May was “a game-changing month for global markets” and suggests that further volatility could be on the horizon, Invesco’s chief global market strategist argues.
While the opening quarter of 2019 was a relatively pleasant one as markets enjoyed a strong bull run when risks such as trade tensions, Brexit and tightening monetary policy receded, things were very different by the end of May.
FE Analytics shows that the FTSE All Share fell 3 per cent during May and the MSCI World was down 5.7 per cent, with the US market – the biggest in the index – shedding around 6.5 per cent. The MSCI Emerging Markets index, meanwhile, lost 6.6 per cent.
Performance of indices during May (in local currencies)
Source: FE Analytics
Kristina Hooper, chief global market strategist at Invesco, said: “It’s the beginning of June and I haven’t been this happy to welcome a new month in a very long time. I suspect many investors and market watchers have that same feeling.
“May was brutal for markets – but it was more than just that. The month of May was, in my opinion, a game-changer. So much happened that no one expected to happen.”
Hooper highlighted four events during the month that she believes investors need to be aware of and the first is the breaking down of the trade talks between the US and China.
The US-China trade war had been a source of major market concern for much of 2018 but this lifted when the two countries entered into talks in a bid to resolve the tensions. However, in early May US president Donald Trump announced that tariffs on $200bn of Chinese goods would be increased from 10 per cent to 25 per cent; China then retaliated by saying it will raise tariffs on $60bn of US goods.
“This is not a minor spat. It seems that the US may have finally pushed China too far and it’s unclear whether China will even return to the bargaining table under current circumstances,” Hooper said.
“A recent editorial in the Chinese newspaper People’s Daily warned the US that it shouldn’t underestimate China’s ability to fight back in the trade war. The editorial included an ominous quote rarely used in the paper, which can be loosely translated as ‘don’t say I didn’t warn you’.
“This specific phrase has had particular diplomatic meaning. It was used in 1962 before China went to war with India and again in 1979 when conflict broke out between China and Vietnam. This is obviously very different rhetoric than we heard just a month ago and suggests the relationship between the US and China has deteriorated beyond just trade.”
Chronology of recent US-China trade tensions
Source: AFP - Agence France Presse
The second event last month that the strategist believes was very important was the resignation of Theresa May as UK prime minister. Hooper described May as “a notoriously stubborn, resilient woman”, noting that she was the longest-serving Home Secretary in the hundreds of years of history for the challenging job.
“Her resignation opens up a Pandora’s box of uncertainty about what will happen in the UK between now and 31 October,” she added.
Last month also saw North Korea test-fire short-range missiles for the first time since late 2017, which US national security adviser John Bolton argued would be a violation of United Nations resolutions.
“The country is clearly provoking the US; North Korea seems interested in testing alliances between countries such as the US and Japan, given that short-range missiles pose a very significant threat to Japan, and Japan made that clear during Trump’s recent visit,” Hooper said.
She also highlighted that US acting secretary of defence Patrick Shanahan recently said that North Korea “remains an extraordinary threat” and is nearing “a point where it could credibly strike regional allies, US territory, and our forward-deployed forces”.
The final event that the Invesco chief global market strategist thinks investors need to be aware of is the US’ move to impose tariffs on goods imported from Mexico. These are scheduled to begin on 10 June, starting at a level of 10 per cent and rising to 25 per cent in October unless Mexico improves the enforcement of immigration policies.
“In my view, this is a dramatic and frightening decision that expands the use of tariffs beyond trade policy. I have been clear in my view that tariffs are a terrible tool to use in a trade war,” Hooper added.
“Tariffs are a far more horrible tool to use to achieve policy goals unrelated to trade. It suggests that ‘all bets are off’ in terms of what the administration will use tariffs for, leaving companies with an enormous amount of trade policy uncertainty going forward.”
While many of these events were unexpected by markets, the strategist argued that “there may be no turning back” from their consequences now they have taken place.
Over the months ahead, she said investors will need to keep their eyes on issues such as: US-China relations (which she believes are deteriorating beyond just trade); Brexit (“the situation in the UK has become far more unpredictable in the wake of May’s resignation”); geopolitical risk in the US (aside from tariffs, she noted the rise of left-wing contenders in the Democratic Party primary race and “the spectre of a possible impeachment proceeding”); and tariff overload (given that global manufacturing data is warning of a contraction in activity).
Against this backdrop, Hooper pointed out that markets appear to be nervous – the 10-year US Treasury yield briefly dipped below 2.10 per cent on 3 June – but she is maintaining a relatively sanguine outlook over the longer term.
“At this juncture, I still believe a recession is unlikely, given the ability of the Federal Reserve to respond to the current situation – as well as China’s commitment to continue to stimulate its economy fiscally and monetarily,” she concluded.
“I expect stocks will be volatile but will still outperform in this low-rate, benign inflation environment. In this environment, sell-offs can represent attractive buying opportunities for disciplined investors.”