Equity markets have bounced with varying degrees of enthusiasm since the last edition in which we pointed out bottom extensions in the Nasdaq and some in energy contracts too. US indices are now at (or just under) the level where we would expect some resistance to further strength, from some old compressions, as circled here:
The situation is similar in Europe, although the rally has been weaker. Both the Dax and the Eurostoxx have also moved up to the area of old compressions BUT have pushed slightly through them. This could mean that there will be more strength soon, so if you bought on our advice on June 4th protect profits but do not sell short:
The other extension signals published in that last edition have not resulted in market reversals but in 'flattening' of prior trends - as often happens with extensions. They were bottom signals in energy and top signals in Government bonds. Here are updates and a reminder that these signals are now getting a bit old:
Press editorials have been spreading a mood of imminent apocalypse as the China-US trade tussle drags on, with side skirmishes between Mr Trump and anyone else who dares run a trade surplus with the US. The Middle East is even more restive than usual with Iranian Comedy Commandos caught red-handed with a ship mine and a possible imminent bloodbath in Idlib, as at the end of the Sri-Lankan civil war. That remaining bit of the Syrian conflict may not end as badly as we fear but it all adds to the feeling of general foreboding. We are not so pessimistic.
Our view is that the main (Sino-US) trade dispute has turned into something completely intractable and so will freeze into a stalemate. The problem is the profound one of openness vs its opposite. The prevailing US view is that China has built its recent prosperity on a mixture of intellectual property theft, government aid for strategic industries and protectionism. This opinion is widespread and shared by many in Europe too but everyone kept quiet about until Mr Trump began his combative presidency and brought the New York Real Estate style of negotiating to diplomacy.
The US-China Economic and Security Review Commission July 2018 report is instructive reading as it clearly points a finger at China's protectionist and statist approach, setting the scene for the current negotiations, which are now stuck. The basis of China's approach to its own economy and so its place in the world are rooted in the old centrally determined 5-year planning of the communist era. This means that what the US wants is simply not available.
Much of the economic growth of the last few years in the US has been in the sectors exemplified by the so-called FAANGs. These inhabit the 'post-industrial' space that is mainly closed off to foreigners within China. The Chinese government cannot permit free entry for such businesses without losing its present tight control of social media which might (would?) lead to its downfall. Intelligent Chinese bureaucrats know that the current renewed enthusiasm of a role for government planning in business will eventually lead to failure and economic crisis but they are constrained by the imperatives of communist party rule. Huge economic trouble is inevitable if they persist in this mad misallocation of resources but the political consequences are not - there need not be an end to one-party rule if the government keeps a tight grip on everything.
That means the current trade talks will ultimately lead nowhere as China will not open up its economy to any significant degree, now or in the foreseeable future for fear of the domestic political consequences. They may buy more soybeans but so what? - unprocessed farm produce is only about 1% of US output.
Consequently, we are looking at the emergence of a bi-polar world in which there is divergence between the Chinese way of doing business (domestically and abroad) and the US/European approach. It may be that the West will mistakenly try to emulate the state capitalism of the Chinese but hopefully enough sensible people will point out that this would be ruinous and so we will avoid this trap. In the meantime, instead of some sort of crescendo of conflict, it is more likely that some sort of standoff will result in which political interests and alliances harden into spheres of influence and world trade stops growing. Trade within these spheres may keep growing but the current kind of globalisation looks set for at least a pause for some years.
That means we should not expect that conflict will worsen but that there will be an armed truce with occasional periods of peace. In this, commercial links between China (and maybe its immediate neighbours) and the US/Europe will not grow and may shrink back. Some have already realized this and once it is more generally seen, businesses will make other arrangements and it is likely that the effect on economic growth will be slight - the global population annual 1% growth rate may cover up any ill effects. China's population isn't growing but India's and Africa's are.
Accordingly, the 'emergency' will pass, fears of disaster will fade and the world will get used to yet another gritty situation that will last for years. The current flight into bonds will seem silly and some new kind of normality will emerge. Let's not forget that the cold war was punctuated by shrill warnings of imminent disaster too but no crisis ever developed into a full-fledged inter-great-power war.
All signals courtesy of software supplied by our friends at Parallax Financial Research www.pfr.com