Weekly Market Overview – Markets fear Taylorisation of Fed and trade wars

Mon 05 Mar 2018

Markets continued their recent rocky period, with two separate events causing unease for investors. The first was Jay Powell’s first congressional testimony on Tuesday where he hinted at a faster pace of interest rate rises and stated a preference for rules based interest rate decisions. For example the Taylor Rule proscribes an interest rate for given levels of unemployment and inflation. Such a change could diminish the independence of the Fed and would likely lead to persistently higher interest rates. The second was President Trump’s announcement that he plans to place tariffs on steel and aluminium imports. The EU has already threatened to retaliate against US products such as clothes, whiskey and motor bikes, with Trump retorting that EU cars could also see tariffs. All equity markets were down in Sterling terms with the UK the hardest hit at -2.3%. European and Emerging Market equities were also down -2.0% and -1.3% respectively, while US and Japanese stocks lost -0.5%. Global yields were largely unchanged, however 10-year UK Gilt yields fell 5bps while Sterling fell -1.2% vs the US Dollar and -1.4% vs the Euro.

In the last couple of years investors have seen some important risks materialise, such as Brexit and the Trump election, but markets have not reacted. In 2018 some of the important risks we have flagged have started to play out. The Federal Reserve is taking a more hawkish stance, while the new Chairman’s silence places the “Fed Put” into question. Meanwhile, European QE is coming closer to an end, while the Trump led Republican government is expanding debt to pay for growth, pushing borrowing costs significantly higher and threatening Europe and China openly with trade wars. This time around markets are reacting more, with volatility picking up significantly in the past month. Quite often, markets move and then investors create a story around why this happened. With the lack of a specific answer, our job as long term asset allocators is to focus on fundamentals, remain vigilant and adjust our allocation when events become a real threat for risk assets.