“Nevertheless, we remain skeptical that [the] partial deal that has recently been the focus of attention can be reached”, SocGen writes, in the latest edition of their global risk outlook.
“Partial deal” is, of course, a reference to the “Phase One” trade agreement between the Trump administration and Beijing, which continues to serve as a near daily source of rocket fuel for US equities, whenever the White House feels like things might need a boost.
The latest batch of rhetoric came on Sunday when Wilbur Ross expressed what, for the narcoleptic Commerce secretary, counts as “optimism”. “We’re in good shape, we’re making good progress, and there’s no natural reason why it couldn’t be”, Ross told Bloomberg TV, asked if “Phase One” will in fact be signed this month.
He then threw a bit of cold water on things. “But whether it will slip a little bit, who knows. It’s always possible”.
For his part, Trump claims the deal, assuming it’s actually completed, will be signed somewhere in the US. Chile canceled APEC due to local unrest, throwing a monkey wrench into the US president’s plans for a photo op with Xi later in November. Ross floated Alaska and Hawaii as possible locations, in addition to Iowa, which has come up more than once. One wonders whether Xi will be enthusiastic about the prospect of flying halfway around the world and used as a stage prop for what amounts to a Trump publicity stunt.
And yet, even as the market now seems sure that “Phase One” will get done (even if both investors and Chinese officials believe the chances of a longer-term deal that addresses structural issues are effectively zero), it’s difficult to understand how the White House can possibly spin the nebulous agreement as something consequential. As SocGen puts it in the note mentioned here at the outset, “it is hard to see how Tump can credibly present such an outcome as a victory, given that complex issues like IPR protection etc. are likely to remain unsolved”.
The bank has raised their subjective probability of a “peace deal” before 2021 to 30% from 20%, but that’s mainly due to the notion that Trump’s move to split the tariffs announced on August 1 into two tranches, and his subsequent decision to cancel the planned October 15 escalation, together amount to a tacit acknowledgement that the White House was pushing its luck.
“[These] are signs that the US administration is realizing that the pain threshold for the US economy is quickly being approached”, the bank writes, adding that “the scope for additional protectionist measures that the US and China are likely to impose on one another has shrunk considerably beyond the status quo”. The prospect of mutually assured economic destruction compels the bank to slash the probability of a “severe further escalation” to 25% from 45%.
The bad news in all of this is that, much like some other desks which have resigned themselves to trade tensions being a fact of life, SocGen believes “the maintenance of the status quo, which would mean that all the implemented and announced measure are eventually imposed and maintained for the foreseeable future, now looks like the most likely scenario, and we ascribe a probability of 45% (up from 35%)”.
It’s hard to believe it was just 14 months ago when market participants and analysts were marveling that Trump appeared some semblance of serious about going “all-in” on China, where that meant taxing the entirety of Chinese imports.
“I hate to do this, but behind [the $250 billion] there is another $267 billion ready to go on short notice if I want”, Trump told reporters aboard Air Force One on September 7, 2018.
Fast forward a year (and change) and we’re one escalation away from “all-in” becoming a reality. That escalation is scheduled for December 15.
Beyond the trade conflict, SocGen delivers the usual color commentary around their “Swan Chart”. As a reminder, here is what the bank attempts to do with the visual (which is updated at fairly regular intervals throughout the year):
Our Swan Chart is an attempt to identify upside and downside risks to our growth forecasts, i.e. relative to our base-case scenario. To keep these risks manageable and relevant, we focus on a one-year horizon, i.e. on the probability that the risks materialise within that timeframe. Similarly, we attempt to ‘guesstimate’ what kind of impact the materialisation of any risk might have on growth on a one-year horizon.
Here’s the latest version:
When it comes to the 10% probability assigned to “sharp market correction”, you’ll note that the general assumption is that central banks will prevent anything too bad from happening. To wit, from SocGen:
The risk of a sharp market re-pricing to the downside looks about as likely as it did three months ago, at around 10%, after the marked repricing of December last year. Admittedly, that correction has by now been more than reversed in most stock markets. Still, the fact that the correction did not turn into a rout has reduced the risk of a sharp downward repricing. More importantly, the shift in expectations about central bank policy has also reduced the downside risks, as monetary conditions are now expected to be lastingly more accommodating. That said, we are concerned that markets have become excessively gloomy about growth prospects and have therefore depressed bond yields excessively, suggesting that the risk of a correction in bonds has grown.
For what it’s worth, the bank still sees a mild recession in the US in 2020 (incidentally, so does Mick Mulvaney, according to at least one account).
“Our base-case scenario of mild recession in the US in 2020 and a further slowdown in the global economy and corporate earnings implies staying Underweight global equities in our asset allocation”, SocGen says.
Their Q3 2020 target for the S&P is just 2,800, with 60% conviction.
(SocGen, as of October 24)