Bumpy markets after the souring of the U.S./China trade dialogue have underlined the dangers of assuming an outcome before it happens. With one source of market support temporarily removed, other problems will be in focus.


1. The U.S. has today raised tariffs on Chinese imports: finding a solution here is likely to take time.

Market assumptions that U.S./China talks were doing well were brutally up-ended at the start of the week by President Trump’s decision to impose extra tariffs, implemented today – with tariffs raised from 10% to 25% on USD200bn of U.S. imports from China. As we discuss on page 2, it is difficult to be sure whether the U.S. volte-face is intended to force further concessions from China or reflects unbridgeable differences between the two sides; negotiations continued in Washington, and we continue to expect some form of negotiated solution here, but this could take time – and a breakdown of negotiations is still a possibility.


2. Trade hopes had been a key support of past market optimism; other problems may now loom larger.

There is a traditional English injunction “not to count your chickens before they are hatched”: in other words, do not assume a favourable outcome to a situation until it happens. As we have pointed out before, previous positive market assumptions about a good outcome to U.S./China trade negotiations were always vulnerable to a setback. But what is concerning about the current situation is that, for many, faith in U.S./China negotiations had become the main justification for an optimistic global market view: while we wait for a resolution of the U.S./China dispute, the focus will therefore shift to unresolved problems in both Europe and Japan. As we warned last week, this is not a “Goldilocks” economic and market scenario (not too hot, not too cold). Instead we are in a late-cycle environment, with slower global economic growth likely to be accompanied by bouts of volatility.


3. With growth and policy issues unresolved, this remains a good time to consider recalibrating portfolios.

In Europe, any hopes generated by slightly better-than-expected Q1 GDP and April consumer price inflation numbers have been outweighed by a further downgrade to the European Commission’s forecasts – particularly as regards Germany and Italy (pages 3 and 4). The European Central Bank (ECB) continues to face a real policy conundrum, in the absence of higher inflation expectations. And in China, while we continue to believe that the slowdown in economic growth has now likely bottomed out, several factors could still cause questioning of the authorities’ policy mix – and pose further challenges to Chinese risky assets. For example, Chinese exports were lower than expectations in April and credit growth also eased that month (see page 5). Last month we advised taking profits where appropriate and recalibrating portfolios: this view still stands.


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