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Market Comment - August 2018


The main new development in markets was a flare up of stress in emerging markets, with Turkey at its centre. Ongoing trade disputes continued to escalate during August as the US Administration and other nations exchanged fire in the global trade war. Meanwhile, the US stock market reached a record high, its stellar performance contrasting with other regions’ which fell into negative territory. The US Treasury yield curve flattened the most since 2008 feeding a growing concern that the end of the cycle is looming.
Turkey’s vulnerabilities have long been known, and the lira has been in steady decline against the dollar since the beginning of the year. In August however, the imposition of sanctions and tariffs by the US sent the lira into outright currency crisis. While Trump’s latest political spat involving the detention of a US pastor created headlines, the more serious issues facing Turkey relate to the strength of the dollar and the mismanagement of economic policy. Turkey has very large amounts of dollar denominated debt owed by its corporate and banking sectors and a large current account deficit. The country’s economic growth has been fuelled by construction and consumption, both of which require imports of foreign goods and caused a large widening of the country’s current account deficit. Normally the central bank would raise rates, a move which would dampen demand and provide support to the currency, both of which would see the current account deficit narrow and a healthy rebalancing of the economy. President Erdogan however, has all but stripped the Turkish central bank of its independence and is staunchly opposed to interest rate increases. His overly stimulatory policies were likely vital to securing his election victory in June.
While Turkey was the main pressure point in emerging markets, Argentina suffered similar sharp sell-off in its currency, although it has the support of the IMF. Investor flight spread to a lesser extent to other countries as diverse as South Africa, Brazil, Indonesia and Mexico.
While we remain overweight the US equities, we are watching closely for evidence the dollar is topping out as that will be the time to add to emerging markets. For now, we feel the dollar has a little longer to run and it is not the time to add to EM. While the yield curve is flattening, it is still positive, allowing more time for positive returns from US equities. We don’t find ourselves getting incrementally more bullish about Europe or the UK either. Europe is much more closely linked to emerging markets than the US and has ongoing uncertainty relating to Italy.
At home, the pound was weaker during the month as the risk of a hard Brexit rose, a necessary requirement for the UK to keep its negotiating position strong. Because the UK needs to keep “no-deal” a realistic outcome, we foresee continued pressure on the pound until the end of this year at the very least. With such uncertainty around negotiations, which could go either way in the UK’s favour, we are neutral on domestic equities.
Anna Haugaard, CFA
Fund Research

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