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Mixed messages

14 June 2019

After a good start, June has carried on in a positive way for investors. Over the past week stock markets consolidated their gains, while bond yields stopped falling. Following the rapid deterioration of US manufacturing data, a number of positive data releases confirmed the ongoing optimistic disposition of consumers and the upbeat sentiment of smaller businesses and the services sector. Notably these surveys took place before President Trump ended his Mexican tariff standoff over the weekend as suddenly as he had started it.

It is somewhat encouraging that despite better news, stock markets held on to the gains they made the week before, when bad economic news led to an overwhelming belief that this would force central banks to cut rates, or at least ease monetary conditions and thereby revive the ‘central bank put’ for stock markets (see last week’s lead article).

This stabilisation of market sentiment can perhaps be seen as evidence that we are experiencing a period of fine balance. A balance between the fear that the global manufacturing slowdown will worsen through a proliferation of Trump’s trade wars (to the point of causing a global recession), and the hope that the resilience of consumer sentiment and service sector momentum will carry the economy over this precarious period of potential instability.
China grabbed the headlines with the Hong Kong protests instead of the economic news bulletin, namely that their monetary and fiscal stimulus measures are now showing traction in the economy, and their export industries may already be finding routes around the tariff hurdles. However, as we have written before, this activity rebound will mostly stabilise China itself, but cannot be expected to bail out the global economy as well, as it at least partially did in 2015/2016.

In the UK on the other hand economic news was the opposite of encouraging. GDP growth came in negative for the month of April and growth in industrial production was not only negative for the month, but also year on year. UK stocks took it in their stride, because a setback after the ‘March 2019 Brexit’ stockpiling frenzy had been widely expected – although proved to have been underestimated.

That the UK’s Bank of England nevertheless continued to try and persuade investors that it might well raise interest rates (against the economic and international trend) had much to do with  its scenario planning for a ‘Happy Brexit’ which would likely lead to a rapid release of pent-up demand. There is a particular concern that in conjunction with ever lower mortgage rates from stiff lender competition, this could lead to a surge in UK house prices later in the year which could have unhealthy side effects. The rate-rise warnings therefore need to be taken with a pinch of salt – an amicable Brexit outcome would be a prerequisite for such a move.

On the Brexit front there was understandably much concerned debate about whether the election of a new Tory party leader – by a decidedly hard Brexit-leaning party membership – will lead to a higher probability of a No-Deal Brexit outcome – the opposite of a ‘Happy Brexit’. Boris Johnson tried to defuse such concerns by stating that a No-Deal Brexit was not his favoured route, but as one political commentator put it, “the best thing about Boris is his ability to turn on a sixpence”. Let us hope that this does not mean that the UK is following the US in adopting a new leadership style of utter unpredictability.

The coming weeks will be of crucial importance to the future course of financial markets in 2019. If the wider economy can remain resilient in the light of slowing trade and industrial production through continued consumer demand and service sector activity, then corporate earnings may not decline as much as some fear, and positive forward looking sentiment may carry us through this precarious stretch of global slowing. Unfortunately we are not starting from a particularly solid base and are therefore uncomfortably exposed to political derailments causing an abrupt souring of fragile sentiment.