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Market update: Trade tensions, interest rates and political uncertainty

It was an eventful first half of the year, with volatility marking the beginning and trade tensions closing the six months.

Although financial markets have regained composure, investors should expect uncertainty to stay for the rest of 2018. Chief Investment Officer Richard Flax reckons the big themes for financial markets will be around trade, political uncertainty and monetary policy.

How are global financial markets reacting to trade tensions?

The rhetoric around trade has ratcheted up over the last six-eight weeks, as Donald Trump has imposed a number of tariffs on steel and aluminium imports. Tariff retaliations from the EU, Canada and China have seen tensions rise, with the impact rippling onto the financial markets.

It’s too soon to say whether this will have a material impact on global economic growth, although sentiment amongst consumers and businesses has started to switch.

We’ve also seen ripples in the more trade-oriented emerging markets, although Chinese equities are facing domestic headwinds, most notably credit growth.

Whilst the US will argue this is part of its negotiation strategy, it doesn’t look like anyone will step down anytime soon. There seems to be a willingness to take on some economic pain to try and win something we would argue isn’t really winnable.

Will political uncertainty continue into the second half of the year?

There are  a number of areas of political uncertainty; Germany has its debate over immigration, Italy’s coalition government is still formulating its policies, the UK is no clearer around Brexit, and the new left-wing president in Mexico is expected to trigger a lot of change.

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Markets tend to look through political uncertainty when economic growth is robust. So far, growth has remained pretty good, but recent data from Europe and the US has come in slightly below expectations.

Against a backdrop where growth is behind expectations, political uncertainty can have more of an impact on financial markets, and becomes more of a consideration when looking to position portfolios for the second half of the year.

Will UK interest rates rise in August?

Central Banks have been keen to raise interest rates off the very low levels for some time.

Yet the Bank of England is finding it difficult to tighten monetary policy, as it juggles relatively weak economic growth, inflation falling back down after its Brexit spike, and stretched household balance sheets.  

Expectations for an interest rate hike in August are rising, yet we’re not sure the Bank of England will give-in in August. If they do, we doubt it will be the start of a long series of rates rises to levels seen before the financial crisis.

The economy remains too weak to be able to sustain a long period of interest rate hikes, and the Central Bank will move very cautiously in terms of how quickly it tightens monetary policy.

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