US and China dominate EU trade
Global trade was a top concern for markets in March amid fears US tariffs on Chinese goods could spark a full-blown trade war. The chart below shows that in 2017 a third of EU trade in goods was with the US (16.9%) and China (15.3%). It was a very different story back in 2000, when the US accounted for nearly 25% and China for just 5.5%. Machinery and transport equipment, other manufactured goods, and chemicals were the main categories of product traded by the EU. Total EU exports of goods in 2017 were worth €5.23 trillion although 64% of this was intra-EU trade, i.e. goods destined for another EU member state.
The UK’s role is an interesting one, given that the UK is leaving the EU next year. The UK was one of only two EU members (the other being Cyprus) to export more goods to countries outside the EU than inside. 48% of UK exports went to other EU countries in 2017. The US was the UK’s biggest single partner in terms of exports, followed by Germany and France. Meanwhile, Germany was the main country of origin for goods imports into the UK, followed by the US and China.
Source: Eurostat, 26 March 2018
Trump tariffs and the trade deficit with China
President Trump has made reducing the trade imbalance with China a priority, having attributed unfair trade practices as a major factor in the loss of US manufacturing jobs. The implementation of tariffs is viewed as a tool to address this deficit, which was $375 billion in 2017.
As the chart below illustrates, this is significant relative to the size of bilateral trade deficits with other trading partners - although economists would point out that a country’s trade balance is impacted by a range of factors and a deficit in itself is not necessarily good or bad.
The trade balance is the section of a country’s current account which measures income from exports, and the costs of imports, of goods and services; the US imports more goods and services from China than it exports to China, resulting in a deficit. With mid-term elections scheduled for November, there is an incentive for the president to deliver on campaign pledges.
Facebook faces the music
Facebook shares have declined by over -16.5% since the start of February, taking its return to -15.5% year-to-date (3 April). This from a company that returned +57% last year compared to the +20% return of the MSCI World index.
So what has happened? In short, the market is waking up to the systemic importance of what used to be a novelty company.
In the middle of 2017, Facebook reported it had reached the 2 billion user landmark. Chief Product Officer Chris Cox said in response: “We’re getting to a size where it’s worth really taking a careful look at all the things that we can do to make social media the most positive force for good possible.”
Since the start of 2018, governments across the world have realised they can’t leave a company with the size and influence of Facebook to regulate itself. This will have material cost implications for Facebook and other internet giants.
According to Simon Webber, Portfolio Manager on the Global and International Equities team, this needn’t be a bad thing. “We expect that regulation is going to catch up with Facebook, and as such, it must invest in its compliance systems and corporate responsibility. We are supportive of this increased investment to sustain longer-term growth. For now, Facebook retains its great barriers to entry, does not look expensive and is still growing earnings at 30% per annum.”
Source: Schroders and Bloomberg, 27 March 2018
Why central banks are becoming more hawkish
Looking that the chart below, it’s easy to see why central banks are moving towards less accommodative monetary policy. The fall in unemployment in major economies since 2010 is striking. With tight job markets comes upward pressure on wages and increased inflation expectations, which central banks are keen to tame.
Schroders’ economists forecast another three rate rises in the US in 2018, following the increase in March. They also expect the Bank of England to hike rates this year and the European Central Bank to bring quantitative easing to an end in September.
Fear and loathing in UK
For those trying to quantify the extent of pessimism towards the UK equity market the Bank of America Merrill Lynch’s latest monthly fund manager report has been well referenced of late. This chart is taken from page two of the bank’s March survey of global fund managers and illustrates what it describes as the “big short” towards UK equities. For those who read on, the extent of the negativity is underlined by news that 42% of respondents reported being underweight in UK equities last month.
This is a record “high” for the survey, surpassing the level of underweight positions seen in the wake of the global financial crisis. This state of affairs is also pretty entrenched; it is the fourth year in which global fund managers have been underweight the UK.
Mind the gap: US v Spain
As highlighted in the previous Charts of the Month, it seems the so-called peripheral European countries – Spain, Italy, Portugal and Greece – are undergoing a reversal of fortunes. Certainly if government bond markets are anything to go by.
While government yields in these countries are in decline, reducing the cost of debt financing, the chart below, Spain’s 30-year yield compared to the US, is particularly stark. The rising US yield reflects higher growth and inflation expectations following tax reform being passed in December, but the inverse move in Spain’s yield has been pronounced.
In January, Spain received its first investment grade rating since the financial crisis: an A from Fitch. With yields falling the Spanish treasury has sought to press home its advantage with a series of debt issues and is making material inroads into a substantial 2018 total capital raising target.
In February, it launched its first 30-year bond issue in two years, raising €6 billion at a yield of 2.726%, bringing the year-to-date total to €29 billion. Orders for the 30-year issue exceeded €25 billion, far above any previous single 30-year issue from Spain.
Partly, this reflects the global search for yield. German investors took up 20% of the 30-year issue, following a change in regulation, given the attractive pick-up in yield (carry) on offer relative to their domestic market.
Spain will hope the current positive mood continues with the treasury projecting a need for a further €126 billion to be raised via medium to long-term instruments in 2018.