Tit for tat - a very public game of chicken

Rhetoric hyperbole, muddy motives and complex global supply chains have made it difficult to work out exactly what’s going on behind the “trade war” headlines, but the potential for significant protectionism between the world’s two largest economies, and others, shouldn’t be ignored.

What do we know? So far, the 25% tariff on US$50bn of imports from China announced by the US, followed by retaliation from China, could be best described as a trade skirmish, rather than anything more significant. However, there have been threats of quite a lot more from the US, and key to understanding the impact on markets and economies is the degree to which it could escalate into something more material.

So far the instigator has been Trump and his administration, with the other actors responding in a largely retaliatory fashion. This dynamic might change but, either way, it’s sensible to try to understand the context from the perspective of the protagonist.

There are a number of positives that Trump will likely take as encouraging in the context of the recent tariff announcements: the US economy is performing better than its peers, likewise for the US stockmarket year to date, while his approval rating has been improving steadily throughout this year. Trump appears to use all three indicators as a composite benchmark of his success.

Much of this recent success will have been the result of delivering tax reform but actually, for the short term at least, politically and economically, raising the pressure around tariffs at a time when the impact of fiscal stimulus on the US economy is growing might be quite shrewd, or just a coincidence. It also seems that economic nationalist and Chinese hawk Peter Navarro remains an important advisor within the administration, so in that sense, why would Trump change tack?

Well, the key pressure point is the November mid-term US elections and Trump will be focused on avoiding significant market falls or dampening business confidence in the run up. In that sense, the market might act as an automatic stabiliser, with Trump unlikely to want to face down the market. As ever though in democracies, it might well be a balancing act, with the “tough-guy-on-trade” image being well received by his support base, with more than enough time for serious deal-making/backing down, after the mid-terms. Also though, let’s not forget the powerful vested interest groups that helped facilitate the acceleration of globalisation in the last few decades and the businesses and employees of US export sectors that might be targeted in retaliatory action, not to mention the wider Republican Party, traditionally the party of free-trade.

So potentially a noisy few months, during which time the focus will remain on the impact of announcements, as well as actual implemented measures, on sentiment and activity. Conventional wisdom suggests that a fully-fledged trade war would add to inflation and subtract from growth. At this stage though, the risk seems to be one of ‘increased tail risks’, rather than having a material impact on growth/inflation forecasts.

There are other areas to watch too. Daimler was recently the first major car company to issue a profit warning citing the trade war (its US operation sells into China and is hit by Chinese retaliatory tariffs) and analysts will be looking to company commentary in the upcoming Q2 earnings season. Meanwhile, the export-orientated and car-dominated German economy has shown signs of strain (see this week’s German Ifo business survey which weakened, noting concerns over trade wars), plus the People’s Bank of China this week announced a 50 basis point cut in the Reserve Requirement Ratio for some banks. This might reflect trade tensions or weaker Chinese economic data, though they are not unrelated.

With poor visibility but rising risks to fundamentals, we’ve been reducing our exposure to global trade for some time, for example Emerging Markets, and we’ve also sold our European car manufacturers (a focus for Trump), while adding to the UK and the US. In the case of the US, we’ve been buying businesses exposed to the domestic economy and the strong consumer, for example, discretionary spend sectors like restaurants, clothing and housing related.

The value of investments will fall as well as rise and investors may not get back the original amount invested.


Important Information:

For Investment Professionals only. Not for onward distribution. No other persons should rely on any information contained within this document.

Source for information: Miton as at 26/06/2018 unless otherwise stated.

The views expressed are those of the fund manager at the time of writing and are subject to change without notice. They are not necessarily the views of Miton and do not constitute investment advice.

Miton has used all reasonable efforts to ensure the accuracy of the information contained in the communication, however some information and statistical data has been obtained from external sources. Whilst Miton believes these sources to be reliable, Miton cannot guarantee the reliability, completeness or accuracy of the content or provide a warrantee.

Issued by Miton, a trading name of Miton Asset Management Limited the Investment Manager of the Fund which is authorised and regulated by the Financial Conduct Authority and is registered in England No. 1949322 with its registered office at 6th Floor, Paternoster House, 65 St Paul’s Churchyard, London, EC4M 8AB.

MFP18/233.