Advisory Letter: 6th August, 2019
Trump tweeted. Trump lashed. Trump levied sanctions and called big tech corp Huawei to the courtroom. Trump hemmed and hawed and made promises of a truce; uneasy as they may have sat on his tongue.
And then Xi made his money move by depreciating the yuan, and Chinese enterprises stopped their purchase of American farm goods.
The score now stands:
Trump: endless tweets. Xi: manipulation par excellence!
Jokes aside, this is not a good place for either of the world’s superpowers to be at. It’s been almost a decade since the last time the renminbi cracked seven. Wall Street obviously didn’t like this, with the S&P 500 sliding down 3%. Trade-sensitive sectors such as technology, consumer discretionary, and the industrial sectors saw the most sell offs. U.S. treasury yields are down as investors move to government-backed bonds, and could continue to fall if China does not rein in the currency weakening. The domino effect has also taken over markets in Asia and Europe. South Korea’s won dropped to its lowest in three years. The yen on the other hand has climbed to 105.80 to the dollar; the strongest it has been since the flash crash in January.
Xi’s move is pure psychological warfare, but it also allows China to offset the worst effects of Trump’s 10% tariffs. A weaker yuan makes it easier to sell goods abroad, and adversely affects American exporters looking to compete with China.
So, where do we go from here?
People’s Bank of China Governor Yi Gang has already issued a statement to the effect that China won’t use its currency as a ‘weapon’ in this war. Market sentiments seem to be divided on the matter. While Mnuchin is happy calling China a currency manipulator, there is little to actually prove that this is Xi’s doing all alone. Some analysts feel the yuan’s weakening is a natural offshoot of the trade war, and the People’s Bank of China has also claimed it is confident of keeping the renminbi at a stable state.
This is of course not the first time that China has devalued its currency. Back in ‘15, the PBOC knocked off almost 3% off the yuan in three consecutive devaluations. The shock factor this time comes from the fact that the yuan has been very stable for the past decade and investors have grown used to its increasing strength. In the backdrop of the escalating trade war, this is being seen as a power move by the Chinese, and the start of a new Cold War.
If this turns into a protracted currency war, it could spell trouble for many small and medium-sized trade-driven economies. Countries like Vietnam and Bangladesh which rely heavily on their exports and have huge debts will suffer. In the coming days, we could see global economic demand going down which will hurt oil prices, and cause a ripple effect on the other important currencies.
Investment-wise, we could see a reflection of the topsy turvy times in how various strategies perform. Crypto might just come back in the loop, and gold prices might strengthen. At Kristal.AI our house view is that the safe haven right now is in the bond sector and we’re hedging our bets on investment-grade corporate bonds. For investors with a 70:30 bond to equity portfolio allocation, we are maintaining a status quo with the caveat that if needed, we might change over from high-beta to low-beta stocks. For those with a higher equity allocation, we are rebalancing with a strong leaning towards IG bonds.
Also, SIP can be the way to go in such scenarios. For instance, let’s say you set up a standing instruction to build a medium to a long-term portfolio and add $1000-$2000 every month. Lest the market takes a massive dip, you can always add more, say $5000 and once it recovers, you can go back to investing $1000 per month.
If you have any doubts on how to insulate your portfolios from the market upheavals, remember your trusted advisors at Kristal are always a holler away at firstname.lastname@example.org.