Back to earth with a bump
In last month’s summary we noted in our outlook comments that “solid year to date returns will probably be tested again”. That test came very quickly in the early part of August, when risk assets moved sharply downwards after the latest escalation in US-China trade tensions. Also contributing to this bout of volatility was a lingering sense of disappointment in the bond market that the Federal Reserve was not as aggressive in its guidance for future interest rate cuts as some investors had hoped. Once again, this familiar combination of events proved to be toxic to investment sentiment and prompted a broad- based flight into safe haven assets at the expense of more risky ones.
Although the key drivers for August market movements emanated from the USA and China, other geopolitical risks also had their impact. Everything from Brexit to Hong Kong riots acted to erode investor confidence, especially as global economic news provided no compelling offset to the negative tone.
Market movements underline the current high degree of uncertainty
Amidst the many sharp price movements, one had real significance, namely the decision by the Chinese authorities to allow their currency to weaken beyond the CNY 7 to the dollar ceiling that had been in place for many years. The deliberate breaching of this hugely symbolic level signaled two worrying possibilities – the first being that China was now allowing a ‘trade war’ to spill over into a ‘currency war’ and secondly, that it might also be signaling that the Chinese economy is weaker than previously thought.
“We remain strategically more optimistic than pessimistic, encouraged by a still reasonable range of opportunities.”
Allied to this event was another very large rally in safe haven assets such as gold and government bonds. Bond yields are broadly back towards their all-time lows across the globe, putting investors in something of a dilemma as the ‘risk free’ returns on offer are paltry at best and more usually, zero or negative. By discounting interest rates lower than current official levels, bond markets are effectively strong-arming central banks into further bouts of aggressive stimulus. Whether this is delivered to the extent expected will be a key factor in determining market direction into year end.
Admittedly, the thin summer markets of late summer are usually choc-a-bloc with gossip and skittishness and last month the mood music undoubtedly became more pessimistic. There are some solid offsets to all this – a strong consumer, low unemployment and the lagged positive effect of cheaper oil and lower interest rates, all act as a counterbalance to the serious issues described above. We don’t see a particularly strong tactical call one way or the other at the moment and remain strategically more optimistic than pessimistic, encouraged by a still reasonable range of opportunities.
