Megaphone politics calming the stock markets?

5 May 2017

It has been a week so full of new developments that it is hard to know where to start. So, let me start in order of relevance for investors.

North Korea came under pressure from China over its nuclear missile program, resulting in quite threatening media statements towards China. Given 75% of all imports and exports are from and to China the rant is more sign of frustration from the North Korean regime, because they know it’s ‘game over’. Therefore, should China stick to its new strategy, then one of the major geopolitical threats of 2017 might just have been more or less neutralised.

China itself, however, is beginning to worry global economists as there is more and more evidence that the high GDP growth rate achieved in the first quarter of the year and most of last year is not sustainable, while the government is getting serious about clamping down on lending excesses that originate from the shadow banking sector of largely unregulated wealth management products. This is positive for longer term financial stability – not just in China – but tightens money supply in the short term. The inevitable result of falling demand has many worried that we could face a reversal of last year’s ‘China boost’, when their demand surge revived global growth. We agree with the observation of a slowing China, but would suggest that the fear of a ‘China hard landing’ as it has now been reappearing for more than a decade is very likely once again an exaggeration.

Turning to the US, president Trump achieved his first political win (and kept emphasising to his Twitter followers repeatedly) as the lower house of the US Congress (House of Representatives) finally passed another attempt to repeal ‘Obama Care’ by the narrowest of margins. The upper house, the Senate, is seen as very unlikely to pass the bill in its existing format, but instead draft its own. Consequentially this will now once again tie up political resource, thereby delaying regulatory and fiscal reform initiatives which are seen as the higher priority under his MAGA political paradigm (making America great again). However, maybe that is not so bad for investments, because as we also learned during the week from the central bank’s April meeting statement and the latest employment figures, the Q1 economic deceleration is most likely just as transitory as it has been the previous two years. With unemployment dropping to just 4.4%, much additional economic stimulus from fiscal and deregulation measures would increase the risk of economic overheating, or at least much of it evaporating through wage inflation. Markets appeared to see it that way and rose despite the prospect of less help from politics and the central bank.

Turning to Europe, our UK readership may be worried by some headlines that apparently ‘the first shots’ have been fired in the Brexit negotiations, which suggests an outright war attitude, rather than one of ‘let’s stay friends and continue to prosper’. Alas, we were not at all surprised by the hostile ‘briefings’ on both sides, because we had forecast this to happen during the election heavy 2017. I would even suggest that Juncker knew exactly that his doing would actually strengthen May’s election prospects and that his aim was instead to support Macron and Merkel – advocates of EU stability and continuity.

Far more important for us were two news items which were drowned by all the other news flow. Firstly, that Greece’s bailout term changes have been agreed with the EU and the IMF which averts the next episode in the country’s never ending debt tragedy. Secondly, that Italy’s economy is likely to be growing at its fastest pace in 10 years. That is a great relief for its banks, because the better companies trade, the less likely that all those non-performing loans on Italian bank’s books will turn sour. If we still count the UK as part of wider Europe then there were some encouraging data points from here too, as UK industry reported much more upbeat business outlook figures then the recent falls in consumer demand would have suggested. It appears that as we anticipated a while ago, the upswing in economic activity across the Eurozone is indeed trickling down to the UK as well – compensating through EU trade at for least some of the consumer demand decline.

This leaves the election theatre. Here, the landslide victory for the Conservatives in the UK’s local elections was seen by many as validation of their predictions for the same outcome in the general election in a month’s time. While there has not been the highest of correlations between the two types of elections in the past, one can’t but observe signs of a fairly strong trend. This should further reduce concerns amongst investors about political uncertainty in the UK – at least compared to what we had in the immediate aftermath of the Brexit referendum.

So now we are awaiting with bated breath that the moderate presidential candidate Macron will indeed defeat populist presidential candidate Le Pen in the weekend’s second round of the French presidential elections. Capital markets appeared to be quite certain for this to happen, but since Brexit and Trump, we can still expect the Euro to make another jump upwards when the electorate really votes as expected.

Last but not least, oil price gyrations kept oil traders and commodity speculators busy, as hope was dwindling that OPEC would succeed in lowering output as agreed late last year, while US shale exploration is ramping up once again and thereby threatening to undo even the little in cuts OPEC has been able to achieve. Not really news to us and our readers, as we suggested as much only a couple weeks ago.

On balance then, more stabilising than upsetting news updates for investors this week, but I will be far happier and more confident next week, when we will hopefully have a French president by the name of Emmanuel and not Marine and the Bank of England tells us that rates will stay the same, even if they see UK economic prospects stabilised and improved.

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