of Commons is due to sit on Saturday 19October, so Boris Johnson will have hoped to have negotiated a deal with the EU by then.
UK Sterling has rallied in anticipation of a favourable outcome to $1.265. The worst outcome would be an extension to the UK’s membership, which would likely result in the pound dropping back to $1.22. The hope is that the UK and EU reach an agreement and the UK leaves. In this case a rally to $1.35 is entirely possible.
If the UK leaves the EU on the 31 October with a deal, UK and EU corporate sectors will breathe a huge sigh of relief – finally some certainty. Brexit has dogged sentiment for the past six months (if not longer) delaying corporate decisions and adding a layer of costs to companies as they planned for all outcomes. A collective sigh of relief could help European equity markets, particularly UK equities, rally sharply.
We continue to encourage investors to ensure their financial planning investment strategy is aligned with the risk they can tolerate. Please get in touch with your financial planner to discuss further.
Julian Broom, Chief Investment Officer
Source: Purple Asset Management