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Market Commentary June 2018

Jon Cunliffe, Charles Stanley Chief Investment Officer, offers up his monthly market commentary

by
Jon Cunliffe

11.07.2018

Equity markets put in a mixed performance over the month of June.  US equities were generally positive, led by Nasdaq, which returned 1.7% in Sterling terms and the S&P 500, which returned 1.4%.  In general, sentiment towards US equities has remained positive, helped by the tailwinds of solid growth and corporate earnings momentum and an expectation that the US will fare relatively better than Asia or Europe in the event of a significant escalation in trade tensions.  In a tit-for-tat exchange between the US and China, tariffs on $34bn of Chinese and US imports were announced (and were implemented in early July), but the concern remains that the US will announce much more aggressive measures in due course.

Consistent with this theme, other equity markets fared less well, with Asia Ex-Japan down 4.1%, Emerging Markets (EM) fell 3.9%, and the German Dax – in part due to weakness in the auto sector – underperformed the Eurostoxx50.  Aside from the concerns around trade, risk assets in Asia and EM have come under pressure on US Dollar strength.  This has caused EM currencies to weaken on fears over capital flight and weakness in domestic bond markets, as the resultant risk of higher domestic inflation has fed through to some monetary policy tightening.  If this central bank activity helps stabilise EM currencies without weighing too much on the growth, then the outlook for EM/Asian equities will look markedly better.

In the US, the Federal Reserve has effectively met its dual mandate of price stability and full employment and continued with its monetary policy tightening, increasing its key policy rate from 1.625% to 1.875%.  The move was widely discounted by the market and had little effect on financial markets.  However, in its projection of the evolution of policy rates, the Fed indicated that policy rates could peak at a slightly higher level than previously stated.  As a consequence there is quite a gap between the level the market expects policy rates to peak (2.75%) and the Fed (3.425%).  Whilst the US economy is likely to grow at an above-trend rate this year, the difference suggests that the markets do not share policymakers’ optimism about the sustainability of this growth trajectory as we head into 2019.

Elsewhere, in contrast to the tightening bias elsewhere in Asia, the People’s Bank of China (PBoC) eased policy by cutting the commercial banks’ Reserve Requirement Ratio.  This action stems from the downside risks to growth emanating from slowing money growth and a more aggressive action from the US authorities on trade.  Mindful of the risk of capital flight on currency weakness, the PBoC announced, for the time being at least, that they do not wish to see a weaker Yuan, particularly versus the US Dollar.

Aside from an unhelpful trade narrative, perhaps the key driver of markets this year has been relatively disappointing economic data outside of the US, which has created much of the policy divergence outlined above.  Our sense is that activity outside of the US should pick up a little and this should remove some of the pressure from underperforming regions. 

All told, we remain constructive on equities and expect the upcoming earnings season and incoming economic data to be positive for sentiment.  Given the downgrade to growth expectations and earnings multiples in a number of regions, we get the sense that financial markets discount a medium intensity trade, but there is always the risk that the US adopts a much more aggressive stance.  As a result, we continue to favour a globally diversified approach to asset allocation, incorporating as many sources of potential return as possible.

Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.

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