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WEEKLY – Investment Adviser 18 July

PERFORMANCES 2019

Equities Bonds
MSCI World +16.7% CHF Corp +2.7%
S&P 500 +19.1% US Govt +4.9%
Stoxx 600 +14.5% US Corp +9.8%
Nikkeï +5.2% US HY +10.2%
SPI +23.3% EUR Gvt +6.5%
Chine +25.2% EUR Corp +6.3%
Emerging +9.2% EUR HY +6.8%
Currencies Commodities
USD index +1.1% Gold +10.8%
EURUSD -2.2% Silver +3.7%
EURCHF -1.7% Brent +19.4%
USDCHF +0.6% CRB index +5.7%
USDJPY -1.6%
EM FX +1.2%

Shrinkage

The kick-off of US political cycle actually matters

One of the most striking feature of Trump policy has been its unpredictability. He has used, if not abused from this tactic, namely when facing significant obstacles. This is a bedrock of his character, which allowed him to bluff and to turnaround delicate situations, namely with bankers, during his former real estate career. A lot has been written about the pros and cons of such a strategy often referred to as the ¨Madman theory¨. Incidentally, Nixon was already an adept of it, when he dealt with the hostile Communist bloc…

But there is a game changer on near term horizon: Trump made official his candidacy for a second Presidential term. In practice, it will not only restrict the scope of possible actions materially, but also influence him regarding the field of his direct prerogatives!

A new US electoral cycle has just begun

 

What will probably not happen over next 18 months

  • The resurfacing of Republicans´ core (conservative) value. Forget about containing budget deficit or respecting Fed independency but contemplate extravagant monetary experimentation (say MMT). There will be no internal debate on the substance of the upcoming Trump program, and Powell will feel further pressure.
  • A new tax reform. The divided structure of the Congress will inhibit any such possibility.
  • A large infrastructure plan. Dito.
  • Global Accords with Beijing (including technology transfers, security, 5G) and Tehran. Both foreign countries will probably wait out the clock. A Democrat administration, especially if led by Biden, would prove a more compliant counterpart to negotiate with.

 

What might well happen over next 18 months

  • New initiatives on immigration. The lack of practical ¨results¨ and the delays on the ¨Wall¨ construction at the Mexican border remain source of intense frustration and harbingers of Trump’s weakness vis-à-vis his political base. He has the political room to maneuver on it.
  • Further measures on trade / tariffs. Europe will probably be the next convenient scapegoat. The latest GAFA tentative taxation by France might prove a trigger for an edgy Trump.
  • Additional pressure on the Fed to weaken the USD. The US administration wants financial conditions to be as loose as possible over next quarters. Low interest rates and a competitive USD might do this trick. By the way, Trump administration is seemingly contemplating avenues to intervene on the FX market to weaken the green-back…

 

Bottom-line for investors

Expect no major Breakthrough with China, and new tensions with Iran.

No fiscal stimulus is in sight, next 18 months. But the debate on unorthodox fiscal policy, like MMT, will inflame. It may even become the number one source of markets’ uncertainty if B. Sanders was to become the Democrat nominee.

Talks on trade will remain very volatile, with a likely radicalization towards Europe.
FX volatility will resurge

  • USD volatility will rise
  • Gold will remain a core diversifying asset of choice
  • Emerging markets and oil should benefit, provided no major trade war unfolds

 

Currencies. Bank of Canada against the trend

Over S1, the CAD has bested all its G-10 peers and by a quite a distance thanks to the oil price recovery from their 2018 lows and the domestic economic rebound. The CAD outperformance has been a consistent theme over the last month and should continue.

Some months ago, many G-10 central banks were ready to raise rates this year. However, things have strongly changed. Central banks in Australia and New Zealand have both already cut rates this year and should do it again. The ECB will move in September. And the most notable, the Fed which will lower its Fed Funds rate by 25 bps this month and again later in the year.

However, the Bank of Canada is not dancing on the same foot. Last week, even if Governor Poloz refused to cheer too loudly about recent Canadian economic improvement, it did not turn dovish. The BoC base case scenario could be described as an all-clear outlook ahead. However, it is becoming somewhat more concerned about risks. The BoC could have taken an even sunnier. Instead, it chose to downplay some of the Q2 temporary upside surprise.

A few months ago, Poloz mentioned that the most likely next move will be a hike rather than a cut. Last week, he talked about rates being appropriate, and that they would respond if headwinds dissipate or worsen. That is a more nuanced statement that leaves room for a move in either direction.

There is no immediate pressure on the BoC to cut rates, even if the Fed will do it. That reflects the fact that Poloz raised rates more cautiously than his US counterpart. Unlike the White House, Canadian officials are not pushing for a rate cut, and markets are not in a hurry to price in such a development this year. Lower bond yields have helped to stabilize the housing market without lowering key rates.

  • Clearly, the BoC is in no hurry to adjust its key rates in either direction. It asserts that its stance remains appropriate

 

Currencies. Looking for diversification

The SEK, along with the NOK, recently strengthened. Both respective central banks are still relatively hawkish. This is becoming increasingly rare in a world full of doves. Fed Chairman Powell testimony was once again dovish. Consequently, their stances should generally be supportive for the NOK and SEK.

In its 3 July monetary policy meeting, the Riksbank hinted at a 2019 rate hike. Nonetheless market is reluctant to embrace such tightening prospects. The Swedish inflation (CPIF) slides from 2.1% in May to 1.7% in June. It may seem disappointing. Much of this has to do with energy prices. More importantly, the Riksbank has already factored all of this into its forecasts and in fact the June inflation figure was slightly above what they had anticipated in the latest inflation report. In principle then, there is nothing in these latest figures to alter the Riksbank’s guidance that rates could rise again as soon as late-2019.

Norwegian GDP was better than expected. However, headline inflation weakened below 2.0% in June, slipping to 1.9%. This decline should not derail the Norges Bank plans to hike rates again over the coming 6 months, but the next move is more likely to be latter rather than sooner.

  • Scandinavian currencies are cheap vs. USD and to a lesser extent vs. EUR

 

Equities. French loneliness

The French Parliament passed its law “Gafa Tax”. It plans to impose 3% of digital companies ’ turnover realised in France, mainly Google, Apple, Facebook and Amazon. Meetic, Airbnb, Instagram and the French Criteo, among others, are also concerned. The tax will apply retroactively to January 1, 2019.

It was a European project that did not succeed because of the reluctance of Ireland, Sweden, Finland, Germany and Denmark. So France decided to go alone. This tax triggers the anger of the United States which has launched an investigation into the effects of this tax, and promises commercial retaliation, considering that this tax unfairly targets some US technology companies.
France is the first country in Europe to unilaterally adopt a tax on turnover. France probably should have waited until the efforts of the G20 finance ministers succeeded, who promised a final agreement by 2020 on tax justice at the international level. Other European countries (Italy, Spain, Great Britain, Austria) have proposed turnover taxes, but they prefer to wait until 2020 and remain in the multilateral process of the OECD and the G20. India has a tax since 2016, but it applies only to online advertising. New Zealand and South Korea have bills being prepared on a Gafa tax.

As we alluded to already, governments and lawmakers of the developed countries seek to regain the “control” of these big groups of the digital and the social networks, by putting forward the global tax justice and their gigantic size which would prevent the development of competition and affect the process of liberal democracies (see Russian interference in the last US presidential elections). The pressure is increasing, but it will take more to make them waver because of their financial strength. Facebook and the Federal Trade Commission (US) have agreed to a $ 5 billion fine on the Cambridge Analytica scandal, which represents for Facebook a quarter of its free cash flow and 10% of its cash. It’s not nothing, but not much.

In addition to trying to split the major digital groups, the US Democrats have launched a proposal in Congress to block the major technology companies to issue digital currencies, as proposed by Facebook with the Libra, and to operate like financial institutions. If the Fed and Donald Trump seem in step with the Democrats proposal, the Republicans oppose it, justifying a negative potential impact on innovation.

  • Growing pressures on Gafa
  • We stay in Neutral on the Gafa:

 

Disclaimer
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