23 Jul 2024
Jonathan Platt, Head of Fixed Income
Even before the withdrawal of President Biden, there was a change in market mood, with investors starting to really focus on the implications of a second Trump presidency.
I’m not sure that the likely emergence of Kamala Harris as Donald Trump's November opponent is going to change this.
Donald Trump is characterised by a unique blend of showmanship, ego, and bombast – and at heart he is a deal maker. His economic policies have been assumed to be pretty flexible, not rooted in firm political or economic principles. This view is now changing. The choice of JD Vance (I need to read Hillbilly Elegy) is significant and is consistent with the development of Trumpism as a philosophy. This matters, as previously the consensus view has been that Trumpism would not survive without its namesake. The implications of a long-term Trumpism-driven US should worry Europe and may lead to the questioning of the pre-eminence of US bonds and US equities in global portfolios – just look at present index weightings.
Trumpism, if it takes hold, will rewrite the rule book that has prevailed for more than 70 years. My perspective is that the United States will reduce its global role and acknowledge some change in spheres of influence. Against consensus, this may involve allowing China greater leeway in the Pacific whilst also stepping back from commitments that have been central to European security since 1945. It will also entail an increase in trade barriers, a decrease in globalisation, and consequently slower world growth.
The trade-off for Americans will be the onshoring of industries that had migrated abroad because of lower production costs – an attempt to reinvent past glories. This will necessitate a lower dollar and in effect will be a tax on consumers to deliver a more balanced society. It means more government debt and structurally higher bond yields. Perhaps good news for domestic US equities, but bad for the ‘Mega Caps’ – and it is the latter that have driven the S&P 500 index recently.
Big problems lie ahead for Europe. Tariffs and disrupted trade will impact on already anaemic growth. Added to this, European countries would need to rachet up defence spending as the scale of US support is materially reduced. From a UK perspective, I think that the current defence review under Lord Robertson is likely to conclude that current defence spending is insufficient for the changing landscape. Given the fiscal straitjacket, the only way we can spend more is through higher taxation – which will hinder the Government’s growth priorities. Last week’s data showing UK debt to GDP at 99.5%, the highest level since the early 1960s, suggests there is little room for more borrowing. At least the UK has lower debt and a functioning government, in contrast to some European peers. Still, France can look forward to the Olympic games.
Market have taken President Biden’s decision in their stride – after all it was little surprise after growing speculation. US treasury 10-year yields were unchanged last week but have registered a small fall to 4.2% following the announcement. Euro yields, similarly, were becalmed with German 10- year rates stuck just below 2.5% and only a minor change in the French yield premium. Credit was caught up in the same meandering path, registering little movement in either investment grade or high yield indices. The disruption to markets arising from the CrowdStrike update to Microsoft systems just added to the sense of listlessness.
In the UK, 10-year gilt yields moved marginally higher, ending the week above 4.1%. Data was generally disappointing with June inflation staying at 2.0% and the core rate 3.5%, both above expectations. More worryingly, from the perspective of the Bank of England (BoE), services inflation remained at 5.7%, indicating ongoing domestic price pressures. Headline inflation was helped by lower energy price inflation but the restaurants and hotels category (the Taylor Swift impact) saw big rises.
The following day’s UK labour force data was in line with expectations. The unemployment rate stayed at 4.4%, with employment in the three months to end May rising by 19,000. Wage growth moderated to 5.7%, down from 6%, but must look uncomfortably high from a BoE perspective. Other data, for June, suggests an improvement in job creation. Whilst the broad picture is of an easing in the tightness of the labour market, it is not conclusive. The latest recommendations on pay for teachers and nurses, at 5.5%, highlights the dilemma for both the government and the BoE. Overall, taking account of the recent inflation, growth and pay data, there is scant evidence for any change in voting patterns at the next MPC. It would be strange for the Governor, for example, to switch from Hold to Cut based on the data, given his stated focus on services inflation and pay growth. The best that can be said is that there is a window of opportunity to cut after successive inflation reads of 2%. But it is a weak argument to support a cut on the premise that inflation data will not be so good in coming months.
This is a financial promotion and is not investment advice. Past performance is not a guide to future performance. The value of investments and any income from them may go down as well as up and is not guaranteed. Investors may not get back the amount invested. Portfolio characteristics and holdings are subject to change without notice. The views expressed are those of the author at the date of publication unless otherwise indicated, which are subject to change, and is not investment advice.