Market Bulletin - Persian peril
The US pulled out of the Iran nuclear deal, a populist coalition was agreed in Italy, and the Bank of England left rates on hold.
“The rose that once has bloomed forever dies,” wrote Omar Khayyám, the Persian poet, some 900 years ago. So it may prove for the historic Iran nuclear deal of 2015, after Donald Trump pulled the US out last week – his plan to reinstate sanctions would place the US in violation of the treaty.
The move also pulls at the seams of the transatlantic alliance, leaving the US’s Middle Eastern policy most closely aligned with that of Saudi Arabia and Israel. (The US then opened its new embassy in Jerusalem on Monday this week.) The EU has three to six months to persuade the US to offer exemptions to all those European companies that do business with Iran, or face US sanctions (to which European governments may feel compelled to respond in kind).
Indeed, this raising of the stakes was hardly a freak occurrence. Only the week before, Washington had published a “draft framework” for its trade talks with Beijing. Few commentators envisage China even considering the paper’s radical demands, which include a reduction of bilateral deficits by $200 billion by June 2020.
Trump’s blunderbuss approach to trade relations notwithstanding, the US continues to enjoy strong growth. Last week, the economy of California became larger than the economy of the UK, despite boasting less than two thirds the population, although a fourth consecutive week of gains for the dollar was a contributing factor.
Perhaps the most significant corporate news in America last week came from its largest chain of department and grocery stores. Walmart confirmed its intention to pay $15 billion for India’s Flipkart, an online retailer founded in 2007 by two former Amazon employees. The deal would be the largest foreign direct investment in India’s history. Amazon is hardly stopping for breath itself. Last week, it emerged that the online retailer tried to buy Waitrose in 2017; and that it will work with Sears to manage installation of tyres sold on Amazon. The S&P 500 rose more than 2% over the five-day period.
Yet for all the good tidings emerging from corporate America, the dollar’s recent rise also owes much to global events. Donald Trump’s cancellation of the Iran deal – as well as economic disruption in Venezuela – pushed the price of a barrel of oil to a three-and-a-half year high on supply fears. The energy-heavy FTSE 100 rose by just over 2% across the week, with BP and Shell featuring heavily in the index’s gains. The index also benefited from strong quarterly results for Imperial Brands and from news that Shire’s board voted to approve the takeover by Japan’s Takeda Pharmaceutical Company.
Moreover, Vodafone agreed a €18.4 billion deal to buy Liberty, the German media conglomerate, offering it the potential to compete with Deutsche Telekom in Europe; the acquisition would turn the UK company into Europe’s largest provider of high-speed broadband and cable. BT also announced a significant redirection towards fibre broadband with the culling of 13,000 jobs (although it will hire plenty of new technicians). Retail trends were less reassuring, with total sales down 3.1% in April, the worst monthly decline since records began in 1995 – JD Wetherspoons and Greggs both suffered. Footfall in UK shops across March and April fell by 4.8%; a drop steeper even than that of March–April 2009, in the depth of the global financial crisis.
The recent retail and growth dips in the UK meant that, despite different expectations just a month ago, the Bank of England's decision not to raise rates came as no surprise to markets. Voting 7–2 in favour of keeping the base rate at 0.5%, the Monetary Policy Committee said it will wait to see if the growth dip of the first quarter was a blip or the start of a trend, before moving rates any further up. Indeed, market forecasts put interest rates at just 1.25% – still some way below pre-crisis levels – in three years’ time. JPMorgan figures show that the current rates environment means savers with £100,000 in a three months’ notice account for the 12 months to March this year would have gained just £740 in interest – against £6,000 back fort he 12 months of 2007.
The governor came in for plenty of criticism from investors who felt he hadn’t sufficiently prepared them for the rates stall, but his week must have felt like a holiday compared to the prime minister’s. In a surprise result on Monday, Theresa May faced a rebel amendment in the Lords that means she must now allow MPs a vote on keeping the UK in the European Economic Area – effectively the single market. Her ‘customs partnership’ plan then received loud public criticism from her foreign secretary, and she felt unable to criticise him publicly. Meanwhile, Liam Fox’s department was facing the prospect of hundreds of job cuts, raising questions over the ‘global Britain’ vision of the more free-market wing of the pro-Brexit lobby. Finally, John Major warned that leaving the customs union would ultimately mean a hard border between Northern Ireland and the Republic for several regularly traded items, not least animals. By the end of the week, the gaping fissures in party, Cabinet and Commons were even more visible.
Yet one of the most significant political announcements of the week came in the form of a report by the Intergenerational Commission, which is headed by David Willetts, the former minister of state for universities and science. It called for a ‘Citizens’ Inheritance’ of £10,000 for 25-year-olds to help them onto the housing ladder. It also floated the possibility of reducing some of the allowances and exemptions currently enjoyed by pensioners – or those saving for a pension – including an end to the exemption on National Insurance payments for pensioners.
“We all recognise the problem of intergenerational wealth disparity, but this report floats the possibility that pensioners may help to foot the cost of addressing it,” said Ian Price, divisional director at St. James’s Place. “If pensioner allowances and exemptions are now under threat, it highlights the urgency of using them while you can, and finding the best expert advice as the landscape shifts.”
Two leading equity markets to have enjoyed particularly strong runs in 2018 are those of France and Japan. In the case of the former, the reforms of Emmanuel Macron have contributed to increasing confidence in the direction of French policymaking, while the economy – until first-quarter results – was looking exceptionally strong. Last week, the MSCI Europe ex UK continued to rise, aided by both a weak euro (against the dollar) and some positive corporate news, including for Nestlé, which announced a $7 billion licensing deal with Starbucks.
Yet there were major concerns over the political outlook in Italy, after the country’s two leading populist parties forged an 11th-hour coalition. The agreement between the Five Star Movement and Northern League creates a headache for the EU. While the agreement represents a compromise between different programmes, both groups are Eurosceptic. They have pledged not to contest Italy’s EU membership, but a deal to cut taxes and boost welfare payments is likely to contravene the currency bloc’s budget rules – Italy’s debt-to-GDP ratio is the second highest in the EU. Italy’s stocks were notably unresponsive.
Japan, on the other hand, is enjoying both a good corporate run and relative political stability too. Last week the Chinese premier was in Tokyo seeking to agree closer trade ties between Japan, South Korea and China, as Kim Jong-un, North Korea’s leader, made his second trip to Beijing this year. The TOPIX rose by more than 1%. Nippon Value Investors, based in Tokyo, argues that relatively attractive valuation levels, strong earnings, improving operational efficiency, and strengthening corporate governance make Japan an appealing proposition for investors.
Nippon Value Investors is a fund manager for St. James’s Place
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