Exposure rates of the Dorval Asset Management Range – 31st May 2019

Donald Trump’s threat to introduce border tariffs of 5% initially and 25% later on $350bn in Mexican imports is an attempt to force his neighbour to combat illegal emigration to the US. 

The country has already adopted this type of militarisation of trade policy with China, but not only is its effectiveness questionable, it also hampers the US – and world – economy to boot.

 

Optimists will argue that this is precisely why Donald Trump will end up de-escalating the situation to avoid a potential recession that would send him straight to electoral defeat next year: in market-speak, this is known as the Trump put. Vice President Mike Pence also stated that he believes an agreement with China is still possible and that the meeting between Donald Trump and Xi Jinping at the G20 Summit in Osaka on June 28 and 29 is still on the cards. But who will want to sign any kind of agreement with such an unpredictable president? Meanwhile, Donald Trump may want to keep the thumbscrews on and rely on the Fed to keep the economy afloat. At this stage, we will refrain from committing to any particular scenario.

 

In any case, the markets are still pricing in an easing in US monetary policy, expecting two or three rate cuts out to mid-2020 (cf. chart 1). After the deterioration in PMI stats in April and May and with the trade war extending to Mexico, the likelihood of an easing in monetary policy now stands at over 50%. Bar any surprise in the meantime, the Fed will officially announce its change in strategy – at least verbally – at the meeting on June 18 and 19. The 10-year rate has already dropped considerably and now comes to 2.15%: this is still above the 1.5% witnessed in the summer of 2016, although it could revisit this level if the macro-political outlook continues to deteriorate.
 

Unless there is some reassuring news, the world stock-markets are set to have trouble holding up in the face of this fresh potential hit for corporate America (highly invested in the US-Mexican hub), the moderate but growing likelihood of a recession, and very disruptive political unpredictability. The MSCI World has so far lost a moderate 6% compared to its highs, and has moved back to its 200-day moving average (cf. chart 2). The days ahead will tell whether investors throw in the towel or if they decide to bank on the effectiveness of automatic stabilisers currently at work i.e. stimulus in China, declining oil prices and falling interest rates. Whatever the outcome, caution will still remain the watchword for our portfolios.

 

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