How much will US-China trade tensions hurt markets?

Can US markets weather the stress on trade?

Renewed talk of escalating tariffs and trade sanctions between the US and China unnerved markets last week, inflicting the FTSE All-World’s biggest weekly decline of the year. But analysts and investors are divided on what happens next.

Most reckon that a deal between Beijing and Washington can still be reached, given that no one is served by a protracted and deepening trade conflict. Tensions over trade took an economic toll on both sides last year, and with global growth now much weaker, a full-scale trade war could be devastating.

Under this benign scenario, the S&P 500 could quickly rally to a new record of 3,000 points, according to Bank of America. Under the more likely “brinkmanship” scenario, with new tariffs but ultimately an accord in the second half of the year, US stocks would be volatile and dip 5 per cent, yet remain resilient, says BofA. But the bank’s analysts warn that in the worst-case “trade war” scenario, the S&P 500 might tumble as much as 10 per cent — and potentially even tip the global economy into a recession.

Mark Haefele, chief investment officer of UBS Global Wealth Management, recommends that investors refrain from panicking and stay invested, but cautions that turbulence could give investors a rockier ride in the coming weeks.

“Given that only the president [Trump] himself knows how far he thinks he can let the market fall, or growth slow, before harming his chances for re-election, we should prepare for potentially significant volatility ahead,” said Mr Haefele. “If investors don’t think they can stomach it, it would be better to reduce risk, or hedge positions, now.” Robin Wigglesworth

Will investors seek ‘safe’ assets such as the Japanese yen?

With uncertainty, posturing, tactics and the prospect of eleventh-hour deals still swirling around the trade talks, foreign exchange trading in Asia will look to the yen as a barometer of market nerves and how far investors will price in a trade war.

The balance looks pretty delicate. As Tokyo dealing rooms packed up for the weekend on Friday, the dollar stood at ¥109.79, leaving the yen very close to the three-month high it hit on Thursday and at a stronger point than the ¥110-per-dollar line that had started to feel like a limit.

The recent strengthening of the yen — a bolt hole in times of stress along with the Swiss franc — makes good sense in the circumstances. Investors have started to bet that the Japanese currency will reprise its haven role if things turn seriously nasty.

But traders say that, despite the apparent decisiveness of the move beyond ¥110 to the dollar, the move still lacks real conviction. The yen is accurately reflecting the real lack of clarity on the trade talks, they say, and the reluctance of pushing any bet too hard.

If trade talks really sour into the coming week, the yen could start pushing the dollar against other support levels. The big question though is what happens if trade war fears abruptly recede: there are several significant background pressures for a weaker yen, but for those to prevail and move the currency back to ¥111, say traders, markets will have to be convinced that the danger has passed. Leo Lewis

How long will investors keep pulling out of US equity funds?

Investors have shown little faith in US stocks. For the week ending Wednesday, investors drained $14bn from US share portfolios, according to EPFR Global data, the heaviest weekly outflow total since January.

The share sales have picked up despite solid data from the US economy, where first-quarter growth came in at an annualised 3.4 per cent. They have also come after decent first-quarter corporate earnings, which should neutralise fears that slowing growth around the world would hit corporate America. At the peak of such concerns in February and March, some investors posited that US stocks faced an “earnings recession” where profits would shrink for two consecutive quarters. But this has not come to pass.

As the corporate earnings season draws to a close, companies have beaten earnings estimates by 6.6 per cent, with almost three in every four companies outpacing analysts’ forecasts for net income, according to Jonathan Golub, US equities chief strategist at Credit Suisse.

Investors have reasons for caution, especially given the high stakes from unpredictable China-US trade talks. The 10-year Treasury yield fell below three-month bill yields last Thursday, suggesting concerns that trade tensions could drag on the global economy. Richard Henderson

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