Market and Economic

Substantial Phase One Deal

By all accounts, trade discussions between the US and China last week were a positive step, with at least temporary de-escalation of trade tensions.
October 2019
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What happened?

The outline for a limited trade deal was announced on Friday between the US and China which involves the US postponing increasing tariffs on $250B of Chinese goods from 25% to 30%, which was scheduled for October 15.  In return, China agreed to increase agricultural purchases and make some modest  concessions on access to its financial markets and curbs on intellectual property theft.  The December tariff hikes were not addressed and no concessions were made on Huawei.

By all accounts, trade discussions between the US and China last week were a positive step, with at least temporary de-escalation of trade tensions.  However, President Trump’s characterization of what was agreed to following the talks were significantly different from what was reported by China’s official Xinhua news agency.  President Trump claimed that the two sides had reached a “substantial phase-one deal” while reports from China were much less committal, indicating only “substantial progress achieved.”  Importantly, there was no agreement in writing which limited the market response to the news.

Next steps:

President Trump said it would take up to five weeks to complete the “phase one” deal, which would coincide with a potential meeting with Chinese President Xi at the Apec summit in Chile in mid-November.  On Monday, Treasury Secretary Mnuchin said “I expect there will be a deal” and indicated that he expects President Trump and President Xi to finalize the agreement at the Apec summit.  Potential areas for negotiation include a) currency language, b) Huawei and c) a cancellation of US tariffs on $156B of Chinese goods that are scheduled to go into effect on December 15.

Our take:

Trade risks have diminished at least for the time being.  We think the trade truce may be extended to the December 15 tariff hikes.  However, we don’t expect a broader deal on the large issues (ie state subsidies and intellectual property reform) before the 2020 election and would not expect a smooth path toward a multiple phase deal, but rather a potentially bumpy ride.  Additionally, the deal would not address existing US tariffs of 25% on $360B of Chinese goods that have been put in place by President Trump which would limit the impact.  That said, this does remove some of the tail risk and is supportive of equities overall.  As we don’t expect a major trade deal and think that discussions could move in fits and starts, we maintain a relative preference to US equities vs. more trade-sensitive equity markets. 

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