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21 June 2019

Risk aversion rattles the market

Risk aversion rattles the market as the China-US trade war rumbles on, combined with Iran-US tensions in the Persian Gulf. China’s industrial output was reported to hit a 17-year low in May, adding to global expectations of central bank easing cycles. This plethora of bad news has pushed investors to safe haven trades. The gold price has risen to US$1,360 an ounce, a 14-month high, in addition, ten-year benchmark yields across Europe have seen record lows. The AUD/JPY exchange rate fell below 75.00, a level only seen in ‘flash crashes’. Expectations of further easing by Australia’s Reserve Bank and the combination of bad global data helped contribute to this fall.
 
An interesting side observation from rising tariffs on US imports from China is the potential for transhipment of China’s exports via third countries to circumvent the tax. There has been a rise in exports from places such as Indonesia, Philippines and Vietnam to the US, however, imports from China, which would tend to lead this pickup if transhipments were driving export growth, have remained relatively flat. The export shift could highlight a production shift away from China, although the size of this shift in dollar terms is small relative to China’s trade flows. It has been reported that regional authorities are vigilant over transhipment practices.
 
In the UK, Brexit has been benched while the leadership contest between Boris Johnson and Jeremy Hunt for Number 10 spurs into gear.  The rhetoric coming from the EU suggests it will not reopen talks on the withdrawal agreement. Boris has banged the ‘no deal’ drum since Brexit negotiations began and with a Commons majority insistent on preventing ‘no deal’, it feels as though impending doom is approaching. If negotiations fail to materialise over Summer months and the House successfully blocks “no deal”, a general election will likely be called, leading to a further extension of Article 50, and a scrappy general election with lots of whats, ifs and maybes.
 
Despite Brexit uncertainty, the UK bull market rolls on for its 120th month, the longest bull market since 1987. We are also experiencing a multi-decade low in the unemployment rate, higher wage growth, and elevated unit labour cost gains, but lacklustre consumer price inflation. The UK’s import share of consumption has risen over the last 20 years, meaning consumer prices are more dependent on currency and global supply and demand conditions, diminishing the role of domestically generated inflation. Unit labour cost inflation will exert pressure on CPI if it persists, however, to what extent is becoming increasingly dependent on global inflation trends.
 
If we compare equity and bond markets it is clear these markets have contrasting views, stocks being optimistic and government bonds pessimistic. Central bank easing usually pushes up long-term inflation expectations, however, instead we face the contrary. It is evident central banks face challenges over the effectiveness of their tools. These unprecedented times across the globe create a difficult environment for investors.

Elizabeth Pindar, Investment Executive
 
Risk aversion rattles the market

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