Cumberland Advisors Market Commentary – Cry for Argentina

Argentina’s primary election on Sunday, August 11, surprised everyone and shocked markets as the current president, Mauricio Macri, was defeated by 15.6 percentage points by the left-wing Peronist candidate, Alberto Fernandez. Macri now appears to have only a very slim chance to win the October 27 presidential election. His tough austerity measures, which were needed because of the serious state of the country’s economy and finances, have not been successful and have proved to be very unpopular.

Argentina

Markets reacted strongly early last week, with stocks, bonds, and the peso tumbling. At the end of the day on Monday, August 12, the main Argentina stock index, MERVAL, closed down 31% and Argentine sovereign bonds were down by 15 to 20 points. During the week Fitch cut the sovereign bond rating by three notches to CCC and S&P Global cut its rating on notch to B- with outlook negative At the end of the week the 10-year bond rate was 25.14 %, calculated from the yields of other available durations. One month ago the rate was 24.5%. The peso was down 15% after having initially swooned 30%. There has been some, though still modest, contagion spreading to other emerging-market sovereign credit markets. Argentina accounts for 5.5% of the Bloomberg Barclays EM US Dollar Sovereign Index.

Investors are clearly fearful of economic policies taking a left turn at a time when the economy is in recession: Growth declined 2.5% last year and 5.8% in the first quarter of 2019. Argentine inflation is among the world’s highest, registering 22% for the first half of the year.

Alberto Fernandez was declared a candidate in May by the former president, Cristina Fernandez de Kirchner, who declared herself as the candidate for vice-president. Kirchner’s period as leader was marked by heavy-handed government intervention in the economy and ill-conceived currency controls and government subsidies. Fernandez has not provided any details of his economic policies. He is strongly critical of Macri’s austerity policies, but he has indicated he will be more pragmatic and moderate than Kirchner was.

Macri, seeking to close the shortfall in his popularity, looks likely to move to the left, easing the austerity imposed as part of the country’s agreement last year with the International Monetary Fund for a $50 billion “preventive credit line.” He already has announced income tax cuts, increases in welfare subsides, a second increase this year in the minimum wage, and a 90-day freeze on gasoline prices. His economy minister Nicolas Dujovne has now resigned, saying the economic team needed “significant renewal”.

Investors’ concerns about these developments are well-founded. Argentina’s ability to meet its financing needs is at risk as investors appear increasingly hesitant to buy the nation’s bonds. Interest rates on seven-day notes were increased from 63% to 74% after the election. The country may need to ask the IMF to bring forward scheduled 2020 disbursements of its credit line.

The currency looks likely to remain under pressure. Macri’s presidency, which began in 2015, has already witnessed two other steep falls in the peso, one of 30% when Macri ended currency controls and one of 25% last year. These devaluations have serious effects on domestic businesses, for which most costs are dollar-based. And consumers are hit by a crippling increase in inflation.

The Global X MSCI Argentina ETF, ARGT, declined 24% on Monday August 12, and a further 4% on Tuesday. The markets for Argentine assets stabilized mid-week after speeches by both presidential candidates. ARGT ended down 24.4% for the week. These developments are a good example of how individual emerging-market economies can experience significant unanticipated risks. Emerging markets are currently experiencing high volatility and are under pressure from slowing global markets, trade wars, and a strengthening US dollar. At Cumberland Advisors we do not hold ARGT in our International or Global ETF Portfolios and have reduced our emerging-market holdings.

Bill Witherell, Ph.D.
Chief Global Economist & Portfolio Manager
Email | Bio

______________________________________________________
Sources: Financial Times, Barclay’s, BBC.com, CNBC, Yahoo Finance, Global Government Bonds

 


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Cumberland Advisors Market Commentary – Draghi Signals “You Go First” to the Fed While Johnson Threatens

The European Central Bank (ECB) did not reduce key interest rates at its July meeting ending last week, contrary to the expectations of some observers. This decision leaves the US central bank, the Federal Reserve, to take the lead with a widely forecast rate cut at its meeting this week.

Cumberland Advisors Market Commentary by Bill Witherell, Ph.D.

However, ECB president Mario Draghi did strongly suggest that new monetary stimulus is likely to be adopted at the September meeting of the ECB’s governing council. This stimulus will probably include both rate cuts and new quantitative easing measures. Notably, the governing council stated that it expected rates to remain at their present or lower levels at least through the next twelve months. Draghi indicated that the European economy does not appear to be headed for a recession, although the outlook for the trade-dependent manufacturing sector has become “worse and worse.” He emphasized his concerns about inflation expectations, which now are close to an all-time low. The ECB does not want to see inflation expectations become entrenched at current levels.

The expected monetary stimulus looks timely in view of the latest data on the state of the European economy. The Flash Eurozone PMI for July indicates a relapse in the economy over the course of the month, giving up the gains of May and June. A downturn in manufacturing is the culprit, with production experiencing the steepest fall since April 2013. European trade is being hit hard by the US-China trade dispute as exports to China have suffered. Brexit concerns, serious weakness in the auto sector, and slowing world trade are also factors. A resilient service sector and healthy private consumption facilitated by lower unemployment and higher wages continue to support the subdued forward momentum of the economy.

An important uncertainty affecting prospects for the European economy, cited by Draghi, is the outcome of the United Kingdom’s efforts to withdraw from membership in the European Union. Last week the new British prime minister chosen by the Conservative Party, Boris Johnson, made clear in his opening statements that the party has become a Brexit party, with no room for those who wish to remain in the EU. He also made clear that he intends to confront the EU and showed no willingness to compromise. He has stated to the EU officials that unless the EU is willing to compromise – in particular, to abolish the “backstop” which is the part of the deal agreed by the previous British government that is designed to prevent a hard border with Ireland – the UK will be leaving the EU on October 31 without a deal. The EU immediately responded that it will not reopen the withdrawal agreement, emphasizing that abolishing the backstop would be “impossible.”

By downplaying the likely harm to the UK economy that would follow, Johnson is seeking to demonstrate that he is very willing to see the United Kingdom go through a no-deal Brexit. He has filled his government with Brexit true believers and is starting a campaign directed at advising companies how to adjust to a no-deal Brexit. He has made clear that under a no-deal Brexit he will keep the 39 billion pounds that the previous government had agreed to pay the EU. Of course, all this may prove to be negotiation bluster by the populist leader, who is viewed by many as a British Trump; and a deal may eventually be struck. But Johnson does seem to be painting himself and Britain into a corner. He still faces the problem that Parliament is strongly against a no-deal Brexit, and the government has a very thin majority. While a no-deal exit is looking increasingly likely, an early election, possibly before October 31, is also possible. The Liberal Democrats clearly support remaining in the EU, and the Labour party appears to be moving in that direction.

Despite Johnson’s assurances to the contrary, a no-deal exit would be, in the words of the IMF, one of the greatest threats to the world economy, along with further US-China tariffs and US car tariffs. These threats, should any of them occur, would “… sap confidence, weaken investment, dislocate local supply chains and severely slow global growth.” There would also be a risk of “financial vulnerabilities.”

The UK economy is not in good shape to deal with the likely shock. In June, the UK manufacturing PMI was at a 76-month low. Business optimism fell to its third-lowest level in the series history, weighted heavily by Brexit-related uncertainty and disruption. Capital spending plans are on hold because of Brexit uncertainty. The critical financial services sector is already losing jobs. Even if business is helped by increased government stimulus to offset somewhat the impact of a no-deal Brexit, the UK would likely suffer long-term damage to its reputation and security. And it would still have to negotiate a trade agreement with its largest trading partner, the EU.

Sources: The Financial Times, the Wall Street Journal, HIS Markit, CNBC

Bill Witherell, Ph.D.
Chief Global Economist & Portfolio Manager
Email | Bio


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Cumberland Advisors Market Commentary – Investing in European Equities

Just days after US President Trump announced a ceasefire and resumption of trade negotiations with China, the US Trade Representative proposed new tariffs on 89 European Union (EU) goods worth $4 billion. These levies are in response to concerns about aircraft subsidies and would be added to the $21 billion list of potential tariffs the US threatened in April. Rising trade tensions with the US add to already substantial headwinds to Europe’s economic growth, which include sluggish export growth, flagging business confidence regarding the US-China trade dispute, and the increasing threat of a disorderly exit of the UK from the EU.

Market Commentary - Cumberland Advisors - EUROPE MAP

Economic growth in the Eurozone has slowed markedly since mid-2018. Nevertheless, investors have not deserted European equity markets. Indeed, some of the national markets have outperformed thus far this year. This may reflect the market’s looking through the current weakness and anticipating stronger growth in 2020, as is projected in the latest OECD Economic Outlook. There are, however, significant downside risks to this outlook.

According to the latest data included in the June Composite (manufacturing plus services) Purchasing Managers’ Index (PMI), there has been an upturn in the pace of economic growth in the Eurozone at the end of the first half of the year, but that upturn still signals relatively weak current and future economic growth. Particularly concerning is a deterioration of business expectations for the year ahead. Ireland’s service sector keeps that country’s economy as the strongest performer, followed by France, which registered its best performance in seven months. Germany and Spain saw no change in their modest growth rates. Italy, despite a slight improvement in June, remains the weakest Eurozone economy.

Economic growth for the region looks on track to be only about 1.2% for the full year. This subdued growth is largely due to weaker external demand, particularly from emerging-market economies that have slowed because of the trade tensions, which have also depressed business confidence and investment decisions. A global slowdown in manufacturing has impacted the countries that rely heavily on manufacturing exports, namely Germany and Italy. Sources of strength have been private consumption, a robust labor market, and solid performance by the services sector. The fiscal stance is slightly positive, while monetary policy is very accommodative.

Looking forward, investors were surprised and pleased to learn that Christine Lagarde, currently the managing director of the International Monetary Fund and former French finance minister, will replace the highly regarded Mario Draghi as president of the European Central Bank ECB) on November 1. She is an excellent and unexpected choice and is expected to follow in Draghi’s footsteps, willing to continue his pro-growth unconventional monetary policy and “do whatever it takes.” Draghi has already begun to set the stage for the ECB to provide increased monetary stimulus to boost economic growth and raise core inflation towards the ECB target. Those actions led Trump to repeat his charge that the EU is engaging in unfair currency manipulation, a rather strange accusation from someone who is calling for the US central bank to lower interest rates for the same reasons.

There have been several other positive developments. The crisis between the Italian government and the European Commission over Italy’s projected budget deficit, which is well above EU limits, has been eased by Italy’s revising its budget to avoid likely fines. In France political demonstrations have eased and President Macron looks able to return to making some further progress with needed economic reforms. France is also leading European efforts to save the Iran nuclear deal and defuse that crisis. Another notable development is the European Banking Authority’s announcement that European banks will be subject to a 23.4% increase in their minimum capital levels in order to meet the requirements of Basel IV global rules. This requirement will be challenging for the EU’s large banks but will strengthen the banking system.

The main risks facing the Eurozone economy continue to be trade tensions, both those with the US and those between the US and China. If either of these disputes fails to be resolved and protectionism rises significantly, the global economy and that of the relatively open Eurozone economy will suffer further. However, it is interesting to note that while the US is threatening tariffs and moving towards increased protectionism, the EU has been concluding bilateral and regional trade agreements that extend the liberal trading system that has been the basis for the globe’s economic growth since World War II. These agreements go beyond market opening and include EU standards in areas such as labor rights, the environment, rules of origin and dispute settlement. The EU has just concluded agreements with Vietnam and with Mercosur (Argentina, Brazil, Paraguay, and Uruguay). These follow agreements with Canada, Mexico, Japan, and Singapore. Negotiations are well underway with India, Australia, New Zealand, and Chile. We regard these trade pacts as a big positive for the Eurozone economy.

Eurozone equity markets have shown considerable resilience thus far this year (year to date as of July 5) despite the challenging headlines and tepid economic growth. The iShares MSCI Eurozone ETF, EZU, is up 13.4% on a total return basis. That is similar to the 12.6% return for the aggregate iShares MSCI EAFE ETF, EFA, which includes all advanced-economy markets outside of the US and Canada.

There is considerable variation among the national equity markets. Spain’s market underperformed. The iShares MSCI Spain Capped ETF, EWP, advanced 8.6%. The equity market of the largest Eurozone economy, Germany, also underperformed. The iShares MSCI Germany ETF, EWG, gained just 10.7%. Germany’s manufacturing sector has been falling: May factory orders were down 8.6% over the previous year. Manufacturing international sales declined in June. Among the EU outperformers, France is notable. The iShares MSCI France ETF, EWQ, is up 15.6% despite the political turmoil that characterized the first half. Netherlands did even better. The iShares MSCI Netherlands ETF, EWN, gained 18.2%. The 16.3% gain by the iShares MSCI Italy Capped ETF, EWI, may look surprising in view of Italy’s weak economic growth but can be explained by how far it fell last year. The 10.5% year-to-date gain in the iShares MSCI United Kingdom ETF, EWU, hides the 4.1 % drop in the second quarter as the prospect of a disorderly departure from the EU increased.

In Cumberland’s International and Global Equity ETF portfolios we are maintaining our Eurozone positions while closely monitoring developments, particularly with respect to international trade.

Bill Witherell, Ph.D.
Chief Global Economist & Portfolio Manager
Email | Bio

_______________________________________________________________________

Sources: Financial Times, HIS Markit, OECD, Barclays Economic Research, CNBC




Too Many Uncertainties

Excerpt from Barron’s

Too Many Uncertainties
06/21/2019 By Paul Farrell

Cumberland Advisors William Bill Witherell Ph.D.

Barron’s writer, Paul Farrell, assembles a collection of outtakes for his piece titled, “Too Many Uncertainties.”

Destabilizing

Second-Quarter 2019 Review
by William Witherell, Ph.D. of Cumberland Advisors

June 20: The factors that have led to high volatility in the global equity markets during the quarter are still present. Foremost are the destabilizing effects of rising trade and technology tensions, which are hurting manufacturing sectors in many countries, disrupting global value chains, and weighing heavily on investment decisions. Global trade has slowed dramatically, from a 5.5% annual pace in 2017 to a projected rate of 2.1% this year. The second cause of market volatility, related to the first, has been the slowdown in global economic growth and increasing concerns about the possibility of recession in major economies including the US. Along with the trade concerns, the easing of growth rates in China, India, and many other emerging markets; the contracting of the manufacturing sector and consequent weakness in Europe; and the stagnating Japanese economy have added to growth worries.

–Bill Witherell

To be considered for this section, material, with the author’s name and address, should be sent to MarketWatch@barrons.com

Read the full collection of excerpts at the Barron’s Website


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Cumberland Advisors Market Commentary – 2Q 2019 Review: International Equity ETF

In the next-to-last week of the second quarter, the factors that have led to high volatility in the global equity markets during the quarter are still present. Foremost among these are the destabilizing effects of rising trade and technology tensions, which are hurting the manufacturing sectors in many countries, disrupting global value chains, and weighing heavily on investment decisions.

Market Commentary - Cumberland Advisors - Review: International Equity ETF

Global trade has slowed dramatically, from a 5.5% annual pace in 2017 to a projected rate of just 2.1% for this year. The second cause of market volatility, related to the first, has been the slowdown in global economic growth and increasing concerns about the possibility of recession in major economies including the US. Along with the trade concerns, the easing of growth rates in China, India, and many other emerging markets; the contracting of the manufacturing sector and consequent weakness in Europe; and the stagnating Japanese economy have added to growth worries.

With the US economy’s also appearing to slow during the quarter, it is not surprising to see projections for global growth being marked down. The OECD is now projecting global economic growth for the current year at 3.2%, compared with 3.5% in 2018. The risks to the “fragile” world economy (as OECD’s Chief Economist Laurence Boone recently characterized it) will remain heavily on the down side unless there is a de-escalation of trade tensions. Further contributing to market uncertainties are the serious tensions between the US and Iran, the political turbulence in the United Kingdom because of the unresolved Brexit issue, and the reopening of questions about the future of Hong Kong’s relationship with Mainland China.

International equity markets have taken investors on a rollercoaster ride during the quarter to date, as of June 18. The iShares MSCI ACWI ex US ETF, ACWX, which tracks all equity markets except the US, is unchanged from the beginning of the quarter, after rising 3%, tumbling 6%, and then recovering. The advanced markets followed a similar pattern, whereas the more volatile emerging markets are down about 2%.

Looking at the year-to-date total returns for international markets, although ACWX is unchanged for the quarter, as noted above, it is up 9.25% for the year. The advanced-market iShares MSCI EAFE ETF, EFA, has done slightly better, up 9.8%, whereas the iShares MSCI Emerging Market ETF, EEM, has gained just 7.1%, losing some of the substantial gains it made in the first quarter. Going forward, our base-case projection is that the global economy has stabilized at a moderate pace and will avoid a recession, with prospects for advanced-economy equity markets, particularly that of the US, being somewhat better than for the emerging markets. We expect the US and China will agree at the G20 to resume trade negotiations and the US will hold off applying another round of tariffs. We are maintaining a cash reserve in our International and Global ETF portfolios. Our strategy could change any time.

Bill Witherell, Ph.D.
Chief Global Economist & Portfolio Manager
Email | Bio

______________________________________________________________
Sources:  OECD.com; HIS Markit, Financial Times, CNBC.com


Links to other websites or electronic media controlled or offered by Third-Parties (non-affiliates of Cumberland Advisors) are provided only as a reference and courtesy to our users. Cumberland Advisors has no control over such websites, does not recommend or endorse any opinions, ideas, products, information, or content of such sites, and makes no warranties as to the accuracy, completeness, reliability or suitability of their content. Cumberland Advisors hereby disclaims liability for any information, materials, products or services posted or offered at any of the Third-Party websites. The Third-Party may have a privacy and/or security policy different from that of Cumberland Advisors. Therefore, please refer to the specific privacy and security policies of the Third-Party when accessing their websites.

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EU Election: Negative But Could Have Been Worse

The results of the European Union’s Parliamentary elections, held the last weekend in May, were welcomed by investors as being not as bad as many had feared.

Market Commentary - Cumberland Advisors - EUROPE MAP

A broad populist and nationalist anti-EU surge, which had looked possible, was avoided. Pro-EU lawmakers will continue to be in a clear majority, aided by gains by green and liberal parties, offsetting losses by centrist parties. The resulting fragmented make-up of the EU Parliament over the next five years suggests decision-making will be more complex despite the continued significant popular support for the European Union. A more concerning aspect of the election results is the view we get of national political trends in some European countries – in particular, Germany, France, Italy, and the United Kingdom

Germany: The two leading parties, Chancellor Angela Merkel’s Christian Democratic Union (CDU) and the Social Democratic Party, which are coalition partners, together got 44.7% of the vote, a significant drop from their 55.4% in Germany’s 2017 federal election. This was their worst combined result since the Second World War. The Greens’ vote share was 20.5%, more than double their 8.9% result in 2017. A welcome development was the poor showing of the nationalist Alternative for Germany. These results suggest difficult times ahead for the ruling coalition, which is failing to connect with young people. Angela Merkel appears determined to remain as chancellor until October 2021, as her chosen successor, Annegret Kramp-Karrenbauer, the new leader of the CDU, is having a difficult time preparing to fill Merkel’s shoes. The Social Democrats’ poor performance has raised questions about whether they should remain in the coalition.

France: Marine Le Pen’s far-right, anti-migrant, Euroskeptic National Rally Party (RN), at 23.3% of the vote, very narrowly defeated President Emmanuel Macron’s La République en Marche! party (LREM), which gained 22.4%. This follows the turbulence of the “yellow vest” demonstrations over the past six months, which have led Macron to make a number of concessions to the populists. The Greens did well, coming in at third place with 13.5%. As the Greens are pro-European, they can be expected to work with the LREM and the Liberals in the European Parliament. The former leading French parties, the Socialists and the Republicans, each gained less than 10% of the vote. The opposition of the RN is not expected to cause Macron to alter his reform plans for France going forward. He also will continue to lead reform efforts in the EU.

Italy: Italy was one country in which a strident anti-immigrant, anti-EU party, League (Formerly Northern League), led by Matteo Salvini, surged to a significant victory with 34.3% of the vote. Its coalition partner, the populist anti-establishment Five Star Movement, slipped to third place with only 17%, behind the center-left Democratic Party’s 22.7%. Salvani is now the leader of Italy’s political right and is already making evident his intention to have a dominant influence over the policies pursued by the coalition. He is challenging the EU Commission with respect to the EC’s government debt-limit rules, pressing for tax cuts despite Italy’s already excessive debt and the prospect that the EC might respond with a significant fine. He also is proposing that the European Central Bank guarantee government bonds. The bond market is understandably responding negatively to this developing confrontation, which risks having effects beyond Italy.

United Kingdom: The weekend voting in the UK demonstrated the already evident sharp political division in the country totally dominated by the issue of Brexit, with some voters wishing strongly that the UK would leave the EU and others equally adamant that the UK remain, and with no apparent prospect for compromise. As a result, the ruling Conservative Party, the Tories, is in tatters, relegated to a fifth-place finish with only 8.7% of the vote. Nigel Farage’s new one-issue, hard-line, anti-EU Brexit Party surged to a 31.7% victory. Championing the anti-Brexit “remain” position, the Liberal Democrats captured second place with 18.5% of the vote. Labour was third with 14.1%, and the Greens were fourth with 11.1%. Last week Prime Minister Teresa May announced she will resign on June 7th . The campaign for a new Tory leader looks likely to result in a prime minister who will proclaim a hard-Brexit position. The Labour Party will probably move into a more pro-EU, “remain” position despite the anti-EU views of its leader, Jeremy Corbyn. There is a very limited prospect that a compromise deal will be agreed by Parliament and the EU in the coming months. The probability that a second referendum on Brexit will be held appears now to be greater than 50%, but time is running out for that option to be feasible. The risk of a hard, no-deal Brexit on the October 31 deadline has greatly increased.

Market Response: The European elections occurred at a time when the European economies are experiencing very weak growth, stagnant demand, and business optimism that has fallen to a four-and-one-half-month low, according to HIS Markit. The “less bad than feared” election results provided an immediate boost to equities that was reversed when European stocks followed global stocks down midweek, as trade war fears intensified, dropping almost 2.5% during the week. Year-to-date as of May 31, European stocks have managed to hold on to moderate gains, close to the 9.2% gain of the global market as measured by the iShares MSCI ACWI ETF, ACWI. The iShares MSCI Eurozone ETF, EZU, has gained 8.2% year-to-date, and the iShares MSCI United Kingdom ETF, EWU, has gained 8.0%. France continues to do a little better, with the iShares MSCI France ETF, EWQ, up 9.4%. Italy has done worse, particularly since the elections. The iShares MSCI Italy ETF, EWI, has a year-to-date gain of 7.2%. German stocks continue to underperform, with the iShares German ETF, EWG, gaining only 6.2%. With the political turmoil across much of Europe and the increased risk of serious trade disturbances, these gains may be difficult to maintain through the rest of the year.

Sources: Financial Times, Wall Street Journal, CNBC.com, HIS Markit, Action Economics, Brown Brothers Harriman.




Finally, Some Positive Trade News

Toward the end of a week during which global markets were pummeled by a sudden worsening in the prospects for a trade agreement between China and the US, President Trump announced two positive developments in US trade relations with our allies.

Market Commentary - Cumberland Advisors - Global Trade

The first was a decision to defer for six months a scheduled imposition of tariffs on cars and car parts from the European Union (EU), Japan and South Korea. This was clearly a “punt,” not the resolution of a very difficult trade dispute. The second development does, however, represent the settlement of an important trade dispute. The US and Canada released a joint statement which announced that the 25% US tariff on steel imports from Canada and the 10% tariff on aluminum imports are being lifted. Canada also announced it will lift its retaliatory tariffs on steel and aluminum imports from the US. A similar agreement between the US and Mexico is expected shortly. The US also announced a reduction from 50% to 25% of the tariff it imposes on steel imports from Turkey, a separate move suggesting some improvement in the stormy bilateral relations between the two countries.

These steps to ease trade relations with our North American neighbors and with the EU, Japan and South Korea will enable the US trade negotiators to focus on China in the coming months. The agreement on steel and aluminum tariffs is particularly important. Both Canada and Mexico have been unwilling to proceed with ratification of the USMCA trade agreement signed in 2018 as long as these tariffs remained in place. The USMCA is meant to replace NAFTA. Both countries are now expected to proceed with ratification. This agreement should also improve the prospect for ratification by the US, although that is still not a sure thing. Certainly, ratification by the three nations would lead to expanded trade within North America, benefiting firms, workers, and farmers in the three countries. It should be noted that after China, Canada and Mexico are the US’s largest trading partners. While we have been critical of many aspects of Trump’s trade policy, negotiating and bringing into force the USMCA would have to be considered a significant success.

The worsening US-China trade war will remain at the forefront of investor concerns in the coming months. We will continue to report on developments in this dispute and discuss the implications for investors. We will also not neglect the postponed but not resolved trade disputes with the EU and Japan. The EU countries, which have a common trade policy, are together a more important trading partner of the US than is China, and Japan is the US’s fourth most important trading partner. Trump’s focus on auto exports from the EU and Japan, on the supposed basis that they are a national security threat, looks very tenuous to this writer and is insulting to our allies. That argument, which is used as a justification for the threatened imposition of tariffs, will probably not be an important factor in the give and take of the serious trade negotiations.

With respect to South Korea, President Trump indicated in his Friday statement that the US-South Korea bilateral trade agreement which was revised last year, included auto concessions  that “ could help to address the threatened impairment of national security.” South Korea officials accordingly are hopeful that their auto producers will not be subject to any eventual tariffs, but recognize the risk remains.

While China-US trade matters will dominate the headlines, US negotiations with the EU and Japan will also continue during the next six months, likely intensifying and becoming more public as the six-month deadline approaches. We expect these negotiations to be difficult, and they may become a source of market turbulence in the closing months of this year. No doubt they, along with developments in the US-China trade disputes, will be issues in the political campaigns aimed at the 2020 elections. Positive and timely settlement of the disputes with the EU and Japan, bringing to an end the uncertainty that is hindering business and investment decisions, would be highly beneficial to the US, EU, and Japan economies.

Bill Witherell, Ph.D.
Chief Global Economist & Portfolio Manager
Email | Bio


Sources: Financial Times, BBC.com, International Trade Administration, reuters.com




Brexit Deadlock and Investor Uncertainty

Markets welcomed the European Union’s decision in April to push the Brexit deadline back to October 31 in order to provide the UK with more time to reach agreement on the terms of a withdrawal treaty.

The risk that the UK would fall into an unwanted “hard” no-deal exit appeared to be substantially reduced. However, since that decision, there has been virtually no evidence of progress in the talks between the two principal political parties, Conservative and Labour. Political paralysis in London is a main cause of what the head of the European Central Bank, Mario Draghi, has called the “persuasive uncertainty“ affecting European markets. Both parties are severely split between those wishing to leave the European Union and be free of all EU obligations and those wishing to remain a member of the EU or at least be in a close trading relationship, a customs union, along with the obligations that arrangement would entail.

Last week’s local elections in England have shown the voters’ frustration with this situation, with both of the leading parties suffering major losses. The BBC projects that the Conservatives lost 1300 councilor seats and Labour lost 80, whereas the Liberal Democrats gained 700 seats, the Independents 600, and the Greens 194. The wave of rejection rising against the two major parties looks likely to become more evident in three weeks, on May 23, when the UK participates in the election of members to the European Parliament. There will be an important new party contesting in that election, the Brexit Party, which is unconditionally for leaving the European Union. It will attract strong “leave” supporters from Labour and even more from the Conservative Party.

Some three years have slipped by since the referendum vote to leave the EU, yet we are still unsure whether Britain will finally be able to make its mind up by October 31. Many possible developments in the next six months, such as a change in leadership of the Conservative Party, a new general election, or even a second referendum, could affect the outcome. With the nation’s being split on the issue and feelings on both sides running high, a period of political turmoil and continued uncertainty looks likely. If a compromise deal is struck, it probably will be a “soft Brexit” including some form of customs union and perhaps an agreement to follow EU standards on workers’ rights and environmental standards. Should October 31 arrive with no agreed deal, the EU will be faced with the difficult choice of further extending the deadline or permitting the UK to fall into a no-deal “hard Brexit.”

The most important effect of the continuing uncertainty about the UK’s future relationship with the EU is its impact on investment decisions. The British economy is deeply integrated with the rest of the EU, with the UK’s closest trading partners in the EU being Ireland, the Netherlands, and Belgium. The Economist notes that every day “nearly 3,400 lorries are ferried between Rotterdam’s port and Britain.” Finance, direct investment, and migrant labor flows are also important elements of this integration. It is understandable that many firms are postponing investment decisions or in some cases assuming the worst and relocating some operations to other EU countries. The effects on the City of London’s business could be severe. For example, in March the EU regulators announced that if the UK should leave the EU without a deal, European banks and asset managers would have to trade a number of UK stocks, including major ones like Royal Dutch Shell and Vodafone, in the EU rather than in London.

Financial investors also are being affected by Brexit uncertainty. The Financial Times reports that Morningstar’s research reveals that investment funds based in the UK experienced outflows in the 12 months to the end of March totaling 30 billion pounds as investors switched out of UK assets and into EU-regulated products. These flows also included internal transfers from the UK to the EU by several asset managers in order to protect their EU business.

It is not surprising that UK stock prices have been underperforming. For example, over the past three years, when the SPDR S&P 500 ETF, SPY, gained an average annual return of 14.08%, the iShares MSCI United Kingdom ETF, EWU, gained an average annual return of just 4.79%. Thus UK stock valuations are becoming relatively attractive – but only if one does not consider the Brexit risk. The FTSE price/book ratio is now 1.7 times (compared with 3.5 times for the S&P 500) and has attracted the return of some international investors this year. At Cumberland Advisors, however, we continue not to include UK-specific ETFs in our International and Global portfolios because we consider the risks knit into Brexit uncertainties to be too high.

Bill Witherell, Ph.D.
Chief Global Economist & Portfolio Manager
Email | Bio


Sources: Financial Times, Wall Street Journal, The Economist, Goldman Sachs, etf.com, Morningstar


Links to other websites or electronic media controlled or offered by Third-Parties (non-affiliates of Cumberland Advisors) are provided only as a reference and courtesy to our users. Cumberland Advisors has no control over such websites, does not recommend or endorse any opinions, ideas, products, information, or content of such sites, and makes no warranties as to the accuracy, completeness, reliability or suitability of their content. Cumberland Advisors hereby disclaims liability for any information, materials, products or services posted or offered at any of the Third-Party websites. The Third-Party may have a privacy and/or security policy different from that of Cumberland Advisors. Therefore, please refer to the specific privacy and security policies of the Third-Party when accessing their websites.

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International Stocks Off to a Strong Start in Q2 Despite a Heavy Fog of Uncertainty

Global stock markets are continuing to advance following one of the best first-quarter performances in years, with the global iShares MSCI ACWI ETF, ACWI, gaining 14.9% year-to-date April 5th.

Cumberland Advisors Market Commentary

That increase includes strong advances in US stocks. Excluding the US market, the gains in international stock markets have also been impressive. The iShares MSCI ACWI ex US ETF, ACWX, is up 12.9% on a total-return basis. This continued equity market strength is occurring in the face of the heavy uncertainty clouding the outlook for the second quarter and beyond. Important issues for investors include the outcome of the convoluted Brexit drama, the US-China trade talks and other trade disputes, and the dimensions of the moderation underway in global economic growth, in particular growth prospects for China, the US, and Germany. Positive outcomes for these issues would validate recent market gains and provide a tailwind to stocks. Downside risks, however, are significant. Until the fog clears, we can expect volatile markets.

We, of course, do not know how these matters will develop, but recently we have noted some favorable signs. The White House and Chinese sources are signaling that a trade agreement between the two countries may result during the coming weeks, with a signing event involving Presidents Trump and Xi looking increasingly likely. Both parties appear to want a deal. This agreement, which President Trump suggests will be “very monumental,” will most likely have to leave some of the more difficult issues to further negotiations. There are other trade disputes that create uncertainties for investors. The administration’s agreement with Mexico and Canada on revisions to NAFTA is under challenge in Congress, and the US and Europe have yet to resolve their trade disputes.

With respect to the economic outlook, concerns about the slowdown in China have been eased by some positive data. The Chinese government’s efforts to stimulate the economy appear to be having productive effects. If the Chinese economy, the globe’s second largest, does manage to advance at a still-robust 6%-plus pace, this momentum will deliver an important boost to the global economy. It would certainly help the largest economy in Europe, Germany, where the recent slowdown is due in part to weakness in exports to China. Concerns about the strength of the US economy, including some predictions for a recession, also appear to be overdone. Recent data suggest continued strength. Another reason for cautious optimism is the accommodative stance of US monetary policy, which is being followed by the world’s other major central banks.

No one knows how the three years of uncertainty since the June 2016 “Brexit” referendum in the UK will be resolved. The situation changes daily, and it now appears that this uncertainty will likely continue for months and maybe longer. The inability of United Kingdom’s politicians to agree how to leave the European Union has already seriously harmed the British economy. Investment decisions have been deferred or redirected. Britain’s reputation as a desirable host for foreign investment has been damaged, and financial institutions are moving staff and operations to other EU countries.

The date of April 12, when the UK could be forced by legal default into a no-deal departure, is getting perilously close. The effects of such a break would likely push the UK economy into recession, and European Union economies would also suffer. Realizing this danger, both sides are seeking to kick the can down the road. Prime Minister May has written to the EU requesting a delay until June 30. She indicates that this postponement will mean the UK will have to prepare to participate in the EU elections on May 23–26 with the provision that the UK could withdraw from the elections if a deal can be finalized earlier.

The European Council president, Donald Tusk, is proposing a much longer extension that would be “flexible” in that the UK could leave earlier if the UK Parliament reaches an agreement on a deal. Any such extension would have to be agreed by all 27 remaining EU members at their emergency summit meeting next Wednesday, April 10th. The EU has said they would need to see some real progress in the UK’s development of a separation deal to be willing to grant an extension. It is looking likely that an extension will be agreed. If indeed significant progress on reaching a deal can be demonstrated, the EU may be willing to agree to the shorter extension requested by the UK. Otherwise, the EU may insist on a longer delay. The possibility of a disagreement on this point presents an additional risk of an unintended no-deal Brexit.

It is difficult to follow the daily developments in the disarray in Britain’s Parliament over Brexit. This is particularly the case for most US readers who are unfamiliar with the UK’s parliamentary system, which is very unlike the US system, even though the inability to reach decisions may sound familiar. The European Union’s political system is also quite different from that of the US. The deadlock in the UK Parliament reflects sharp divisions within both major parties, the ruling Conservative Party and the opposition Labour Party. The lawmakers of both parties in the House of Commons include both strong proponents of leaving the EU (some of whom are willing even to suffer crashing out with no arrangements for what follows) and strong proponents of a “soft” Brexit that involves maintaining a close trade relation with the EU, perhaps in the form of a customs union. Some of the latter would like to cancel the decision to leave. Many would like to see a second referendum held to check the current preferences of the public. Efforts to find a plan that could gain a majority vote have failed, including the plan of Prime Minister Theresa May, which she had negotiated with the EU.

In desperation and against the wishes of some fellow Conservative Party cabinet members, May last week entered into discussions with the leader of the Labour Party, Jeremy Corbyn, attempting to find a compromise withdrawal deal that the House of Commons could support. Following an initial meeting between the party leaders, Conservative and Labour teams are engaged in intensive negotiations aimed at developing a compromise withdrawal agreement that will include a political declaration. It is the latter, nonbinding declaration that might contain the idea of a customs union or a Norway-model option. It may well also contain the idea of a second referendum. If these talks succeed, the plan would be presented to the EU at the Union’s emergency summit Wednesday, April 10th. If there is no progress before the April 10 summit, May will likely be forced to accept a lengthy delay to avoid a no-deal crash-out. Investors and businesses would then face an extended period of continued uncertainty about the UK’s future relations with the EU countries.

Despite the continued uncertainties about the eventual outcome of Brexit, which involves far more complexity than we could summarize above, investors appear to be increasingly optimistic. The iShares MSCI United Kingdom ETF, EWU, is up 2.4% over the past five market days and 15.1% year-to-date April 5th. This performance is better than the Eurozone’s, as the iShares Eurozone ETF, EZU, has gained 13.4%. We are more hesitant with respect to UK stocks at this time. The possibility of a no-deal exit still remains. In addition, the harm already done to the UK economy does not appear to be fully appreciated. The New York Times reports that economists estimate that the British economy is 1.0–2.5% smaller than it would have been without the referendum vote. One can question this analysis, but the 1% decline in business investment expected this year will be evident to all. The financial jobs already lost to Europe will not likely return. The longer Brexit uncertainty persists, the more damage will be done to the UK economy and its reputation. Certainly, a smooth separation process followed by continued strong trade relations would be an important plus for the UK and EU markets, but this outcome is not yet assured.

Bill Witherell, Ph.D.
Chief Global Economist
Email | Bio

Sources: Financial Times, New York Times, Action Economics, cnn.com, BBC News, CNBC.com


Links to other websites or electronic media controlled or offered by Third-Parties (non-affiliates of Cumberland Advisors) are provided only as a reference and courtesy to our users. Cumberland Advisors has no control over such websites, does not recommend or endorse any opinions, ideas, products, information, or content of such sites, and makes no warranties as to the accuracy, completeness, reliability or suitability of their content. Cumberland Advisors hereby disclaims liability for any information, materials, products or services posted or offered at any of the Third-Party websites. The Third-Party may have a privacy and/or security policy different from that of Cumberland Advisors. Therefore, please refer to the specific privacy and security policies of the Third-Party when accessing their websites.

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Cumberland Advisors Market Commentaries offer insights and analysis on upcoming, important economic issues that potentially impact global financial markets. Our team shares their thinking on global economic developments, market news and other factors that often influence investment opportunities and strategies.




1Q2019 Review: International Equity ETF

International equity markets recovered strongly in the first two and a half months of 2019. This followed last year’s sharp drop in global markets, particularly in December. The revival in investment sentiment has occurred despite a moderation in global economic growth, which has eased from an annual pace of 3.8% in 2018 to 3.4% this year. Investors’ fears of a sharp slowdown in China, monetary policy tightening in the US and Europe, and a worsening trade conflict between the US and China have all lessened somewhat. Corporate earnings and strong profit margins continue to support equity markets.

Cumberland Advisors Market Commentary by Bill Witherell, Ph.D.

International equity markets have gained 11.9% since the start of the year on a total return basis as measured by the iShares MSCI ex US ETF, ACWF. The advanced-economy markets excluding the US and Canada advanced by a similar amount, 12.0%, as measured by the iShares MSCI EAFE ETF, EFA. Despite the continuing uncertainties about Britain’s attempts to exit the European Union (Brexit) and export sector weakness, investor interest in Eurozone equities has strengthened. The iShares MSCI Eurozone ETF, EZU, is up 13.4% so far this year. The Japanese equity market also participated in the recovery but has continued to underperform, with the iShares MSCI Japan ETF, EWJ, advancing just 7.7%. Japan’s economy continues to advance at a less than a 1% annual rate of growth.

The recovery this quarter in the equity markets of emerging-market economies has also averaged about 11%, but the variation among individual markets has been great. Leading the pack has been China, with the iShares MSCI China ETF, MCHI, gaining 19.5%. Moves by the government and central bank to provide needed support to a slowing Chinese economy and improved prospects for a US-China trade agreement have turned around investor sentiment. The South Korean equity market, in contrast, has underperformed recently after a strong start to the year, with the iShares MSCI South Korea Capped ETF, EWY, up only 5.5%. The pattern in India has been the reverse: weakness in the first two months followed by a sharp up-tick in March, with the iShares MSCI India ETF, INDA, advancing 6.1% year-to-date. Latin American equity markets began the year with a sharp recovery, driven by gains in Brazil and Chile, followed by limited further gains in the last six weeks. The iShares Latin America 40 ETF, ILF, is up 14.7% so far this year.

Cumberland’s International ETF accounts have held a combination of widely diversified multi-market ETFs together with a number of individual national-market ETFs in which we see particular opportunities. The accounts have a moderate overweight position in emerging markets, particularly in Asia, where growth and earnings prospects are attractive. We have maintained a cash reserve that can be deployed or increased depending on market and strategy developments.

Bill Witherell, Ph.D.
Chief Global Economist & Portfolio Manager
Email | Bio


Sources: CNBC.com, etf.com, Financial Times