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Trade tightrope: Investors eye U.S.-China “mini” deal
Matt Miller
Political Economist
Steve Watson
Equity Portfolio Manager
Darrell Spence
Economist
Jody Jonsson
Equity Portfolio Manager

Market volatility cuts both ways, of course, with sharp swings up and down. We’ve seen no shortage of either in recent months as investor sentiment rose and fell with the slightest news of agreement or animosity in the U.S.-China trade dispute.


Global equity markets rallied on Friday’s announcement that the U.S. had agreed to suspend previously planned tariff increases on $250 billion of Chinese products. China also pledged to buy up to $50 billion of U.S. agricultural goods, among other terms. The so-called “mini” deal is the first positive sign after months of trade war escalation, but how significant is it really? Markets pulled back a bit this week as investors pondered that question.


“This is a de-escalation, so from that perspective it’s a step in a constructive direction,” says Capital Group political economist Matt Miller. “But it’s far from a resolution to the conflict. In my view, the U.S. and China will be wrangling over these issues for decades to come, and Friday’s announcement simply reflects the desire on both sides to relieve some near-term pressures.”


For the U.S. administration, the near-term pressure is the 2020 presidential election, Miller explains. And for China’s leadership, there are domestic crosscurrents at play, including China’s slowing economic growth, rising food prices and pro-democracy protests in Hong Kong.


“Both sides could use something they can call a ‘win’ right now,” Miller says. “It makes sense for a new equilibrium to be reached in the short term while the larger disagreements go unresolved. If this deal holds up — and that remains to be seen — both sides can claim victory in front of their domestic constituencies and perhaps put any longer term negotiations on a less dramatic footing.”


Perspectives on trade


With the long-running trade dispute dominating headlines for the better part of two years, Capital Ideas has featured a number of investment insights on the issue.


Below, Capital Group investment professionals offer their thoughts on several key questions, including whether trade disruptions could trigger a U.S. recession, how China is reacting to the trade war on the domestic front and whether multinational corporations can overcome growing trade-related headwinds.


Yes, market volatility is back, but it’s just returning to normal levels. Chart shows market volatility levels from 1991 to 2019 with a moderate spike upward during the past two years. Source: Refinitiv Datastream. Includes monthly data through 9/30/19 and latest data point as of 10/11/19.

Will a trade war push the U.S. economy into recession?


In a wide-ranging Q&A on the trade outlook for the U.S. economy, Capital Group economists Darrell Spence and Jared Franz note that market volatility may seem high these days, but it is just returning to historical averages. They also advance the view that the U.S. economy can handle a limited trade war, as long as there is no further escalation. If higher tariffs are eventually imposed by the U.S. and China retaliates, the risk of a recession rises substantially.


“It’s hard to know where the tipping point lies,” Spence says.


A view of China from the ground up


From the other side of the world, Hong Kong-based portfolio manager Steve Watson shares his thoughts on how Chinese consumers are living with the trade war. While China’s economy is slowing, the nation’s growing middle class continues to drive a powerful transition from a manufacturing and export-led economy toward a more balanced economy spearheaded by domestic consumer spending.


“When you observe China from L.A. or New York, it’s easy to imagine a country that is hunkered down, suffering from a prolonged trade war, but it certainly doesn’t feel that way in person,” Watson explains. “Life goes on and business keeps moving forward.”


Uncertainty over U.S.-China trade talks drives market volatility.  Chart shows the returns of the S&P 500 Index compared to China’s A-shares market during a period of trade-related volatility in 2018 and 2019. Sources: MSCI, RIMES, Standard & Poors. As of 10/11/19. Cumulative total returns are since the first China tariff announcement on 3/22/18, and shown in U.S. dollars. China A-shares represented by MSCI China A Onshore Index, a benchmark of Chinese equities largely traded by Chinese retail investors.

Why multinationals can survive trade conflicts


Multinational companies are at the epicenter of the trade war, but as portfolio manager Jody Jonsson argues, well-managed multinationals are also well positioned to navigate a difficult environment and come out stronger on the other side.


Smart companies will figure it out, she says. Their seasoned management teams have seen all types of trade environments — favorable and unfavorable — and they have the expertise, the resources and the sheer muscle to survive and even thrive in a trade war.


“For investors, I think it’s very important to avoid focusing too much on the noise surrounding trade and protectionism,” Jonsson says. “To the extent that these trade conflicts cause investors to shy away from multinational companies, paying too much attention to the rhetoric is a detriment to successful, long-term investing.”


Multinational companies have multiplied and outpaced the market. The number of companies in the FTSE Multinationals Index has grown from 427 companies in 1994 to 781 in 2019 – an increase of more than 80%. Chart shows the share price returns of the FTSE Multinational index consistently outpace those of domestic companies. Sources: Capital Group, Refinitiv Datastream. The FTSE Multinationals Index comprises companies which derive more than 30% of their revenue from outside their domestic region. Data as of 9/30/19.

Matt Miller is a political economist at Capital Group. He was formerly a senior advisor at McKinsey, a Washington Post columnist and author, host of public radio's "Left, Right & Center" program, and a Clinton White House aide. He has a law degree from Columbia and a bachelor's from Brown.

Steve Watson is an equity portfolio manager with 33 years of investment experience. Earlier in his career at Capital, he covered Asian property and transportation, as well as European transportation and utilities companies as an equity investment analyst. He has an MBA and an MA in French studies from New York University as well as a bachelor's in French from the University of Massachusetts.

Darrell Spence is an economist and research director with 27 years of investment experience, all with Capital. He earned a bachelor's degree in economics from Occidental College and is a CFA charterholder.

Jody Jonsson is an equity portfolio manager 31 with years of investment experience, 29 at Capital. She holds an MBA from Stanford and a bachelor's from Princeton. Jody is a CFA charter holder and a member of the CFA Institute.


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