The following is an excerpt from our recently published Market Update covering the second quarter of 2018. For a copy of the full document, please contact us.
In it, we detail examples of macro inputs that frame our view of a favorable backdrop for mindful risk allocation, and our belief that the environment is ripe for being able to discern relative winners from losers in the equity market.
The second quarter did not disappoint in its delivery of market impacting geopolitical events. What began as a delegation appearance at the winter Olympics translated into the first steps a North Korean leader would take across the DMZ since the “end” of the Korean War in 1953, and later a face-to-face meeting with President Trump materialized in Singapore. Despite questions on actual accountability behind Pyongyang’s denuclearization efforts, these actions are a stark contrast to the region’s geopolitical posturing just eight months prior when threats of missiles capable of reaching Guam were being made simultaneously alongside live test fires over Japan. All political leanings aside, the equity market favors more certainty than less, and a more peaceful Korean peninsula arguably moves the needle further into the favorable category.
Then came tariffs:
Whatever forward progress was achieved in deescalation here was surely offset by the increased friction placed on multiple global trading partners with the institution of tariffs. As a $20.0 trillion economy that has been a consistent net importer since 1982, the US stands more to lose than gain in the Administration’s risky deployment of bargaining chips. Since midterm elections are a little over three months away, odds are decent that these actions serve more as a short-term coercion mechanism rather than signify the cornerstones of a protectionist foundation. The latter has a much higher probability of being a persistent negative overhang for the equity markets. Since the S&P 500 derives 38% of its revenue from foreign-domiciled demand today, our sizable exposure would stand to be adversely impacted upon implementation of retaliatory actions by our trade partners. Additionally, 84% of the US private-sector labor force today shows up to work in service-oriented roles compared to manufacturing ones. This makes the US structurally ill-suited to absorb manufacturing capacity currently being outsourced elsewhere, even if it were possible to solve for the labor input cost disparity. If Fed Chairman Powell’s stern warnings on the adverse impacts of protectionism failed to enlighten politicians, maybe a more lighthearted quip from Dave Chappelle in his recent NFLX special stands to resonate more deeply, “I want to wear Nikes, I don’t want to make them!”
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