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Un repaso a los mercados

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    <strong>Artículo publicado en <a href="http://www.lacartadelbolsa.com">La Carta de la Bolsa</a> el Martes, 17 de Enero en la sección: Articulos</strong>
    <h3 class="titulo_articulo">Un repaso a los mercados</h3>
    Redacción
    <p><img alt="" class="ilustraciones" src="http://lacartadelabolsa.com/images/ilustraciones/merhjru.jpg" style="border-style:solid; border-width:1px; height:100px; width:140px" />Last year’s ‘consensus’ bearish forecasts – collapsing China, 40% devaluation of RMB, oil to 16 dollars, a collapse of emerging markets, a 20% fall in western equities and house prices and a recommendation to rush to high quality bonds, could hardly have been more wrong. Partly this reflected the starting point – these were largely noise trades extrapolating an adjustment that had already happened. Ironically the commodity price direction predicted for last year may well occur in 2017 – and not only because the same consensus appears to be betting on inflation.</p>
    <p>·        Demand may be higher than expected by economists, but not by markets, supply is still likely to come forth meaning predictions of inflation are premature. The markets are attempting to impose a short term cycle while ignoring a long term structural shift.</p>

<p>·        The fundamental drivers of alpha haven’t changed, the market pricing of beta has. Last year it paid to be contrarian, but by reacting to market moves, not by trying to anticipate them. This year may throw up similar opportunities. For now the biggest consensus to challenge (in my view) is the consensus on renewed inflation.</p>

<p> </p>

<p>This time of year tends to be full of presentations and conferences at which strategists and economists set out their <strong>predictions for the year ahead</strong>. As we discussed before Christmas, these rituals <strong>continue despite in my view there being little evidence that they add very much value to the decision making process</strong>.  A key part of the reason for this is that movements in markets do not react to fundamentals in the way that we like to presume; getting the numbers ‘right’ is rarely a key to one year returns, particularly in equity markets. <strong>This time a year ago,</strong> the consensus was that China was going to collapse, the renminbi (RMB) was going to devalue 40%, oil prices were going to 20 US dollars as were and that Russia was going to implode. The most high profile of these predictions came from <strong>a certain research team </strong>who <strong>claimed to ‘sell everything’</strong> – except high quality bonds. Now I don’t normally pull up other people’s forecasts a year later but for the grace etc., this is a useful reminder of the behavioural finance aspects of forecasting.</p>

<p> </p>

<p>Their claims of among other things oil at 16 US dollars, a fall of 20% in western markets and a sequel to 2008 were eagerly lapped up, not just by the press, but by investors hugely long fixed income and eager to reinforce their prejudices. Needless to say, they got pretty much everything wrong.  As the Sydney Morning Herald reported, an Australian economist challenged this team to back their bearish stance and even though they didn’t respond kept track anyway. <strong>All 11 nominated markets that they said to sell went up instead, by an average of almost 30%, with iron ore up 85.9%.</strong></p>

<p> </p>

<p><strong>The real lesson from this in my view is to separate out alpha opportunities from beta opportunities</strong>. The former emerge from the bottom up, focussing on potential earnings and cash flows from corporates, while the latter can emerge from market over-reaction and subsequent mis-pricing. This is not to say that the market is wrong – in a sense it is always right, it is just <strong>that the market price is always the clearing price at the margin</strong>. If the marginal buyer is a forced buyer or the marginal seller a distressed seller, then it may be the case that a long term investor can profitably take ‘the other side’ of that trade and obtain a positive return.</p>

<p> </p>

<p>In recent years, traders have paid a lot of attention to <strong>economic surprise indices</strong>. These <strong>work on the basis that the price of assets reflect the current consensus economic view and that any data point that counts as a surprise necessarily requires a re-pricing of assets</strong>. To my mind this is a rather dubious proposition. I can accept the notion of earnings surprises at the stock level – there is clear evidence of serial correlation in earnings revisions, not least because both companies and analysts tend to upgrade in steps. This does not apply to economic data however, which is both lagging bottom up data and subject to heavy revision. Moreover the idea that assets price off economic data has little hard evidence to support it. Historically there was a connection between economic data from the US and the actions of the Federal Reserve (Fed) – the so called Fed Model – but as we have discussed on many occasions in these notes, the Taylor Rule, which seeks to capture the relationship between economic data and US interest rates has failed to predict Fed policy for over a decade. <strong>This then is an area where there are often opportunities to be contrarian. The market will herd in one direction on the back of data surprises, offering an opportunity to trade in the other direction.</strong> We don’t need to predict the move, just wait for the ‘new data’ to be priced in, then move the other way.</p>

<p> </p>

<p>If we look at Chart 1, we can see the Citi economic surprise index for China – essentially tracking where the economic data ‘beat expectations’ – black line above zero – and where it missed expectations. Notice how as economic  data deteriorated in Q1 compared to expectations, the Chinese equity market started to rise and continued to do so all the way through until September – indeed it appears that <strong>the market leads rather than follows the economic expectations.</strong></p>

<p> </p>

<p><strong>Chart 1: Economic surprise data does not help asset allocation</strong></p>

<p><img alt="china expectations" id="<image004.jpg@01D270AF.736BFB90>" src="cid:image004.jpg@01D270AF.736BFB90" style="height:4.675in; width:6.4916in" /></p>

<p>Source: Bloomberg</p>

<p> </p>

<p>Meanwhile <strong>the Chinese currency</strong> – the subject of much speculation this time a year ago has hardly moved – certainly by comparison to the likes of the euro and sterling. While it did weaken by just under 5% against the US dollar over the last 12 months, this was a long way off the 40% numbers being shouted out at Davos last year and as the chart shows, against the two proxy currency baskets – one a trade weighted from the Bank of International Settlements and the other the RMB basket for the International Monetary Fund special drawing rights basket inclusion, the currency has been very stable (I have indexed them both to January=100).</p>

<p> </p>

<p><strong>Chart 2</strong></p>

<p> </p>

<p><img alt="rmb basket" id="<image006.jpg@01D270AF.736BFB90>" src="cid:image006.jpg@01D270AF.736BFB90" style="height:4.675in; width:6.4916in" /></p>

<p>Source: Bloomberg</p>

<p> </p>

<p>This is not to say that one should automatically do the opposite of <strong>the dominant macro narrative, rather that it can offer opportunities to gather returns from beta. </strong>In this case the best return was not from the currency (where actually the consensus was correct – if wildly exaggerated -  but in iron ore where the short position had become extreme and the bounce was very dramatic (-80%)).</p>

<p> </p>

<p><strong>Much of the focus for this year now of course is on something that was not even considered a year ago – the policies of Donald Trump</strong>. In the immediate aftermath of the election the market focussed on promises of tax cuts and infrastructure build out and concluded that this made a tighter monetary policy more likely. Typically, it has now become somewhat impatient with these medium term projections (even before he takes office) and is rotating away from them. Equally, some of <strong>the consensus negative views – specifically around the damaging aspects of trade, a strong dollar and America first</strong> – are also being reassessed. This in my view is <strong>where the beta opportunities may be found</strong>. </p>

<p> </p>

<p>This is not to be deliberately contrarian, but <strong>I suspect that there is value in buying emerging markets (EM) and in selling commodities at these levels.</strong> Consensus on EM is negative, largely over trade barriers and a stronger dollar. I suspect the negative aspects are overdone. The historic problems of EM with a stronger dollar were largely a function of large amounts of un-hedged US dollar denominated debt which left EM economies vulnerable to tighter US monetary policy as they controlled neither the price nor the availability of credit. As discussed at the time of the election, I believe this is far less of a problem than in the past as EM companies have increasingly been able to hedge their currency exposure, or borrow in local currency. Similarly with threats of tariff barriers. Currently we don’t know exactly what Mr Trump will propose – although Congress has made it clear that they will not support anti trade policies and it is worth noting that there are already large tariffs on some products (500% duty on Chinese flat rolled steel for example). The ‘deals’ so far with corporates appear much more about trying to stop ‘offshoring’ of jobs to Mexico and other places. The proposal of a border tax rather than tariffs would actually hit developed markets more than emerging markets (ex. Mexico) which suggests that current pricing is giving this a low probability.</p>

<p> </p>

<p>Thus <strong>to the extent that EM sold off post Trump, there may well be some opportunity at the beta level. </strong>To be clear, this  still leaves the question in certain markets as to how those local currency loans are ultimately funded since for countries with a current account deficit it ultimately still requires dollar funding somewhere in the system, but the situation is not like it was in previous EM crises. There is also the case that part of the thesis behind a stronger dollar is stronger US growth. I<strong>f, the US economy grows faster, then this is generally good for emerging markets</strong> in terms of demand. This after all is part of the thesis behind stronger commodity prices - something nobody forecast last year but everybody appears to be doing this year. Here again I am not convinced; the lesson of the last decade has been that <strong>commodity prices are more about supply than demand</strong> and one of the things we can observe is that higher prices (as we saw in H2 last year) will bring forth supply.  This is particularly true in oil and as one strategist pointed out to the team here recently, <strong>an obvious way to improve the US trade balance</strong>, benefit consumers (and coincidently make it difficult for Russia) would be for <strong>the US to produce as much shale oil as it can. Thus just as a year ago, oil at 25 dollars was being forecast to drop to 10 dollars, so now it is 53 dollars and forecast to go to 70 dollars.</strong> I suspect this will be another missed forecast.  The fact that the high yield bond ETF tracks the oil price means that this may be a second order play on oil (as iron ore was for views on China) such that if the oil price comes back there may be a sell-off here too. However, given that the likely reason for weaker oil is considerably higher output from the very leveraged shale players that dominate the high yield index, this may present a buying opportunity were it to occur.</p>

<p> </p>

<p>As a further twist here, a number of the emerging market current account deficit countries, the <strong>so called fragile five emerging market countries</strong> – South Africa, Turkey, India, Indonesia and Brazil – had currencies that were relatively strong against the dollar last year, partly because of their previous oversold position but in the case of Brazil and South Africa due to changing expectations on commodity prices (Turkey being the exception here). If, as I suspect, the commodity rally fades and reverses, then these markets – and currencies- will come under renewed downward pressure.</p>

<p> </p>

<p>The <strong>focus on inflation is being distorted by the base effect of the very low oil prices this time a year ago</strong> and there is much talk of the Chinese producer price index (PPI) numbers heralding a ‘return of inflation’. This is being welcomed in policy circles where creating inflation has been their aim for a number of years, but in the absence of supply discipline there is little prospect in my view of this sticking. This is actually a good thing, for while higher prices are seen by central banks and politicians as somehow ‘a good thing’ it seems to me that they would create significant social unrest. The majority votes against the establishment have been a protest about falling standards of living, having prices rise (but not wages) might suit governments seeking to inflate away their debt but would not suit the voting public.</p>

<p> </p>

<p>To assess whether higher input prices translate into higher output prices requires a focus on corporate margins and pricing power – exactly the areas we need to be looking at in order to find company specific alpha. I have long been <strong>a fan of Michael Porter and his five forces framework</strong> (a useful link <a href="http://www.business-fundas.com/2011/michael-porters-5-forces-model/">here</a>) which looks at drivers of corporate profitability. In essence, the framework considers the competitive landscape in terms of pricing power against suppliers, against customers and the intensity of rivalry in the industry. It then adds in the threats from new entrants or new products. Currently it is difficult to see where there is much evidence of the increase in pricing power against customers that is implied in official expectations about inflation, especially as the key driver of the consumer price index (CPI) optics – the year on year change in oil price is a statistical effect due to ultra-low oil prices a year ago. Currently the oil price is only slightly above the June 2016 level, meaning the year on year inflation will drop out over the next six months.</p>

<p> </p>

<p>These issues of pricing power are behind the longer term alpha drivers we focus on at the stock level and <strong>here in Asia we focus particularly on cash flow since we prefer companies with a combination of yield and growth. </strong>The post-election rally has produced a greater focus on traditional cyclicals, exaggerated by a lot of short covering and portfolio rebalancing that has tended to produce a new stronger demand, reflation narrative. This sort of squeeze is always difficult to keep up with in relative terms, even if absolute numbers are still positive, but experience suggests it is foolish to chase these sorts of moves. There is still a fundamental need for income in portfolios that means quality assets with income qualities will continue to attract cash whenever there is a perception of value. As such we would expect periodic rotation back towards quality growth and higher yielding assets.</p>

<p> </p>

<p><strong>Finally</strong>, a key aspect of pricing power is the threat of new entrants into a market and a threat of new products or substitutes. At this time of year therefore I am always interested to see the potential disruption from the <strong>Consumer Electronics Show (CES) in Las Vegas</strong>. Last year there was a lot of talk on virtual reality (VR) and augmented reality (AR) and while these are significantly further down the line, they are not there quite yet. I think the quote from a year ago that “2016 may not be the year you buy an electric car, but it is the year you realise you want one” has certainly gathered momentum as news flow from the new ‘affordable’ Tesla to the acknowledgement by the mainstream manufacturers that electric vehicles (EV)  and hybrid EV is the only way to meet emission standards has been driving consumers in the direction of EV. In my opinion the hype around autonomous driving is something of a distraction from this – this is an assist rather than a replace technology.  However it is worth repeating that the shift from cars as owned assets to ‘mobility’ – low emission semi-autonomous driving in an uber like system - significantly increases the productivity of vehicles which are now on the road 80% of the time rather than parked 96% of the time. It means buying decisions will be about emissions and efficiency rather than imagery and lifestyle. This will be a challenge for car brands.</p>

<p> </p>

<p>One ‘old’ technology that has promised much and is finally delivering however is organic light-emitting diode (OLED). Having seen some of the new products displayed at CES I was fortunate enough to be able to follow up by listening to a presentation at a conference I just attended in Shanghai, <a href="https://www.cnet.com/news/lg-rolls-up-oled-tv-smokes-my-mind-hands-on/">OLED Televisions</a> are now so thin, at 0.18mm that they can be rolled up! Chinese TV giant Skyworth, who were in attendance, indicated that they would soon be producing a TV that could roll up like a blind. The product is solid state (unlike LCD) so can work at a much wider range of temperatures, is flexible (hence the roll up) and <a href="http://www.planar.com/products/transparent-displays/">transparent</a> when not in use. Thus a glass door could become a TV at the flick of a switch. These are already starting to transform retail signage and apart from transforming interior design (!) the applications for head up displays and other uses are huge. This will tie into the VR and AR headsets being ultra-light and of course they take very little power. So perhaps this year might now be the year you buy a transparent roll up television, but it might be the year you realise you want one!</p>
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Un repaso a los mercados

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    <strong>Artículo publicado en <a href="http://www.lacartadelbolsa.com">La Carta de la Bolsa</a> el Viernes, 09 de Diciembre en la sección: Al Día</strong>
    <h3 class="titulo_articulo">Un repaso a los mercados</h3>
    Redacción
    <ul>
	<li>Following the Italian referendum, markets are focussed on the risk of a referendum on euro membership. A fracturing of the euro is the biggest volatility risk to investors in Europe, especially those playing bond convergence.</li>
	<li>In China, financial markets are opening up further with issues such as the Shenzhen Stock Connect this week, but the government is cracking down on leakage from the country, closing loopholes and likely slowing some of the more aggressive M&A.</li>
	<li>The broad regime change is now underway however, from regulation, austerity, QE and bond markets towards, more growth, market pricing and real assets. Macro data is supporting this and the narrative is shifting. Inflation may not actually be coming, but people are starting to believe it is, and for some assets that is enough.</li>
</ul>
    <p>“First they ignore you, then they laugh at you, then they fight you, then you win” (Mahatma Gandhi). I can think of little else to link Nigel Farage, Donald Trump and Mahatma Gandhi, but that quote neatly illustrates the confusion amongst much of the western establishment at the events of the last six months. Amazing to think that, since the G7 meeting just two years ago, the leaders of Italy, Canada, and the UK have all gone, as have both Mr Barosso and Mr Van Rompuy from Europe. They are to be followed shortly by the current leaders of France and the US, leaving just two, Mr Abe and Mrs Merkel, from the original group of nine. In a world where markets have become increasingly focussed on policy, this represents a significant rotation in the cast list.</p>

<p><strong>Markets, ever realists, are now pricing a higher probability of contagion</strong>, by which I mean fatter tails in their normal distribution models. In any other year the prospect of impeaching the Korean President next week would be major international news, but as suggested last week, attention is now turning to Europe; the euro is down and the bond yield in Italy continues to rise as traders digest the referendum result and the resignation of Mario Renzi. While many are understandably focusing on the shorter term timetable for the Italian banks, (Unicredit’s corporate meeting next week will be closely watched) perhaps more relevant in my view is the range of possible outcomes that could now bring the Five Star grouping to power, a group that has pledged <strong>a referendum</strong>, not on EU membership, but <strong>on membership of the euro</strong>. The, likely technocratic, interim government will almost certainly seek to resist calls for an early general election, but even if they succeed, 2018 is not that far away.</p>

<p><strong>International investors</strong>, who tend to look at three broad blocs, US, Europe and Asia/emerging markets (EM) are <strong>likely wondering where the upside is in investing in Europe at the moment</strong>. The first half of next year promises yet more tension, with elections in the Netherlands and France, (and perhaps even Italy if my Italian colleagues in London are reading the sentiments right) followed by Germany later in the year. Of the three, <strong>France is probably the most important for markets</strong>, reflecting its central role not just in the euro, but in the whole European project. The emergence of Mr Fillon and the standing down of Mr Sarkozy would have been a shock in any other election year, but now seems par for the course, while the prospect of Marine La Pen as President and a possible Brexit like challenge is now focussing minds in France and beyond. The bookmakers moved probably rather too aggressively (in my opinion) to price her in as a winner and now have her trailing Mr Fillon. But we have all grown wary of bookmakers and pollsters recently. Meanwhile the foreign exchange (FX) markets are signalling their disquiet with the euro now trading down to 1.05 against the dollar and although the dollar generally is stronger, we note the recent relative strength of sterling against the euro.<strong>Despite the ongoing dialogue over article 50 the UK looks to be the more stable part of wider Europe to investors right now.</strong></p>

<p><strong>Italy is of course no stranger to changes of <a href="https://en.wikipedia.org/wiki/List_of_Prime_Ministers_of_Italy">government</a></strong>. When I first started work in the early 1980s, part of my job as a bank economist was writing country risk reports and Italian Prime Ministers were something akin to English football managers. Following the three different variations of government under Giulio Andreotti between 1976 and 1979, there were five different governments and four different Prime Ministers in the four years that followed, before a period of relative stability under Bettino Craxi from 1983- 1987. Then another three Prime Ministers in less than two years before Andreotti reappeared for his sixth and seventh terms from 1989 to 1992. Or to put it another way, <strong>during the time that the UK had Margaret Thatcher as Prime Minister, Italy had nine Prime Ministers. </strong>Of course, <strong>during that time Italy had a policy of almost constant currency depreciation</strong> and even after joining the European Exchange Rate Mechanism (ERM) it could not hold the currency stable, being forced out in September 1992 along with the UK. Since the arrival of the euro in 2000, the depreciation route to relative competitiveness has been cut off and the Italian economy and the Italian market have steadily but persistently under-performed Germany. The bond convergence trade has been very profitable as both Italian and German bonds are effectively ‘the same currency’, but the understandable concern now is that that may no longer be the case.</p>

<p>Chart 1 reproduces one from a few weeks back, showing the so-called Target balances with the European Central Bank (ECB) of Italy versus Germany. In short, liquidity has been pouring out of Italy and into Germany and the balances show the ECB’s commitment to push money the other way.</p>

<p><strong>Chart 1: ECB Target balances – Money flowing out of Italy into Germany</strong></p>

<p><img alt="target" class="graficos" id="<image004.jpg@01D25072.999B20A0>" src="cid:image004.jpg@01D25072.999B20A0" style="height:458px; width:610px" /></p>

<p>Source: Bloomberg</p>

<p>This of course was an issue that previously arose back in 2011/12 and the European financial crisis, before (Italian) Mr Draghi said he would ‘do whatever it takes’ to preserve the euro. The flows out of Italy have exceeded those back in 2012 and the concern is that this time the people of Italy may not give him the option. Were Italy to leave (and devalue), this would represent a form of sovereign default and understandably non domestic investors are thinking that<strong> the best way to hedge this risk is to walk away.</strong></p>

<p>Against this backdrop we sense that year ahead discussions for international investors may focus a little more on EM and Asia. <strong>The Shenzhen Connect opened officially this week</strong> (Monday 5<sup>th</sup> December) and while activity was subdued, it is <strong>a further piece of the very important jigsaw puzzle</strong> that China is assembling as it moves steadily towards a fully open capital market. When the Shanghai Connect opened two years ago, Hong Kong Chief Executive CY Leung described it as a way to <strong>“connect the rest of the country with the rest of the world”</strong> and this week’s move further consolidates that view; that Hong Kong is seen by Beijing as the portal connecting China to the rest of the world as it steadily opens up its capital account. As previously discussed<strong>, a key step in opening up Shenzhen is diversification.</strong> Shenzhen is much more exposed to the ‘new economy’ than Shanghai is and also much more exposed to smaller, private sector businesses as opposed to State Owned Enterprises (SOEs). Perhaps the biggest difference from a sector viewpoint is that <strong>whereas Shanghai is 4% and 39% IT and financials respectively, the numbers for Shenzhen are 22% and 10%.  </strong>As institutional investors embrace the Stock Connect – in both directions – this diversification benefit will assume greater significance. Currently the flows are limited by a daily quota, which understandably makes institutional investors a little cautious, but, as with the Shanghai Connect, this largely reflects the ‘pilot’ nature of the scheme. Quotas are not meant to prevent the scheme from working, just to try and make sure it is done so in an orderly way. At a recent lunch with the Hong Kong Stock Exchange, Chief Executive Charles Li said that the next step is likely to be the inclusion of ETFs and there is also the prospect of trading other exchange traded derivatives under the connect scheme. This remains an important work in progress.</p>

<p>The opening up of Chinese capital markets is very much a two steps forward, one step back process however and this week, much of the news locally has focussed on <strong>attempts to slow down ‘unofficial’ cash transfers out of China</strong>. This is linked to a falling value of the renminbi (RMB) against the US dollar, although in the current situation it is more the strength of the dollar against almost everything. It also has the tendency to be self-fulfilling, which is why the authorities are so keen to step in. If the currency falls, then people try and get their money out and into the rising dollar. This in turn causes more RMB weakness, triggering further outflows and so on. </p>

<p>As to the US and President Elect Trump, <strong>there is a fair amount of fuss being made over the fact that Mr Trump ‘took a call’ from the President of Taiwan</strong>. Are the Chinese upset? It doesn’t really appear so from the noise here in Hong Kong, but in any event on the subject I defer <a href="http://blog.dilbert.com/post/153990140846/trump-and-the-taiwan-call">to Scott Adams,</a> who I have discussed before as having a very interesting ‘take’ on the Donald. His point is that Mr Trump views the world through the prism of ‘the deal’ and that this is likely to be his opening gambit. He may also be encouraged that an A share stock with a Chinese name sounding vaguely like ‘trump’ went limit up on election day while the makers of this electric vehicle, ‘<a href="http://www.carnewschina.com/2015/11/20/guangzhou-auto-trumpchi-gs4-ev-debuts-on-the-guangzhou-auto-show-in-china/">Trumpchi</a>’ are said to be doing brisk business!</p>

<p>If we were to extend this thought process a little further, <strong>we could argue that this is part of the swing back towards prices being set by negotiation between buyer and seller rather than by regulators</strong>. Ultimately if prices are set by clearing between unconstrained buyers and sellers, then, I would argue, resources tend to be allocated more efficiently. If they are set by government, or regulators, however well intentioned, there is a growing risk of inefficiencies and externalities. At its extreme we get the establishment (and failure) of command and control economies, from tractor production statistics in Soviet Russia to the Great Leap Forward of Chairman Mao and, more recently the market failures in Venezuela and, in the news this week, Cuba. More prosaically we have seen the creeping over-regulation of markets in the so called capitalist west. Probably starting post the <a href="http://dot.com/">dot.com</a> bubble, but particularly <strong>since the global financial crisis (GFC), legislation and regulation have been smothering free markets.</strong> The GFC was cited as an example of a failure of capitalism, but in reality it was a failure of mercantilism and crony capitalism. Unfortunately the response has been more interference not less. </p>

<p>The political landscape is currently being presented as being between ‘left’ and ‘right’, but in reality it is between the state sector and the private sector. The anti- establishment or so called populist votes are a vote against the current level of interference in markets from the state sector – with many on the traditional left complaining about ‘right wing government supporting bankers’ while those on the traditional right are complaining about ‘left wing socialist governments promoting too much identity politics’. <strong>The new wave of G7 politicians coming in, from Theresa May and Donald Trump to the new leaders of France and Italy signal a likely change in attitude that will have important implications for asset allocation and markets. This doesn’t have to be radical, but at the margin a shift </strong>from policy driven markets towards fundamentals driven markets will be quite profound in its effects, and the market is moving already.<strong> The Federal Reserve (Fed) is now appearing to follow, rather than lead markets</strong>, US Libor continues to rise, regardless of what the Fed announces next week and the stronger dollar is tightening monetary conditions in the whole dollar zone. Meanwhile and as noted last week, <strong>the recent sell off in bonds is not so much about a change in views on inflation and growth</strong> (the new narrative to ‘explain’ bond yields), as it is a normalisation of interest rates away from QE towards ‘free market’ valuations, ones which are set by inflation and growth and would be much higher. In effect this is a move from bonds as a special interest group to being the same as other assets. Similarly, small and mid-cap stocks in the UK rallied on the prospect of improved access to markets outside the customs union, while US banks rallied on steeper (more free market) yield curves and a prospect of an easing of regulatory burdens.</p>

<p>This is not to say lobbying disappears, or that we are going to an era of pure free markets, rather that there is more of a ‘deal’ to be struck. Take as an early example, <strong>the deal with US air conditioner Carrier</strong>. Even before taking over, Mr Trump prevented a US company relocating abroad, apparently by offering subsidies (though $7m over a decade to keep 100 jobs looks a bargain by previous standards), but also doubtless by reminding the ultimate managers of the conglomerate just how much business they did with the US government. Ironically this was slammed as a form of government interference and crony capitalism (which it is) by the very people who have previously been happy to bail out other institutions from Wall Street to car companies. The point is not to defend either previous or upcoming administrations but to acknowledge that they will operate differently. <strong>Companies need to adjust and so do equity and credit analysts. </strong>As my colleague Nigel Thomas always says: “Things won’t necessarily be better or worse. Just different”.</p>
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