We have plunged headlong into 2019, leaving 2018 in the dust. But while we look forward to the new year it’s important to be mindful of Spanish philosopher George Santayana’s words: “Those who cannot remember the past are condemned to repeat it.”
Given the sad state of investment markets in 2018, many of us certainly have no wish to repeat the past year but remembering and understanding the past will enable us to better understand the months that lie ahead. Sometimes, however, the past doesn’t bear too much scrutiny as we ponder what new vexatious policy angle United States President Donald Trump will come up with next or reflect on the fact that global equity markets declined by over 11% in 2018.
Certainly, there is a link between what President Donald Trump is doing and what investment markets are doing. Increasingly, markets have recognised that we are in a process of transition, and the rise of Trump and other anti-liberal forces around the world reflects this shift. From an investment market perspective, transitions are never easy for us humans to understand in real time.
Just consider any large shift in a complex system, let’s take climate change as an example, where with every cold snap the naysayers are quick to point out how wrong the scientists are. The scientists in turn point to the difference between the weather and climate. In the same way, it is easy to get caught up in the good weather, bad weather days of a Trump presidency, and miss the shifts in the global geo-political climate, as well as the investment implications of those movements.
The single most important shift currently is the transition out of an extraordinary decade-long monetary policy stimulus. Not that long ago, in 2017, the world had
ultra-low interest rates and what was termed quantitative easing. Today, we are shifting towards higher interest rates (led by the United States) and quantitative tightening, again with the United States taking the lead. The United States Federal Reserve has been focused on positive domestic economic developments in determining its policy actions and certainly, in a world in which global US dollar liquidity has been in excess, we are shifting towards a situation where the Federal Reserve’s actions will cause a global liquidity shortage. This is coming at a time when regional economic growth in other markets is not as robust as in the US. With real money supply in a global context falling at this time, stresses may begin to emerge in financial markets. This in itself is cause for caution – even for policymakers.
The second transition we are witness to, which will shape the investment landscape for decades to come, is that of political and economic power between the US and China. Like it or not, the Chinese economy (by current projections) will double by 2030. This has profound implications for the global economy, and if the US is already feeling the heat from China’s global trade, how much more so will this be the case in the next decade? This, of course, speaks to the trade war that the US has embarked upon, in their (probably) vain attempt to put a moat around their current economic hegemony. Nonetheless, while the US may remain the centre of the global financial system as a result of the US dollar, it will be the Chinese who will increasingly become the core of the global trade system. Obviously, the US will be out to spoil that party.
This will likely mean that other countries and regions will be forced to choose sides, and the expectation is that trade tensions will escalate as such choices are made. Industries that are reliant on a global supply chain, such as technology, may be vulnerable to such disruptions. Therefore, we would caution against becoming too upbeat about future prospects, despite the re-rating which took place in the latter part of 2018.
With the mid-term elections in the US providing a swing to the Democrats in the House of Representatives, the implication is that Present Donald Trump’s domestic agenda will be unlikely to have much chance of success, and in the run-up to the 2020 Presidential elections he will clearly have to revert to a foreign policy focus to demonstrate political success. The current government shutdown over the Mexico wall funding is perhaps his way of trying to force his domestic agenda through. Whether this implies a more hard-line (nationalistic) approach or a softer (multilateral) tone would be difficult to say at this stage but given past experience it is likely we’ll see a hardball game at first before any concessions are made.
The confluence of these transitions means that we are, unfortunately, likely to see more of what we saw in 2018: some moderate upside with violent downside episodes. While the Federal Reserve will probably moderate its stricter policy as a result of the expected economic slowdown, it may not be of sufficient magnitude to save us from a very tricky path in 2019.
Undoubtedly this is not quite what we would have liked to see from the year ahead, but this outcome means that as investment managers we will have to be increasingly agile in our fund positioning in order to avoid excessive volatility.
Other articles in this issue of Global Perspectives
- Dust yourself off...
- Emerging market trends to watch
- Oil market sets up opportunity on the horizon