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Stepan Lavrouk
Stepan Lavrouk
Articles (542) 

Will a US-China Trade Deal at the G20 Summit Boost Growth?

Morgan Stanley’s equity strategists don’t think so

June 25, 2019 | About:

With the major stock indices making all-time highs even as trade tensions continue to mount, it seems that the market is not accurately pricing in the level of risk in the global economy. You would think that the disruption of supply chains and increased tariffs would have put more of a dent in valuations, and yet here we are. Perhaps investors are assuming that the trade dispute will be resolved at the upcoming G20 meeting. The most recent research from Morgan Stanley (NYSE:MS) posits that this is unlikely to happen.

It’s not just about trade

Last week, the major market-moving event was the Federal Reserve’s meeting at which Chairman Powell suggested that rate cuts could be on the way sooner than previously forecast. The Fed announcement was met with a degree of excitement:

“Stocks rallied sharply on Thursday with the S&P 500 and Nasdaq making new all-time highs. Small-caps rallied too, but remained well below their highs from last September along with the more cyclical areas like energy, financials, materials and industrials. In short, equities continue to trade defensively, even as the bellwether index makes new highs. That’s typically not a great sign as it means the market is skeptical about something. We think it’s skepticism is about growth, and it’s warranted.”

This week, analysts and investors will be looking to the upcoming G20 meeting in the hope that Presidents Trump and Xi will come to an agreement that would end the trade war. The note explained that this is not only unlikely to occur, but it may not change the trajectory of the economy:

“We have been very focused on corporate confidence as a leading indicator for where the economy is headed, and on that score, we got some more bad news from the Philadelphia Fed corporate survey. It was in line with the prior week’s Chicago Fed corporate survey and our own proprietary survey from two weeks ago, which suggests that corporate managers are getting less optimistic and even pessimistic in some cases.”

In particular, they had two issues with the idea that a deal will lead to another leg in the bull market:

“First, I’m skeptical that the US and China will come to any grand bargain by this weekend, and the best that we can hope for is that there isn’t a broadening of the tariffs. Therefore, the mere passing of this event is likely to remove hope of a real solution that could help growth rebound.

Second, the deterioration in corporate surveys and other economic data began in April, before the US-China negotiations broke down in early May. In other words, the slowdown is happening regardless of trade tensions, and if the Fed is reacting to this very late-cycle slowdown, rather than taking out insurance against a slowdown, it means it’s probably too late to stop it.”

Even in the best-case scenario wherein the trade war is significantly de-escalated, the same problems that we have identified in the past will continue to be a factor -- reduced capital expenditures, growing corporate debt and an inventory build that needs to be used up. For these reasons, investors should take any deal-related market rally with a big pinch of salt.

Disclosure: The author owns no stocks mentioned.

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About the author:

Stepan Lavrouk
Stepan Lavrouk is a financial writer with a background in equity research and macro trading. Specific investing interests include energy, fundamental geoeconomic analysis and biotechnology. He holds a bachelor of science degree from Trinity College Dublin.

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