U.S.-China trade tensions rattle markets again. Is this time different?

On a special podcast edition of Market Week in Review, Senior Investment Strategist Paul Eitelman and Research Analyst Brian Yadao discussed the escalating U.S.-China trade war, flash Purchasing Managers’ Index® (PMI)1 numbers for May and the potential for changes to monetary policy in Australia and the U.S.

Will China retaliate for U.S. ban against Huawei?

Global equity markets were shaky the week of May 20, Eitelman noted, as trade tensions between the U.S. and China remained high. Although markets have been impacted by a slew of ups and downs in the trade dispute for the better part of a year, Eitelman said that this time feels a bit different. “Ever since the U.S. raised tariffs on $200 billion worth of Chinese goods on May 10, the news surrounding trade has continued to trend in a negative direction,” he observed. What’s more, the two countries aren’t talking to each other at the moment, Eitelman added. “This is highly significant,” he said, “because it drastically reduces the potential for a trade deal between the U.S. and China in the next few weeks—and makes it unlikely that there’ll be a resolution in time for the upcoming G20 summit in Japan in late June.”

In addition, the fact that the U.S. is now starting to target individual Chinese businesses only adds to the recent escalation in the trade conflict, Eitelman said. “The U.S. Commerce Department recently placed tech giant Huawei on its entity list—which is essentially a trade blacklist that restricts the sale of U.S. goods to specific companies,” he explained. Markets have really zeroed in on this, Eitelman said, because the ban could potentially damage Huawei’s ability to continue on as a business. China hasn’t fully retaliated in kind yet, but it’s possible the country may respond by either targeting a prominent U.S. business or restricting exports of rare earth minerals to the U.S., Eitelman said. “Doing this would be a further escalation and only add to the growing concern for markets,” he observed.

Ultimately, trade uncertainty is likely to be a lingering risk that markets will have to grapple with for the foreseeable future, Eitelman said. He believes that the conflict could also dampen the economic growth trajectory in the U.S. a little bit.

May flash PMI numbers indicate weakening business activity

Preliminary PMI data for the U.S., Japan and the eurozone was released the week of May 20. Importantly, the surveys were conducted after the escalation in trade tensions between the U.S. and China, Eitelman said. So, what does the latest data suggest? “Overall, there’s been a weakening in business activity and new industrial orders, as well as some slippage in business confidence levels—the latter of which may stem from the impacts of heightened trade tensions,” he observed. In addition, the forward-looking expectations in the flash PMI numbers softened a bit during May—another signal of concern, Eitelman noted.

“That said, generally speaking, the flash PMI numbers from the U.S., Japan and the eurozone came in above 50—indicating growth, rather than contraction—but growth has clearly weakened relative to April,” he concluded.

Australian rate cut appears likely after comments by RBA governor

Shifting to monetary policy, Eitelman noted that Reserve Bank of Australia (RBA) Governor Philip Lowe strongly hinted at an upcoming interest-rate cut during May 21 remarks in Brisbane. “He essentially said that the RBA will consider the case for lower interest rates at its June meeting,” Eitelman said, “and while that’s not a committing statement, that’s about as far as a central banker will go ahead of a meeting.” Lowe’s forceful language was a bit of a surprise to markets, he noted.

Turning to the U.S., Eitelman said that the release of the U.S. Federal Reserve (the Fed)’s minutes from its April 30-May 1 meeting show that the central bank is fully committed to remaining in a patient policy stance for the time being. “The Fed doesn’t see a case for a rate cut or a rate increase right now,” he stated.

The bond market, however, has moved in a rather pessimistic direction lately, buoyed by a strong belief that the Fed will cut rates later this year. “At Russell Investments, our view is that this pricing is overly pessimistic, because we don’t see the fundamentals as being supportive of a rate cut,” Eitelman concluded.

1The Purchasing Managers' Index (PMI) measures the month-to-month variation in economic activity in the manufacturing sector. The U.S. PMI is based on five major indicators: new orders, inventory levels, production, supplier deliveries and the employment environment.

 

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