The economics of geopolitics
Trade war escalation and stalled Brexit negotiations have boosted investment risk and market volatility. Our panelists discussed the geopolitical landscape and how it's influencing investment decisions.
Equity markets have roared back following the sharp correction at the end of 2018. The S&P 500 Index had advanced 17% as of June 30, with every sector posting gains. The rally had a pro-cyclical component to it as information technology, consumer discretionary and industrials delivered the strongest sector returns while energy and health care were the laggards.
Looking ahead to the remainder of the year, we believe equities face intensifying headwinds as the pace of global growth slows and trade turmoil lingers. We examine how these macro forces could impact 2019’s top performing sectors to date: information technology, consumer discretionary and industrials.
Information technology continues to be a key catalyst for upward market activity, posting a 26% return for the first half of the year. However, reported antitrust investigations into four of the largest tech companies and ongoing uncertainty about U.S.-China trade relations have led to an uptick in volatility.
The U.S. government’s alleged antitrust violations at Apple, Amazon, Facebook and Google-parent Alphabet could create short-term implications for the sector. However, we believe the result of this action won’t be known for months, if not years. We don’t anticipate any short-term issues, so we will assess the situation in a long-term context.
Trade turmoil triggered bouts of volatility for semiconductor companies, particularly after the U.S. blacklisted Chinese telecom giant Huawei in May, forbidding U.S. companies from doing business with it. This action caused many chip makers to lower their forecasts for the back half of 2019, while semiconductor end-users became increasingly cautious with placing orders. However, those outlooks could moderate after Trump indicated a reprieve of the ban could be forthcoming as a result of talks at the G20 Summit. We believe the emergence of secular growth opportunities, such as the “Internet of Things” and 5G, could continue to support the space.
Trade is also a concern for many consumer discretionary companies. Luxury goods makers have largely avoided incremental tariffs to date. However, further escalation of levies of Chinese products would have a direct impact by driving up the cost of goods sold for many discretionary products. The indirect effect would likely be a drop in demand as brands raise prices to offset tariffs and consumer confidence could drop as a result.
We believe consumer discretionary companies with globally diversified supply chains and revenue streams —and therefore less dependent on China imports— could be better positioned in the event of an escalation of the trade war.
Industrials have shown more resilience in 2019 after clear underperformance last year amid rising trade fears and ebbing economic stimulus. This improved performance can be attributed partially to the fact that the sector was hit harder by the initial rounds of tariffs last year. We believe the sector could be in a position to better withstand the impact of any incremental tariffs.
In addition, we believe there could be opportunities for equities that are relatively unaffected by the trade situation, particularly in the aerospace and defense sub-sectors, as well as those that are likely to benefit from a resolution of the trade war, such as multi-industrial and machinery companies.
Past performance is not a guarantee of future results. Risk factors: Investment return and principal value will fluctuate, and it is possible to lose money by investing. International investing involves additional risks, including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets. Fixed income securities are subject to interest rate risk and, as such, the net asset value of a fixed income security may fall as interest rates rise. Investing in below investment grade securities may carry a greater risk of nonpayment of interest or principal than higher-rated bonds. Investing in the energy sector can be riskier than other types of investment activities because of a range of factors, including price fluctuation caused by real and perceived inflationary trends and political developments, and the cost assumed by energy companies in complying with environmental safety regulations. These and other risks are more fully described in a Fund’s prospectus.
The S&P 500 Index is a float-adjusted market capitalization weighted index that measures the large-cap U.S. equity market. The index includes 500 of the top companies in leading industries of the U.S. economy. It is not possible to invest
The opinions expressed are those of Ivy Investment Management Company and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through July 2019, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.