Gaming the trade wars

Scott Longley

a high angle view of a factory

The latest market signals posting from the analysts at Societe Generale made interesting reading for anyone worried what the current state of the trade wars might mean for their investments.

“Amid escalating tariff trade tensions between the US and China”, the team wrote, “ETF investors reverted to risk-off mode in May, leading to outflows from most regional equity, HY corporate and EM bond ETFs.”

The notion of risk-off (and its opposite risk-on) is, of course, a well-known concept in financial trading circles where the ups and down of the market are gamed according to what investors perceive to be the risks posed by global political and economic ebbs and flows.

In this instance, it seems clear that the very real likelihood that the trade war between the US and China might be very long-lasting has clearly spooked some investors at an institutional level.

To others, though, the stark face-off between President Trump and his Chinese counterpart Xi Jinping is an opportunity. In the US where - much like with apps for your phone - there is an ETF for any given situation or nuance, a Charlottesville, Virginia ETF provider called MCAM International has attempted to appeal to those looking to sidestep the whole shebang.

It will be launching a fund tracking 120 companies which, according to the SEC filing, might outperform during a trade war as a result of “government patronage”, including benefitting from state contracts or subsidies.

Jumping on the bandwagon

The question arises, at this point, as to whether either reaction to the Trump/Xi face-off - to sell off ETFs or to buy into a fund designed to benefit from the trade ructions - should concern the average investor on this side of the pond.

While there isn’t as yet a culture of ETFs in Europe whereby the merest flickering of an investment trend is accompanied by the launch of a new ETF, it is entirely feasible for investors to assess their portfolio positioning in light of current events.

“Macroeconomic themes sit at the heart of what drives financial markets, so maximising your potential returns, or indeed minimising your downside risks depends crucially upon identifying key macro themes and addressing them in a way that matters to you,” says Rebecca O’Keeffe, head of investment, interactive investor.

It isn’t just trade wars causing alarm. As O’Keefe points out, at present investors have an over-abundance of potential market flashpoints which they might want to be considering when it comes to their investments. For those of  a nervous disposition look away now but a brief rundown would include the trade wars and Brexit (of course), but also longer-term fears over climate change, demographic changes, the further proliferation of robotics and AI…

What such a worry list shouldn’t do, naturally, is cause any panic (or at least not yet) and upset an entire asset allocation strategy. Oliver Smith at IG Portfolios makes the point that professional investors will be using two filters in order to invest their clients’ money; first, they will have their strategic asset allocation which, they will hope, is designed to produce the long-term returns whatever the backdrop.

Then they will also have more short-term tactical asset allocation trades or TAA. “Positioning portfolios for trade wars fits into TAA thinking but could be expressed through underweighting equities or increasing duration in fixed income if it was feared a trade war might lead to a recession,” he says.

James McManus, investment manager and head of ETF research at Nutmeg, says that investors should certainly be factoring in the global trade environment into at least some portion of their portfolio.

“The health of global trade is intrinsically linked with the health of the global economy, particularly emerging nations that rely heavily on trade due to their export orientated economies and the performance of many major investment assets,” he says. “We look at a range of global trade indicators and monitors within our process.”

However, he cautions against investors or their advisers being too reactive lest they get the short-term portfolio positioning wrong. “I think the fluidity of events and news flow when it comes to trade disputes prevents strategies such as this from being an optimal way to position for the many different medium-term outcomes,” he adds.

Similar fears are expressed by O’Keefe who points out that the identification of themes is one thing; calling them right in terms of their impact on their portfolio is another. She cites Brexit here.

“There is no doubt that as an investor, you would have been much better off investing in overseas assets or those UK companies that do most of their business abroad, but that hasn’t stopped many investors from buying into stocks or funds that appeared to look cheap but have since dropped (much) further as the crisis slowly evolved,” she points out.

As an example – and again for the squeamish we must issue what is known now as a Woodford warning – she highlights how even investment gurus (sic) can be caught out. “Woodford’s flagship fund nailed its mast to ‘cheap’ UK stocks which have since underperformed massively,” she says. “It seems easy to see all of this with 20:20 hindsight, but how many of us bought UK assets that appeared to be good value only to see them sink dramatically alongside the waning fortunes of Mr Woodford?”

Get it right this time

Still, this little warning from the land of investment hubris shouldn’t mask the fact that investors in ETFs now have a number of options should they wish to refine their investment strategies in light of events.

Over the past decade, the number of ETFs that allow you to invest in a particular theme or take a tailored risk has increased substantially,” O’Keefe says.

“You still need to do your own research to make sure that the underlying constituents of these strategies meet your objectives, and you also want to make sure that you’re not putting all your eggs in one basket - but having a view on the main macro themes and working out where to invest is likely to generate good returns if you get it right.”


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