last week suggest that we have entered a period of improved economic policy
certainty. Both the UK election and the US-China Phase 1 trade deal promise to
bring far more clarity for businesses as they plan for 2020 and beyond. If so,
this could be a welcome gift for the economy and the stock market as we enter
the holiday season.
A Jan. 31 Brexit looks
to a Conservative
Party landslide in the Dec. 12 UK Parliamentary election, we expect Brexit can be completed by the end of January, but
trade negotiations on the future relationship of the UK and the European Union may
be stretched out beyond December 2020. At this point, it looks possible that the
UK may exit the EU’s single market (which allows for the free movement of goods
and services among the different countries in the EU), but remain in or align
with the customs union (which establishes a common system of tariffs and import
quotas for trading with non-members).
As the details
solidify, I would expect to see a gradual and sustained recovery in
investment and a reversion to a higher growth rate that is somewhere between
that of the eurozone and that of the US (even if it is slower than pre-Brexit
economic growth). If so, sterling is likely to consolidate some further gains,
but still at a discount to pre-Brexit levels. Gilt yields could move somewhat
higher still. Equities are likely to rise significantly. With uncertainty
easing, the Bank of England might even attempt to catch up to the global easing
frenzy with a rate cut.
A Phase 1 trade deal could provide
The day after
the UK election, it was announced that the US and China have agreed on the
first phase of a trade deal — a development that I believe should be very
positive for a number of industries.
This Phase 1 deal
includes several items that could benefit US industries:
has promised to ease pressure on US companies in terms of technology transfer,
which should be very positive for the tech sector, if it comes to fruition.
withdrawal of tariffs threatened to be imposed on Dec. 15 should also benefit
US tech companies (laptops and cell phones would have been subject to those
tariffs) as well as some US retailers (who would have had price increases on imported
goods from China that they sell, from personal care products to clothing to
agriculture, energy, and manufacturing industries should also benefit – if
China does in fact purchase additional goods, as is currently part of the Phase
partial rollback of the September tariffs (from 15% to 7.5%) are also part of
the current deal. That should benefit US retailers, given those tariffs were
focused on consumer goods.
Going forward, the rollback of additional existing tariffs over time is expected as well – although this is far from certain. If these rollbacks were to occur, one likely beneficiary is the auto industry (US and German auto companies).
Phase 1 deal should be positive for business investment because it reduces
economic policy uncertainty, and increased business investment should benefit
the global economy. I expect this to create an upward bias for stocks globally
— especially for Chinese equities, which in my view have been unfairly beaten
down in the last several years.
Neither development is a ‘done deal’
certainty around Brexit and a Phase 1 US-China trade deal are both very
positive developments, nothing is a “done deal.”
remains some uncertainty on the approach UK Prime Minister Boris Johnson will
take going forward. Commentary over the weekend was divided on whether or not
Johnson will soften his Brexit stance. Some argue he will because he is no
longer beholden to the ERG (an alliance of pro-Brexit Conservative Members of
Parliament) and Nigel Farage (leader of the Brexit Party). On the other hand, others
argue he will want to stick to his promise of ending the transition period by the
end of 2020).
Phase 1 deal has not been signed, and there is still a possibility that the
agreement in principle could be derailed:
has thus far only confirmed a few details of the agreement — that it will
increase its purchases of US goods but does not appear willing to meet specific
quotas. It has not confirmed that it will ease technology transfer requirements
that US companies have been subject to.
is laser focused on getting the US to continue to roll back existing tariffs —
and has made that an important condition of negotiations. However, the US has
thus far been very reluctant to roll back tariffs without gaining any major
concessions, so it is unclear whether it will give up any more ground than it
the US and China have come to a truce on tariffs, they appear to be engaged in
other skirmishes. Last week, the Financial
Times reported that China has ordered its government offices to remove
foreign computer equipment and software within three years, replacing it with
Chinese equipment and software. This would negatively impact US tech companies
that supply such goods to China. This appears to be in retaliation for a recent
directive by the Trump administration to curb the use of Chinese technology by
the US. Large-scale replacement of US equipment by China is expected to begin
next year, suggesting the relationship between the two countries remains tense
and there is a real risk that it could deteriorate and possibly negatively
impact trade negotiations.
In conclusion, last
week’s developments are very positive. However, until Brexit is completed and a
Phase 1 trade deal is signed, there is the potential that uncertainty could spike
again. In our view, this means that while maintaining a diversified portfolio
with adequate exposure to risk assets is important, it’s also critical to plan
for the potential for higher volatility in the short term.
of the holiday season, Weekly Market Compass will not publish for the last two
weeks of the year. We’ll be back on Jan. 6. Happy Holidays to you and yours!
Blog header image:
Zelma Brezinska / EyeEm / Getty
involves risk, including the risk of loss.
does not guarantee a profit or eliminate the risk of loss.
Brexit refers to
the scheduled exit of the UK from the European Union.
UK gilts are bonds
issued by the British government.
referenced above are those of the author as of Dec. 16, 2019. These comments should not be
construed as recommendations, but as an illustration of broader themes.
Forward-looking statements are not guarantees of future results. They involve
risks, uncertainties and assumptions; there can be no assurance that actual
results will not differ materially from expectations.