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Why are markets falling and what is the outcome?

23 March 2018

Yesterday was a turbulent day in markets with the Dow Jones index falling nearly 3%.  Far Eastern markets have taken their lead from the US and the Nikkei closed 4.5% lower.  The FTSE 100 was down 1.2% yesterday and is opening down 0.5% as I write, not helped by a stronger pound.  As risk was taken off, US Treasuries and Gilts rallied sharply.  Wednesday's US Federal Reserve meeting had painted a positive view of the economy and the expected rate rise had passed without much market impact. Rumours that Trump was about to announce more trade tariffs caused some concern in the market and when they came they precipitated the selloff.  Following his tariffs on steel and aluminium imports, Trump has now signed a memorandum specifically targeting China in an effort to protect US intellectual property.  The new tariffs may affect as much as $60 billion of US imports from China but the details have yet to be spelled out.  The memo instructs US Trade Representative Robert Lighthizer to come up with a list of target products in the next 15 days and then allows 30 days for comment.  He has also instructed Treasury Secretary Steven Mnuchin to propose investment restrictions on Chinese companies within 60 days to safeguard US technologies that are seen as strategic.  Trump added to the fire by saying the move was the "first of many". US Commerce Secretary, Wilbur Ross appeared to open the door for negotiations by commenting that he expected that a strong stand on trade would bring concessions and there would be negotiations rather than a fight. 

Overnight we had reaction from China who are imposing their own tariffs on US goods impacting up to $3billion of US exports.  We can also expect them to challenge the US move at the World Trade Organisation.   While these moves are relatively small, the market is concerned that it will escalate further.  Trump's tariffs on steel and aluminium were watered down after the initial announcement.  Yesterday it was announced that the UK and other EU countries would be exempt from tariffs on steel and Brazil, Australia, Argentina and South Korea would also not be hit by tariffs.  It should be hoped that China and the US can step back from an escalating trade dispute.

If tariffs were not enough uncertainty, Trump also found time yesterday to oust HR McMaster as his national security adviser and replace him with former US ambassador to the UN, John Bolton.  Bolton is known for his neo-conservative views and his aggressive manner.  The lawyer representing Trump at the Mueller enquiry into ties with Russia also resigned. 

Altogether not a constructive day for risk assets.  However, we should remember that the economic background and corporate earnings growth remains broadly positive.  While interest rates in the US and the UK have been moving up this is a slow process, or as the Bank of England suggested this week "a gradual pace and to a limited extent".   Trade wars aside, this is a generally positive background for equity markets.  It is always difficult to be positive on days like this, however with a price earnings ratio of 13 and dividend yield of 4.6% on the FTSE 100 a lot of bad news is priced in.


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