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China, today

US-China Negotiations: Smoke and mirrors

8 May 2019
Authors: Wenchang MaPortfolio Manager, Nidhi MahurkarInvestment Director

Trump broadsides negotiations

Renewed trade tension has stepped up a gear again. Prior to last weekend’s escalation China US negotiations were moving ahead – albeit with a lot of smoke and mirrors around a final deal with conflicting statements on the time line being made by both the Chinese and the Trump administration. Indeed, successive rounds of talks had raised expectations on a partial deal on tariffs in phase one of the trade deal. This was beginning to be discounted as the base case in markets and was one of the key catalysts behind the sharp rally in China risk assets – the other being the roll out of China’s fiscal and monetary stimulus.

The sudden announcement by President Trump that the tariff rate on the $200bn tranche of imports into the US from China would rise from 10% to 25% took the market by surprise. This could well be a negotiation tactic ahead of the upcoming Chinese delegation scheduled visit to the US later this week, which many believed could be the final round before an initial agreement.

Caution required

We believe the situation remains unclear on the trade dispute.  A pause in new tariff hikes if announced would be a positive development. However, inking a deal on phase two which encompasses the more thorny issues of intellectual property, industrial subsidies, access rights of foreign companies in areas like cloud computing are unlikely to be resolved so quickly. Enforcement mechanisms on how to monitor trade pledges are also currently being ironed out.

Overall, we are leaning on the side of caution as we believe a recalibration of the trade relationship between the two countries is likely to be a more long drawn out process. A change in the US stance on Huawei is also something to watch – it is not expected any time soon. Thus the broader friction on technology is unlikely to be resolved fully in the very near term. The fact that this a politically charged issue on both sides makes both the timing and the outcome of these negotiations more unpredictable.

Portfolio positioning and activity

The All China Equity Strategy is not significantly exposed to trade cyclicals. These type of companies form a very small part of our investment universe today as they have shrunk in importance. The portfolio is largely focused on the domestic economy. As a rule, we do not invest on geo-political thematic grounds leading to any top down decision to buy or avoid trade cyclicals.

The portfolio remains invested in a high-conviction list of ideas highlighted by our quantitative screen. In Phase two of our process, we conduct our fundamental due diligence, in this case quantifying any material risk from tariffs or sanctions. We believe our consistent execution of this strategy will help us generate alpha over the medium term, regardless of the trade friction which is likely to come and go in waves.

 


 

The value of investments, and any income generated from them, can fall as well as rise. Where charges are taken from capital, this may constrain future growth.

Past performance is not a reliable indicator of future results. If any currency differs from the investor's home currency, returns may increase or decrease as a result of currency fluctuations.

Investment objectives and performance targets may not necessarily be achieved, losses may be made. No representation is being made that any investment will or is likely to achieve profits or losses similar to those achieved in the past, or that significant losses will be avoided.

Specific risks: 

Geographic / Sector: Investments may be primarily concentrated in specific countries, geographical regions and/or industry sectors. This may mean that the resulting value may decrease whilst portfolios more broadly invested might grow.

Derivatives: The use of derivatives is not intended to increase the overall level of risk. However, the use of derivatives may still lead to large changes in value and includes the potential for large financial loss. A counterparty to a derivative transaction may fail to meet its obligations which may also lead to a financial loss.

Emerging market (inc. China): These markets carry a higher risk of financial loss than more developed markets as they may have less developed legal, political, economic or other systems.

Wenchang Ma
Wenchang Ma Portfolio Manager
Nidhi Mahurkar
Nidhi Mahurkar Investment Director

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