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Old 10-09-2018, 05:18 PM
John Tollerman John Tollerman is offline
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Default Family businesses are key for a nation’s economy

AA Union Capital (AAUC) Research Institute has conducted research on family businesses globally. One of the findings of the latest AAUC Family 1000 report is that family-owned businesses outperform the wider market not only because of their superior financial performance but also due to factors such as a more conservative long-term business focus and greater emphasis on innovation. Hence, they are among the most important building blocks of a nation’s economy.

With regard to the Swiss economy, stronger-than-expected growth along with greater risk aversion has strengthened the CHF recently. Given the risk of appreciation, the Swiss National Bank will likely maintain a cautious stance at its upcoming monetary policy assessment on 20 September.



CIO view
Blinkmanship


■ As the brinkmanship continues to intensify in the US-China trade dispute, so too does the obfuscation and misdirection. Until this fog of war dissipates, it is perhaps more useful to consider the range of possible outcomes and their divergent implications, which we have delineated in this piece.
■ Our base case is for a 10% tariff on USD 200 bn of Chinese imports to be met with some retaliation. Equities could rally 15% over six months and the USD/CNY should be capped at 7.0.

Will it be China or the USA? Which side will blink first in the increasingly complex trade dispute between the two countries? Which side will decide first that the domestic cost of the dispute outweighs its perceived economic value and subsequently seek to close out the issue, albeit in the guise of a political victory?

Apparently it isn’t the USA. On Thursday, US President Donald Trump stated that he felt “no pressure” to reach a trade agreement with China despite news the previous day that his administration had extended an invitation to Beijing to hold ministerial-level talks.

It is well within the bounds of possibility to think that pressure is building from US businesses to stop the trade dispute from escalating. Ahead of the mid-term elections, President Trump is probably looking to engineer some positive Mexico-style newsflow. Possibly, he is seeking to distract media attention away from the daily drama that seems to characterize his administration.

We just don’t know at this juncture. And until we are able to derive a sense of clarity on an ultimate end game, uncertainty, opacity and concern will likely frame investor sentiment. As such, we present – and discuss – three possible scenarios, which we hope will assist clients in shaping their thoughts on the dispute.

Base case (50% probability): The USA imposes 10% tariff on USD 200 bn of Chinese imports; China retaliates somewhat, but both parties eventually reach a negotiated settled over the following 6–9 months.

■ Macro: 2019 China GDP growth reduces by 0.6%, half of which will be likely offset by domestic stimulus – e.g., accelerated infrastructure investment. Thus, we expect China growth to slow to 6.2% next year from 6.5% in 2018.
■ Currency: USD/CNY to be range bound at 6.8–7.0. The recent depreciation largely reflects this baseline scenario and models indicate a fair value of around 6.9.
■ Equities: Expect a 15% rally over the subsequent six months but sideways action in the near term. Earnings are still strong and negative news is in the price after the recent de-rating. The P/E ratio for China A-shares is now below the 2015 sell-off levels. However, a lack of positive newsflow could keep buyers on the sidelines in the near term.
■ Credit: Expect China investment grade (IG) to deliver 4% and China USD high yield (HY) to deliver 7%–8% over the next 12 months. For IG, credit fundamentals would remain intact and the gradual rise in US Treasury yields would be offset by spread compression. For HY, sentiment and valuations have improved as the People’s Bank of China fine-tunes policy on credit and currency; but refinancing issues and trade impact would weigh.

Bear case (30% probability): The USA imposes a 25% tariff on USD 200 bn of Chinese imports and threatens to proceed with another USD 267 bn. China retaliates strongly and both sides fail to reach a deal in the next 12 months.

■ Macro: 2019 China GDP growth is reduced by 1.1% reflecting the difficulties of distributing 25% of tariffs across the supply chain. Chinese authorities could respond with further domestic stimulus to offset some of the negative impact, but this will be limited by China’s now smaller current account surplus of just under 1% of GDP and the authorities’ desire to keep the current account in surplus. We expect GDP growth to slow to about 6% in this scenario, with some downside risk.
■ Currency: Given a more significant impact on growth, the CNY could weaken by at least 5% to offset the trade negatives, with USD/CNY breaching 7.20. In a worst-case scenario of Mr. Trump imposing tariffs on virtually all imports from China, China could let the CNY fall to around 7.30–7.40 to offset the tariff.
■ Equity: Bank asset quality, company profitability and consumption demand are likely to be affected. Earnings growth estimates for 2019 could be revised lower from 15% to 10%. In this case, anticipate a further 10%–15% correction.
■ Credit: China IG to deliver 5%-6%, benefitting from safe-haven demand. China HY to generate total returns of less than 3%–4% given the strong inverse relation in HY spreads and Chinese equities.

Bull case (20% probability): The USA does not impose further tariffs and strikes a deal with China (similar to that with Mexico) in the next 3–6 months.

■ Macro: Impact on China’s growth outlook will not be significant, in part because we estimate that the direct full-year effect of the current 25% tariffs on USD 50 bn of US imports from China is small at only about 0.2% of GDP. As such, most if not all of this will be offset by the Chinese government’s monetary and fiscal stimulus efforts.
■ Currency: The CNY appreciates to around 6.50 against the USD.
■ Equities: A-shares rebound by 15%–20%, led by banks.
■ Credit: China USD HY +10% outperforms IG +3%.
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