The World In A Week - Taking matters in to your own hands...
In what was a short week, owing to the bank holiday weekend, Brexit news was light; cross-party talks between Conservatives and Labour continue to progress, reducing angst over a Brexit deadlock. There was a variety of data releases last week from the UK and the Eurozone; the UK continued to show a 44-year low in unemployment in February while wages are at a decade high thanks to an upward revision to January’s data. The picture in Europe, as we have mentioned previously, is mixed; the ZEW economic sentiment survey moved in to optimist territory, hitting a 1-year high while opinion on the blocs' current economic conditions continued to decline.
The title of this week’s note is aimed at Russia, who have passed a bill to allow the country to create an autonomous internet. Known as “Runet” (Russian Internet), the bill will allow Russia to keep its domestic internet running even when disconnected from non-Russian root servers. The premise is that Russia believes their national security to be at stake and the bill is aimed at countering “aggressive character of the US strategy on national cybersecurity”. Over 300 lawmakers in the lower house voted for the bill, with 68 voting against the bill. To become law, the Federation Council, the upper house of Parliament, must approve the bill, which would come into effect on 1st November 2019. This move has been met by anti-isolation protests in Russian cities.
Chinese GDP data surprised last week as figures showed that the economy continues to grow by 6.4% year-on-year in the first quarter of 2019; although it is important to treat Chinese GDP data with caution. This figure seems particularly impressive when compared to G10 countries; a group of 10 advanced economies, which, over the same period, showed growth of c.1.7%. While annual growth in excess of 6% seems high, by historic standards, this is certainly not the case; looking back to as recently as 2006, Chinese GDP growth was in excess of 15%, one of the highest levels in the country's history. The ‘surprise’ however is that 6.4% beat the consensus forecast of 6.2% and was due to a jump in industrial production; jumping to 8.5% in March from 5.7% in February. This exceptional increase came from infrastructure projects and 5G production, a trend we expect to continue.
The World In A Week – UK to regulate internet
The UK government may be in swivel eyed bewilderment regarding Brexit, but last week proved it has not completely lost the plot. Last Monday it announced ambitious plans for the UK to be the global leader of internet regulation.
The publication, titled ‘Online Harms White Paper’, outlines how the government proposes to effect online regulation. The legislation is primarily directed at social media platforms, search engines, public discussion forums, online messaging services and file-hosting sites.
What is wrong?
Although the white paper acknowledges the ‘significant benefits’ of the internet it also acknowledges there is manipulation and illegal / unacceptable online content too. For example, social media groups themselves have been discovered manipulating content according to their interests, terrorist groups and gangs have been spreading propaganda and there are concerns for some users’ psychological well-being too, especially children.
Why is the UK government championing this effort?
In terms of investment in technology the UK is a global leader - it is top in Europe (more capital investment in tech than Germany, France and Sweden combined). The UK therefore has a vested interest in this sector’s future and it wants to get the online regulatory framework right. The white paper states ‘The UK’s future prosperity will depend heavily on having a vibrant technology sector. Innovation and safety online are not mutually exclusive… this White Paper will build a firmer foundation for this vital sector.’
What are the main proposals?
There will be a statutory ‘duty of care’ to make online providers take responsibility for the safety of their users and there will also be an independent regulator to enforce compliance.
The independent regulator will have a ‘suite of powers’ at its disposal such as ‘substantial’ fines and the ability to impose personal liability on senior management. It will also be able to require online providers to produce Annual Transparency Reports outlining the existence of harmful content on their platforms and for them to explain what measures they are taking to address it. These reports will also be made public. The regulator will also have the powers to require any additional information it needs - including the use of algorithms for selecting the content that appears in front of users.
How effective will this be?
It’s likely to be effective in the UK as the proposals are seemingly robust and will apply to all online providers including the largest and most influential. To regulate the global online giants though there would have to be meaningful international collaboration too. This will require the same international standards, the same international penalties and likely an international overseer too. This will be complicated and so it might be some way off but, given their efforts, the UK government is likely to be the harbinger that brings it about.
Being proportionate is the key to success with this though. Although regulation is likely needed to address any serious issues (by users or providers alike) it must not detract from the right to free speech nor interfere with the requirements/enjoyments online users have. As long as the approach is both permissive and protective then this could be a welcome development.
The World In A Week - Synchronised Slowdown
Markets had a positive week with Global Equities as measured by MSCI ACWI, returning +2.26%. Europe Ex-UK Equities outpaced US Equities +2.65% vs +2.22%, slightly reversing the trend that has prevailed since the financial crisis. UK Equities, as measured by the FTSE All Share returned +2.65% and Emerging Markets as measured by MSCI EM advanced by +2.73%. Each of the Equity returns listed above are in GBP and were slightly aided by Sterling’s underperformance against major global currencies over the course of the last week.
Fixed Income, as measured by the Barclays Global Aggregate Index returned -0.33% over the last week. High Yield Bonds outperformed Global Treasuries +0.67% vs -0.54%.
Amid the relatively buoyant markets, increased concerns were voiced over the past week about the robustness of global economic growth. Economic datapoints and sentiment indicators have been deteriorating since the latter part of last year. This prompted the Managing Director of the International Monetary Fund to warn of a “synchronised slowdown” in global growth, as the IMF cut its growth forecast for many major economies. Italy is now in recession, and the US is cooling off as the impact of Donald Trump’s tax cuts begin to weaken.
Perhaps most shocking of the datapoints released last week were the numbers relating to German manufacturing data. In volume terms, orders were down -8.2% year-on-year. Foreign orders were down -12.6%, with orders from other Eurozone countries down -13.8% and orders from the rest of the world off -11.6%. The German manufacturing sector is now likely to be in recession, with big implications for employment, labour income and broader GDP
Emma Clarke PAM Top 40 Under 40
Emma Clarke, our Head of Fund Research has been selected by PAM Insight, the leading wealth management information service as one of its top 40 under 40 investment professionals for 2019. Emma is only one of four women to have been selected twice. Now in its 10th year, the 2018 PAM Top 40 under 40 initiatives recognises, introduces and promotes the rising stars of the private client wealth management world in the UK and UK Crown Dependencies.
The final list was drawn up based upon the qualities and achievements of the individuals, the reputation and performance of the company that nominees work for .as well as feedback from senior executives
Executive Chairman, Simon Goldthorpe said: "We are delighted for Emma. Please join me in congratulating her on being selected for the second time for PAM’s Top 40 under 40 list. This is a magnificent achievement and Emma’s fourth award since she joined Beaufort Investment.”
The World In A Week - Please sir, can we have some more
Time? The latest Twist in the Brexit tale saw control being given to the members of parliament who embarked upon a series of eight indicative votes on what form Brexit should take. It came as no surprise that all were rejected. There is no apparent appetite for a ‘no-deal’ Brexit, but the lack of an actual deal means we cannot rule out the possibility entirely. Which leaves us with the Dickensian prospect of the UK tactically asking for more time and hopefully securing an extension beyond 12th April.
This involves a second day of indicative votes, which are being held today, to find an alternative Brexit plan. If we have a situation where a new plan achieves consensus, it then must go to the Government for Theresa May to accept the plan. An approval granted here, and a possible extension seems likely. However, if an agreement cannot be reached, the future becomes very uncertain and a further delay could involve the UK taking part in the EU Parliamentary elections in May.
On a slightly lighter note, Nathalie Loiseau, the French minister for Europe, gained notoriety last week by displaying an unusual sense of humour for both a politician and for someone who is French. It caught the world’s media off guard and before you could blink it became that new phenomenon fake news.
Apparently, Ms Loiseau has a cat who she has topically named Brexit. Why? Because said cat will continuously meow to be let out, but when the door is opened for it to leave, the cat just sits there, refusing to go. Of course, Ms Loiseau does not have a cat. It was a clever metaphor at the expense of the British.
Perhaps rather than a door, Brexit the cat would prefer a flap, something where it can come and go as it pleases. But our biggest concern is the lack of interest the stock market is showing to the possibility of a no-deal being accidently affected. At some stage our politicians will have to agree on something or risk running into the very thing they are trying to avoid.
The World In A Week - Interminable tedium
The title ‘World in a Week’ is a clear reference to Brexit. Last week, Prime Minister May, on her third attempt to push through a deal, failed, again. This time, on a technicality brought by speaker of the House of Commons, John Bercow, who actioned a ruling from 1604, which prevented government from bringing back the Withdrawal Agreement for a vote, as no meaningful changes had been made. Prime Minister May had little time to lick her wounds and quickly petitioned the European Council for an extension to the Brexit deadline, which was granted, unconditionally, to 12th April. The deadline will be extended to the 22nd May if a deal is passed beforehand. May will now face a long extension or, a no-deal Brexit and akin to a dreadful soap opera, we must watch the next episode.
Whilst in the US, the Federal Reserve met to decide if they should increase interest rates. The US equity market has performed strongly in 2019, which signals economic strength however, GDP data confirmed that growth was in fact weaker than expected at 2.1%; below the 2.3% which was forecast. This downgrade in expectations meant that the US central bank did not increase rates and indicated that they were unlikely to increase interest rates for the remainder of 2019. US equity markets rallied initially as easier monetary policy is usually positive for stock prices; although subsequently, markets fell, as investors became increasingly wary of the Federal Reserve's cautious economic predictions.
Back in the UK, the Bank of England met, also to discuss increasing interest rates. The Monetary Policy Committee, unsurprisingly, given the backdrop of the Brexit impasse, unanimously voted to keep rates unchanged at 0.75%. Despite the stifling effect that Brexit appears to have had on the UK economy, economic growth has been stronger than expected in the last few months, unemployment is at the lowest since the mid-1970's and wage growth accelerating at the fastest pace in a decade – a shining beacon of hope perhaps?
The week ahead is likely to be consumed with the ongoing Brexit saga; which means the UK equity market and Sterling could experience marked volatility. What remains to be seen is if May will be a leading lady in further negotiations or, if her role will shrink to that of bit part.
The World In A Week - US budget: A Curious Direction
Last Monday, the US government released its budget proposal for 2020, entitled ‘A budget for a better America’. It highlights the key priorities for the executive but, just like any budgetary plan, there are winners and losers and it’s clear in this case who those two groups are: Defence is the clear winner and the Medicare and Medicaid health programmes are the clear losers.
The US administration is proposing to invest a staggering $7.7 trillion into defence between 2020 and 2029 inclusive. This exceeds the entire budget deficit over this period which is $7.5 trillion. Another way of putting this is that the entire US budget deficit is tantamount to total US defence spending. The defence proposal includes a continued systematic modernisation of the US armed forces and their equipment as well as the creation of the new US Space Force (USSF) which will become the sixth branch of the US armed forces. It also includes substantial improvements to national cyber security systems too. If approved, it is likely that this investment will prove beneficial for the equity prices of US defence companies and their affiliates.
How is the extra defence expenditure to be funded? Essentially, it will be through non-defence expenditure cuts, US increased borrowing and a projection of sustained GDP growth. All three are controversial.
Non-defence expenditure cuts are projected to total $2.1 trillion over the next 10 years. The majority of this burden falls on Medicare (health care for the elderly) and Medicaid (health care for low-income groups). To a lesser extent other department budgets are to be cut too, including education, general services administration and various independent agencies. Some might say such severe cuts, especially to the Medicare and Medicaid programmes, is unfair and misplaced.
The defence expenditure is expected to be funded by growing tax receipts from a continuously strong US economy over the next ten years. According to the budget proposal, real GDP is projected to grow continuously by about 3% over this period. Most economists would agree this is an incredible assumption and unlikely to be sufficient to fund the defence spending as forecast.
Even if we accept these unrealistic growth projections, the Federal debt is still expected to increase by $ 7.5 trillion over this period (from $24 trillion to $31.5 trillion). We can therefore expect a great deal of Treasury issuance to occur and this will be unwelcome for US Treasury investors.
Congress, however, is unlikely to pass this budget as the proposed cuts to healthcare are likely to prove intolerable to Democrats. It is somewhat puzzling as to why this budget contains the proposals it does.
So what’s the process now? Congress has until June 30th to send their proposed Appropriation Bills to the President. From here it has ten days to respond. Appropriation Bills must be agreed and passed before September 30th 2019 or no new budget for 2020 will be adopted and the existing budget will be re-applied.
The World In A Week - Scenes reminiscent of a 2011 policy error
Having maintained a strong run since the start of the New Year, global markets paused for breath this week, with the MSCI All Country World Index falling back -0.56% from the perspective of a Sterling-based investor. The FTSE All Share fell -0.19%, while the USA underperformed European markets for a change -1.04% vs -0.77%, this is counter to the longer-term trend of US outperformance.
Emerging Markets were the bright spot, rising +0.23%, driven by the Chinese stock market, which rose +1.05%. Fixed Income performed as anticipated in a risk-off environment, with the Barclays Global Aggregate Index rising +0.65% when hedged back to Sterling. This was predominately driven by government debt. The Pound Sterling fell against all major global currencies over the course of the week, primarily driven by Brexit-related worries.
Last week’s big macroeconomic event was the European Central Bank’s (ECB) decision, by Mario Draghi, to shift monetary policy movements into reverse. A move that was triggered by the steep drop in projections for the Eurozone’s GDP growth for 2019, from +1.7% to +1.1%. The monetary loosening was evidenced by the increased volume of cheap loans offered to European banks, as well as limiting the likelihood of an interest rate rise in the future.
This move went further than most economists anticipated. Despite the renewed source of cheap funding on offer, the shares of European banks were hit hard with the EuroStoxx Bank Index falling -5% on the day in Euros. It appears that the ECB tightening policy was too bold for some and has since slowed the European economy a little too much.
The state of the European economy, now exacerbated by the actions of the ECB, is not too different to the situation in 2011. When President of the ECB Jean-Claude Trichet over-reacted to accelerating inflation and raised interest rates. A disastrous policy error that drove the Eurozone back into recession and contributed to 10 years of lost growth.
While the optimists amongst hope that the current slowdown will not be as deep or prolonged as the one in 2011, the Eurozone economy is heavily dependent on exports and suffers disproportionally from the risks posed by Brexit and the US-China trade dispute. Mario Draghi would do well to revisit the errors of his predecessor.
The World In A Week - Groundhog Day. Again.
It was another week that Phil Connors would have been familiar with, being the reluctant hero portrayed by Bill Murray in Groundhog Day and ironically the title of our Monday update five weeks ago.
We all recognise the merry-go-round of geopolitical risks that currently dog the markets and last week we got another episode of kicking the can down the road. If there is one certainty that has evolved during the recovery from the Global Financial Crisis, it is that if a decision can be delayed, it will be.
We had the US and China negotiating the current trade tariffs with the decision being to delay the increase in trade taxes until “further notice.” It is increasingly looking like the US/EU trade settlement, which was a continual series of delays with no new tariffs being implemented.
The can then travelled east to North Korea, where the summit between Donald Trump and Kim Jong-Un also inevitably ended with no progress being made. However, if you want the ultimate in no progress, you do not have to look far from home, with the vote on exiting the EU being deferred until 12th March. The newest version of indecision comes in the form of a possible extension to Article 50, which decides when we must leave the EU.
So nothing new to report, just an incremental move to delay decisions by the world’s politicians. The opposite can be said about the world’s central banks though. Since the beginning of the year we have seen a mea culpa in the wake of the December market meltdown, led by the Federal Reserve and followed up by the majority of the main central banks. The policy of tightening has been dramatically reversed and we now have an environment that sees central banks playing the role of guardian for investors once again; providing a safety net in the form of liquidity and an easier monetary policy.
After almost ten years since the end of the Global Financial Crisis, the perception of the world economic backdrop is looking a little more fragile. We should expect a continuation of economic cycles that have been a feature of markets since they were created, booms and busts, however the current boom has been much more subdued and more elongated than previous recoveries. As such, it is not inconceivable that the rally continues for some time.
The World In A Week - All By Myself
We have seen an uptick in volatility. Hostilities between the US and China show no signs of abating. The US Federal Reserve minutes indicate that it is unlikely there will be rate moves of any kind for some time and, the UK have no leader, following the tearful resignation of Prime Minister, Theresa May, on Friday. It would be an understatement to say that last week was anything less than eventful with the Bank Holiday weekend in the UK providing some welcome respite for all.
On Friday, Theresa May resigned as the Prime Minister after failing to deliver her Brexit deal in her 3-year tenure. Mrs May’s departure will now lead to a chaotic Conservative race, where staunch ‘no-deal’ Boris Johnson is the clear favourite to succeed her; a new Prime Minister will be in situ by the end of July. Further compounding May’s sadness was the Conservatives defeat in the European Elections, which were held in the UK last Thursday. It was expected that the results would be disastrous for the Conservatives and they did not disappoint; Nigel Farage Brexit Party secured the majority vote of c.31% followed by the Liberal Democrats and Labour with c.20% and c.14% respectively. Conservatives limped in to 5th, behind the Green Party, with c.9% of votes. The UK, politically, will remain in an uncomfortable limbo.
Turning to trade wars, the question is; who is really winning? There is only one measure that shows if Trump is ‘winning’ and that is the bilateral trade balance, and while the global superpower that is the US is still lagging by a huge margin, to March this year, the trade deficit has narrowed. While all equity markets suffered last year, Chinese equity markets tumbled by fourfold that of the S&P 500 in 2018 by more than 25%, this had a knock-on effect to the Chinese economy, which slowed more notably than that of the US. However, it’s not all bad news for China; import tariffs imposed by Trump do not affect the Chinese consumer, as many are a tax on industrial inputs and not end-use products, whereas the opposite is true for the US. The US are also missing out on investment from China with foreign direct investment slumping by more than 80% between 2017 and 2018; in the US, investment in China fell marginally by c.7.5%. We will call this a draw.
One thing that is for certain; is that markets do not like uncertainty and while there is political limbo in the UK, UK equity markets will continue to be hindered and uncertainty over trade wars is likely to be more costly than trade tariffs themselves.