A Month of Political Pageantry and US Equities

2019 has been a crazy year for the stock market, shifting almost monthly between manic enthusiasm and numbing uncertainty. Now we find ourselves more than halfway through the calendar year, and this month we are once again reaching for new highs as the S&P 500 continues with unsteady steps upwards. June stock market strength was driven by positive sentiment around US-China trade negotiations and growing likelihood of the Federal Reserve moving towards an easy monetary policy. The S&P 500 rose 6.9% and the Nasdaq rose 7.4% for the month, basically erasing May’s steep declines with some to spare in order to reach new record highs.

Yesterday, US President Trump and Chinese President Xi met on the sidelines of the G-20 and basically agreed to maintaining the current status quo on tariffs and proceed with trade negotiations (read an in-depth article on the meeting by the New York Times). Trump also indicated that he will potentially throw Chinese giant Huawei a lifeline by lifting sanctions on the company. This is a positive for the market since negotiations are always better than more hostile dialogue (ie tariffs and threats), but the announcement lacked specific details on exactly what would happen. A small stock market rally may be expected since the G-20 meeting did take place and a nominal agreement to renew trade negotiations reached. However, in coming months, the retail investor should continue to approach the broader stock market with an elevated degree of caution until demonstrated progress can be seen in US-China trade negotiations.

June Stories of Note

The Fed may lower interest rates. Relatively weak inflation and a very disappointing jobs report amid broader economic data with mixed outlook has caused the FOMC to adopt a more dovish stance towards interest rates for 2019. The US administration has also been pressuring the central bank to do just that, which could complicate the Fed’s decision-making process as it strives to demonstrate its independence. Read about the FOMC statement at Bloomberg.

Oil price movement partially correlates to US-China trade discussion sentiment. Oil prices moved into a bear market briefly on June 12th, before moving sharply higher as US-China trade optimism rose. Also of note, several bombing attacks on oil tankers in the Middle East occurred on June 13th, when oil prices were near five-month lows. A large portion of US crude’s 9% rise in June can be attributed to optimism on the demand side of the equation, which benefits from greater global economic growth.

Caution may be warranted towards big technology names. In the first days of June, companies like Alphabet, Google, Amazon and Facebook all fell sharply after news broke that the US Justice Department is considering antitrust probes for the companies and the FTC may examine Facebook’s business practices. Note that tech has been a relatively safe defensive play for investors in the face of elevated trade tensions and economic growth concerns. The Wall Street Journal focuses on how the FTC may examine Facebook in this article.

Pageantry plays a role in trade negotiation gamesmanship
Let’s review recent stock market performance. March performed well. Equity markets experienced strong gains in April. May saw stocks plunge, with the S&P 500 down 6.6%. Then, in June, the S&P 500 rose 6.9%, erasing May’s losses and building off April’s gains to reach new historic levels.

What has been driving these wild swings in the broader equity markets? Why this shift from the tranquility of recent years? Movements in various asset classes may be largely attributed to pageantry related to trade negotiations and the anticipated outcome’s effect on global economic growth. Trade tensions between the US and China manifest on multiple levels:

• Meaningful dialogue behind closed doors between negotiation teams.
• Information supplied by the US and Chinese governments through press conferences and announcements (some delivered by Twitter for Trump, state-controlled news articles for China), with messages directed at both their own people and the global audience.
• Threatened actions - which may deviate from actual actions - against the interests of the rival nation (think Huawei sanctions by the USA, visits to rare earth production facilities by Chinese officials).
• The consensus mindset of the actual decision makers directing either nation (President Trump and President Xi likely have outsized influence here).

In many ways, each country puts on various acts in this theatrical production that the world is watching. Many individuals grow concerned by stories told around Huawei, 5-G technology, Chinese production of rare earth elements, and Chinese purchases of US energy. The Ignorant Investor would suggest that all of these recent headline-grabbing events should be examined in the context of the trade deal negotiation, and that many of them could be argued are calculated rather than random actions. Let’s look at some chronological events.

April’s strong rally to then-record highs had been on the back of an anticipated US-China trade deal that never materialized. In early May, US negotiators accused China of backtracking on a number of key points that had been hashed out in previous meetings. After this, US President Trump announced heavy tariffs on a portion of Chinese goods and China retaliated. Then the US declared a national emergency, banning US firms from doing business with Huawei. Also around the same time, Japan and the EU faced potential tariffs on auto imports before Trump later postponed them by six months. There was also that seemingly random time at the end of last month when President Trump decided to threaten Mexico with tariffs over an immigration dispute, which had the potential to derail the recent trade pact negotiated between the United States, Mexico, and Canada.

Within the context of the negotiation table, President Trump’s actions can make sense by injecting unpredictability into the equation and potentially keeping Chinese negotiators off-balance. Trump could be sending the message that he is not beholden to the performance of the stock market and he remains strong enough to throw away everything without a second thought, regardless of upcoming presidential elections. This message may have been deemed necessary if Chinese negotiators did renege on previous agreements (something the Chinese side disputes). If this is the case, it’s a dangerous game - a very high stakes game - to be sure.

Trump’s negotiating tactics.
An in-depth article outlining arguments and a rough timeline of events for US and Chinese trade negotiations. A high stakes game with hardball tactics could result in either a decent deal for both countries or a bitter, protracted trade war. Read the details at Forbes.

Ultimately, market movements are based on data, and right now everyone is very much focused on economic growth. Trade deal uncertainty and trade tensions threaten already-challenged growth in the US, China, and the rest of the world. The Ignorant Investor posits that many recent actions taken by both the US and China may be attributed to positioning around the trade negotiation table. Regardless of the rationale behind recent drama, a best-case scenario for the average investor going forward is if this theatrical production is near its final act.