Headlines have been focused on China and the US when it comes to trade wars but there could also be some benefits for emerging market investors, according to Heartwood Investment Management’s Jaisal Pastakia.
Trade war rhetoric from president Donald Trump has ramped up in recent months ahead of this week’s US mid-term elections, with fund manager Pastakia noting that this could have been an attempt to curry favour with his core support.
“I think on the trade side specifically you have to believe there is some sort of electioneering going on,” explained Pastakia, manager of the LF Heartwood Income Multi Asset fund.
Trade deficits with both China and Europe are at an all-time high, he said, noting that the president is leaning on this as a negative to the average US citizen.
It is one of many factors, along with a strong dollar and Federal Reserve interest rate hiking cycle, which have led to the MSCI Emerging Markets index losing 11 per cent so far this year in sterling terms.
Performance of index over YTD
Source: FE Analytics
One surprise for the manager however has been just how long these trade tensions have been going on for, adding that it has been more drawn out than he expected.
“This is an issue that first started to flare up around the summer: it is November and we are still talking about it,” he said.
Going forwards, Pastakia said the news flow is likely to be more fluid.
Looking at the chart more closely, the recent rise in the last few days of October were on the back of news that president Trump and Chinese president Xi Jinping had held talks.
“Reports are that the conversation was productive and that Trump has given instruction to people on his side to draft a proposal for a new trade agreement with China,” Pastakia said.
“Against a backdrop where emerging market equities have been weak, overnight Asia [markets] took that news very positively.”
Later this month Trump and Xi will meet face-to-face at the G20 meeting in Argentina – another potential for markets to react to either positive or negative rhetoric from the two sides.
Talks of a trade war have been having a noticeable impact domestically in China, the manager said, with business and consumer confidence dipping.
However, he said that trade is just one issue of a number that could likely see the US-China relationship brought under strain.
“There is a growing thought that tensions between China and the US on a raft of issues may persist for a number of years and there will be periods where it will emerge in the headlines and it doesn’t just have to be about trade, it could be about other areas such as defence,” he said.
But while the noise may be around the US, Pastakia noted that China has been busy working on other relationships closer to home.
“One of the things that we have been looking at is what China has been doing to respond,” he said. “On that basis China has been cutting import tariffs on goods imported from outside the US and we think they have been motivated to get involved in dialogue with some of their Asian partners.”
One relationship that has previously been frosty has been between China and the second-largest player in Asia: India.
“People don’t seem to spend a lot of time talking about it but issues with the US have perhaps caused that temperature to thaw somewhat,” he noted.
Additionally, there are proposals for a new trade agreement called the regional comprehensive economic partnership.
This would see the 10-member states of the Association of Southeast Asian Nations (ASEAN) agree a deal with six Asia-Pacific states including Japan, China and India.
“It is a trading block which, if signed, will include 16 countries that make up 40 per cent of global GDP,” Pastakia said. “It could potentially reduce tariffs on thousands of products which over the long term should have a positive impact on trade and growth.”
The manager of LF Heartwood Income Multi Asset added: “People are focusing on the US and China but there is other stuff going on which is picked up on much less and is causing Asian countries to come together and in some instances a thawing of relationships.”
So, should investors be worried? While he has not added to his emerging market weighting, he has also not cut his position either.
“External factors have weighed on emerging market equity performance such as strong dollar and geopolitical tensions and we would like to see those two factors abating before we would consider adding,” he said.
“But we haven’t cut either and the reason for that is when you look at the falls, valuations don’t look too bad.”
On some metrics, stocks are back to levels last seen in Jan 2016 and on an enterprise value-to-earnings before interest and tax (EV/EBIT) metric some are on valuations last seen five years ago.
As well as this, investor money has already flowed quite heavily out of the region this year, potentially going far enough to indicate an emerging market crisis.
“We are not of that view because external balances are in much better shape than they were five years ago. FX reserves, current account balances, overseas liabilities, they are all much lower,” he said.
Pastakia has managed the £100m LF Heartwood Income Multi Asset fund since July 2015, during which time it has returned 9.23 per cent, as the below chart shows.
Performance of fund since manager start
Source: FE Analytics
The multi-asset fund-of-funds is 33.5 per cent weighted to equities and 44.8 per cent to bonds with 11.2 per cent in property. The remainder is held in a combination of cash, hedge funds and commodities.
It has a yield of 3.61 per cent and a clean ongoing charges figure (OCF) of 1.32 per cent.