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Episode 7: Upcoming UK election and the US/China trade deal

Episode 7 - Part 1

The upcoming UK election’s impact on the British pound

Published on: December 10th, 2019 • Duration: 6 minutes

This week, we discuss how there may be more room to run for the Pound with the upcoming elections and what to look for in Costco’s upcoming earnings report. We also review the Non-Farm payroll numbers from the previous episode.

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  • [00:00:04] Welcome to Before and After powered by Refinitiv, I am your host, Jamie Macdonald. On this episode our before segments will focus on the upcoming UK election and what it means for the global markets. We will also look at big box retailer Costco's earnings announcements and discuss what cyber sales mean for them. In the after, U.S. payrolls dazzled and we will talk about the impact of that in closing out the year and for moving ahead in 2020. Look out for the arrow, here comes the before portion. 

    [00:00:37] Hobbes, Locke, John Stuart Mill, up to Bertrand Russell; all laudable English philosophers. But none of them was able to get to the core of the issue, like the philosophical tandem of Jones and Strummer when they posited, "If I go, there will be trouble. If I stay, it will be double". Brexit feels like we have been discussing it since the height of The Clash's popularity with this week's upcoming UK election. Perhaps we are closer to some sort of resolution. PM Boris Johnson has summoned the electorate in an attempt to select a government for the third time in four years. And we want to look at what the financial markets have to gain or lose from the results. This show has no preference on who wins. We make no value judgments nor see either as good or bad. We just want to make wise choices with our investments. The vote is certainly another referendum on Brexit and the Brexit negotiations, which have been and will continue to be one of the main drivers of asset prices. And as the pound has been the clearest cut and most telling asset mover based on Brexit and election news, it's the pound we'll focus on .  When it looked like a Brexit deal was in the pipeline, the pound went from 1.22 to 1.30 and then we hit this impasse and as a result, we have this upcoming election. The latest polls have the conservatives with Johnson retaining PM at 43%, a comfortable margin over Corbin's Labor Party, which is polling at 32%. With the Conservatives polling strong, we can make assumptions on sterling based on previous moves. Markets are pricing in the expectation that the Brexit deal gets done on the thirty first of January. This implies that the conservatives are probably going to win with a majority and that would imply that there is more upside in sterling. It's moved from 1.22 to 1.30 on the expectation of the deal, but the deal is not yet done. It could probably move to 1.35 or 1.40. Pre-Brexit referendum, we can see Sterling was in the high 1.40s range. So if it moves to 1.40 very rapidly between now and through the December 12th election, then that could have quite a positive impact on global risk assets and on European equities, particularly the DAX. The UK's benchmark index, the FTSE100, generally underperforms when the pound is strong because it earns the majority of its income in overseas markets. Therefore, the DAX is the reflation index to watch. Look for the DAX to outperform the FTSE, if the conservatives are able to turn their lead in the polls to an outright majority in the House of Commons. 

    [00:03:21] When Costco opened in China earlier this year, it evoked US Black Fridays of yore. The American retailer, with a cult like following, had Chinese shoppers waiting for three hours from the entrance of the parking lot to the front doors. Thanks to a partnership with Alibaba, costco has already had an online presence in China for five years. But if the mayhem surrounding the Shanghai store's grand opening are any indication, Costco could have major growth potential through Chinese brick and mortar. Costco is the rare old school retailer that evokes such loyalty that many prefer to go to a store than buying online. Over the last five years, Costco stock is up 110%, outperforming the S&P 500, which itself is up 51%, and bucking the negative flows crushing other brick and mortar retailers. We cannot question this real life strategy, but now is the time for Costco to show strides in cyber sales. The retail sector shined with 20 percent year on year growth in online purchases this Black Friday, and a failure to keep pace by Costco could put their short term stock gains in jeopardy. Should same store sales and online figures come in weaker, we could see some profit taking on Costco, which is up an enormous 43% year to date. Costco stock price needs to maintain above the 281 level. That was the failed July top and then that level became support in the October sell-off. 

    [00:04:52] U.S. non-farm payrolls announced with authority, smashing the 180K estimate and arriving at 266K.  And last month's weak payroll number was revised upward by almost 30K more jobs. On the news, the S&P popped 50 basis points; solid, but not euphoric. The 10 year bond yields moved six basis points higher;  a more convincing move. With the Fed now content to sit on their hands, the markets seem happy with the 2019 recession that never was and are perhaps optimistic that the recession of 2020 will never be. For equities at least, we are, as we have stated before, in a stretch where good news is bullish and bad news is bullish as well, it's all bullish. Let's pay attention to how yields close out the year and if the US 10 years take out the 2% level. There you have it. UK election, Costco and U.S. non-farm payrolls all inside one episode of Before and After powered by Refinitiv. Thank you for joining us and we'll see you next episode. 

Episode 7 - Part 2

US & China's rapidly approaching trade deal deadline 

Published on: December 13th, 2019 • Duration: 8 minutes

In this episode we speculate on how markets may react to the US-China negotiations over the next few weeks and months as the original deadline set for a deal is quickly approaching. We also review the results from the recent UK elections and how it’s affected the Pound.

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  • [00:00:04] Welcome to Before and After powered by Refinitiv, I am your host, Jamie McDonald. The after segment in this episode looks at the immediate reaction to the UK election. Our before segment deals with the upcoming deadline for a trade deal between the US and China. Perhaps deadline is too strong a word, suggested date is perhaps more appropriate as long as the markets are happy. Let's look closer in a deep dove before segment. 

    [00:00:32] The looming deadline for a trade deal between the United States and China has been the dominant geopolitical theme for the last two years. And as the December 15 deadline for an agreement approaches, the markets deal with the specter of a new round of 15 percent tariffs on 160 billion dollars worth of Chinese goods. Negotiators have not reached a Phase 1 deal, but it could be struck at any moment (or not). And so we aren't concerned with the instant reaction in this case. But instead, we are looking at what could transpire over the coming weeks and months and what the markets and specific sectors will do given different outcomes. Most analysts believe the US plans to delay any additional tariffs while a deal is being discussed. President Trump threw markets into a momentary state of chaos last week when he suggested he has no timeline and perhaps a deal. Best wait until after the election. It's not the first time he has invoked a willingness to butt heads with China on trade as far back as June 2016. During the campaign, Trump laid out plans to counter unfair Chinese trade practices, saying China's entrance into the WTO enabled the greatest jobs theft in history. On March the 8th, 2018, he ordered the imposition of tariffs on all imported washing machines and solar panels, not just Chinese, all of them. One month later, he tacked on a whopping 25 percent tariff on steel imports and a 10 percent tariff on aluminum. Again, not China specific. China instantly retaliated with a 25 percent tariff on 128 U.S. products. Back and forth it continues to go. We now have 400 billion in tariffs on Chinese goods and over 150 billion on U.S. products. Then earlier this year, a glimmer of sanity from both sides. Trump and Xi expressed a willingness to resume talks and the market showed its willingness to believe in hope. Then protests in Hong Kong explode and the U.S. criticism of China's handling of the situation certainly has complicated the deal. Just ask the NBA how touchy the Chinese government can be on the mix of politics and business. So here we are, dueling tariffs, political criticism, huge gaps in negotiation positions, big world egos and a looming deadline. It all spells the end, no? Hold on. We didn't discuss Trump and Xi's shared obsession, market returns. And can you blame them? Who doesn't love market returns? We certainly do. We also have noticed that every time the market gets hammered, a PR love letter gets issued espousing commitment and progress towards an everlasting trade relationship. And with the S&P right around all time highs, Trump let loose with this on December 3rd. "I have no deadline. No. In some ways, I think it's better to wait until after the election with China. I'll tell you in some ways, I like the idea of waiting until after the election for the China deal. But they want to make a deal now and we'll see whether or not the deal is going to be right. It's gotta be right". The embodiment of the art of the deal. Or maybe with strong indicators like job numbers, Trump is content to sit back and let the US markets roll. Either way, we want to be prepared. The most likely scenario seems to be a last minute deal to keep the old tariffs, delay the new tariffs and agree to disagree for now. This makes sense as both sides want to appear that they are working hard on a resolution but have no desire to address the core issues of IP theft, currency manipulation, and China's issues with US involvement in Pan Asian politics. Given that this has happened before, we know that a delay is fine and that broadly speaking, the impacts so far are perhaps not as bad as assumed. The larger fear for market participants has always been the escalation potential, and this option diminishes that prospect. It does not appear that the new tariffs will be applied even if there is no deal in place. The consensus is the wheels would fall off and the markets would break down, should that happen. This belies a belief that all the Q3/Q4 gains are a result of the current resolution. Does that then mean that if the trade wars hadn't happened, the gains would be even greater? It's entirely possible that if the deadline were to pass, we'd get a short term correction. But a pullback for the year and rally or a full trend reversal is the key question. This scenario also comes with the expectation that this would result in a complete breakdown of any progress made by both sides. As China has agreed to buy more agriculture, one area which could see instant pain would be agricultural commodities such as soybeans, which have rallied 13 percent off trade war fear lows. You could expect those gains to be instantly tested. Lastly, and least likely at this stage, something no one is expecting, a comprehensive deal is announced. Euphoric risk on would ensue. But please don't hold your breath. Seriously. A year has passed and there is no trade deal, no clarity, and no resolution has emerged. And still the world economy has not been derailed. With that in mind, expect a much higher degree of investor resilience on any trade news disappointment this time around. 

    [00:06:06] As we go live with this show, the United Kingdom is well into the counting process for its general election. The third one in four years. Although the pre-election polls were implying a Conservative Party majority, the gap had narrowed and the margin of error on those polls include the possibility of another hung parliament. By now, there may already be a good indication on the final result. And as we recorded this before the polls were closed, we're going to have to run with a few "what if" scenarios here. Exit polls will be released shortly after the voting has fully closed. They have proved to be a good indicator as in 2017 when they accurately predicted the results as a hung parliament. When all the pre-election polls had expected an outright conservative majority. If the British pound is attempting to rally further as we go live, then those exit polls and the first returns of the election itself are probably implying that the Conservatives have won a working majority. In fact, if it's clear cut, then a winner may be announced early on the morning of the 13th before the full counting has finished because just a few marginal and swing seats will actually decide the winner. But if the exit polls were close and there's no clear pattern from the earlier seats to have reported results, then the counting could push on well into the UK morning. The pound should be sagging back below 130 in this instance and maybe even back towards 126. But not to the lows, because a hung parliament just means yet more delays. Remember, there are 650 seats up for grabs. If a party gets three hundred and twenty six of them, then they're home and dry. For a fuller rundown, we'll have a deeper dove in next week's edition of Refinitiv's The Big Conversation. I'm Jamie McDonald. Thank you for watching. Before and after. Powered by Refinitiv. See you next episode.