Reflecting on May: Trade tensions return

following the breakdown of talks between the US and China, we take a look at why they failed, the chances of them being restarted and the impact on financial markets and the economy.

Reflecting on May

WHAT HAS HAPPENED?

With hopes reasonably high that the US and China were close to bringing an end to their ongoing trade spat, signs emerged at the beginning of the May of a potential breakdown in talks between the two countries. US President Donald Trump accused the Chinese government of attempting to renege on agreements that had been made, and threatened a significant increase in tariffs on Chinese goods imported to the US. The Chinese government denied Trump’s accusation but further discussions were unable to resolve their differences and the US raised tariffs on $200bn of Chinese goods from 10% to 25%, with the US President threatening to impose the same tariffs on a further $325bn of products should progress not be made towards a deal.

WHY?

Since President Trump took office in November 2016, he has committed to resolutely defending US economic and businesses interests, which he considers to be under threat from China. Trump in the past has accused China of the “greatest theft in the history of the world” and last year demanded that it act to reduce its trade deficit with the US, stop stealing US intellectual property, reduce tariffs on US goods and cease subsidising tech companies. The dispute weighed on the global economy and in turn stock markets in the second half of 2018, but progress in talks and a tariff ceasefire in December 2018 had seen equity markets bounce back at the beginning of this year.

The subsequent breakdown of negotiations in May were as a result of excessive US demands according to China. In addition to the lifting of tariffs on Chinese goods, tech giant Huawei was placed on a Commerce Department list of companies that American firms cannot do business with without official permission. US tech companies including Google have since stopped providing products and services to the Chinese smartphone maker. China has responded by, amongst other things, threatening to disrupt the supply of rare earths, a group of minerals used in a range of products from smartphones to wind turbines.

WHAT SHOULD YOU TAKE AWAY FROM IT?

The breakdown in negotiations resulted in declines in global equity markets. The MSCI World, a developed market index, fell by 6.1% in May, while the MSCI Emerging Markets Index lost 7.5% of its value over the course of the month. Concerns of a US recession as a result of the trade spat have increased and prompted a response from the Federal Reserve whose Chair Jerome Powell said this week that the central bank is closely monitoring the situation and could respond by cutting interest rates if necessary, with market derived expectations now pointing to a rate cut in the US by the end of September.

The next key event in this ongoing trade war is the G20 meeting in Osaka at which Donald Trump is expected to meet with his Chinese counterpart Xi Jinping. It may be overly optimistic to hope for a deal but a repeat of December 2018’s ceasefire would likely be positively received by stock markets.

While we continue to follow global macro and political events closely, it remains our opinion that such events are very difficult to predict and therefore we would reiterate the importance of diversification within portfolios. Exposure to a geographically diverse range of companies with exposures to different sectors and different economies can reduce the level of political risk within a portfolio of investments. At Killik & Co we take a global view on investments and provide recommendations on companies and / or funds that operate in a number of different regions around the world. To discuss these recommendations, or the geographic exposures within your portfolio, please contact your Investment Manager.