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Trump versus China: Will investors be the losers?

Anthony Fensom  |  11 Mar 2019Text size  Decrease  Increase  |  
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Market watchers wonder what will happen next time US President Donald Trump and President Xi Jinping meet

The US President's top adviser on Sunday dismissed concerns about the prospect of a US-China trade deal amid reports of pushback from Beijing.

Larry Kudlow told US media outlets he was "optimistic" a new trade pact between Trump and China's President Xi Jinping would be signed as early as March or April.

His comments follow reports that Chinese officials have scrapped a trip to Trump’s Mar-a-Lago resort in Florida where there could be a signing ceremony.

While negotiators are "working out some of the difficult final points," Kudlow said any deal has got to be good, it’s got to be fair and reciprocal, and it has got to be enforceable -- that’s an important point.”

The stock market wants a deal. US President Donald Trump says he wants a deal, too. But will a US-China trade pact deliver the boost investors hope for?

A lasting ceasfire

After a near year-long trade war between the world’s two largest economies, analysts suggest a lasting ceasefire could be near, with Chinese President Xi Jinping reportedly set to meet Trump for talks around 27 March.

The Republican president reportedly is seeking a much-needed diplomatic win to boost his prospects, particularly after the recent North Korean summit ended in stalemate.

China also appears ready to negotiate, due to concerns over the economic outlook.

The ruling communist party has flagged fiscal stimulus measures after cutting its official growth target for 2019 to between 6 per cent and 6.5 per cent, its slowest pace since 1990.

Chinese stocks have surged recently on optimism over the US trade talks, which saw the benchmark Shanghai Composite Index rise by around 20 per cent so far this year.

However, analysts at Renaissance Macro Research suggest the US benchmark S&P 500 index would have been at least 11 per cent higher without the trade row.

'The bottom will fall out of the market'

As Trump tells reporters he is “never afraid to walk from a deal” – including with China – and US trade hawks seek tough measures, there is no guarantee talks will proceed smoothly.

“The markets have been going up in anticipation of a deal being done, so a lot of it is already baked in,” says Morningstar’s head of equities research, Peter Warnes.

“But if a deal isn’t done, the bottom will fall out of the market. There’s a very good chance that before the end of this year, or even before the end of September, the markets will be below Christmas Eve levels”.

Warnes argues any deal would only be a brief ceasefire, while there are plenty of other concerns for investors.

“There’s no goodwill on either side and therefore whatever happens is only a temporary solution. There are also bigger fish to fry for investors than the trade situation, and that’s record corporate debt in the United States, falling earnings and stretched valuations,” he says.

“And what’s spooked the Fed? From auto-pilot to emergency settings, they can see something. They’re scared that tightening liquidity would tip the US economy straight into recession, but I think it’s going to happen anyway, regardless of what they do”.

Capital Economics’ group chief economist, Neil Shearing also believes a deal is already priced into most asset markets.

“More fundamentally, even if a deal between the US and China on trade is ultimately agreed, we don’t expect that a trade truce will now provide a substantial shot in the arm to the global economy,” he warns.

However, the London-based consultancy has projected that a “comprehensive deal” could boost Chinese stocks and the renminbi, along with other currencies such as the Australian dollar.

Government bond yields are seen falling or remaining low though, since “the trade war matters much more for stock markets” than the overall economic outlook.

When Trump meets Jinping

Nikko Asset Management’s senior portfolio manager, Robert Mann, says China has its own reasons for pursuing a deal.

“Some of what the US has asked for is unreasonable…but the word seems to be that the Chinese have been told to do a deal, so long as they don’t cross any red lines such as military capabilities or ideology, such as the way the Chinese economy is set up," says Singapore-based Mann.

He wonders what will happen when the two leaders eventually get into a room together.

"No one knows what will happen on the day. And while it looks like there will be a deal on trade, long-term issues such as China’s obtaining US technology probably won’t be resolved," he says.

Mann also suggests uncertainty will remain for both investors and companies, for instance, on where US companies should position factories.

“If it’s national security-related, you would build your new factory in the US But if it’s consumption-related, do you put it in China or elsewhere in Asia, such as in Vietnam, Thailand or Malaysia?” he says.

Part of the deal may include agreement on China’s currency, which Mann says could be positive for Asian equities.

Chinese stocks are also set for an international boost, with index provider MSCI planning to quadruple the weighting of Chinese mainland (A-shares) in its global benchmarks this year.

How investors should respond

For Australian investors, maintaining “optionality” with high cash levels and considering areas such as fixed income could be advisable in the circumstances, according to Morningstar’s Warnes.

“Whatever happens in China on the trade front, Australia will get caught up in the backwash. Because there’s no goodwill on either side, there’s no prospect of a long-lasting deal,” he says.

Nikko AM's Mann says he would currently be happier being positioned in China than the US.

"If any economy weakens this year it will probably be the US, since its fiscal stimulus is winding down, US equities appear expensive and the dollar may be set to weaken."

 

is a Morningstar contributor.

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