Introduction

In the third quarter, issues surrounding trade policy created outsized impacts on the global equity markets. The trade war between the United States (U.S.) and China picked up considerable steam, and weakness in consumption and industrial production in China have been exacerbated. In contrast, economic conditions in the U.S. continued to outperform because of the effects from tax cuts and stimulus measures instituted earlier in the year. Elsewhere, the European Central Bank (ECB) has expressed concerns over a loss of confidence due to the trade war with the U.S., in addition to stalled negotiations with the United Kingdom (U.K.) regarding Brexit.

We have previously highlighted that the tightening of monetary policies by the major central banks poses one of the greatest risks to global markets as it pressures valuations for financial assets. Rate hikes by the Federal Reserve have sent the dollar higher and put downward pressure on currencies and elevated inflation in emerging markets.

Market Update

For the MSCI ACWI ex-U.S. Index®, value style outperformed growth style. Within emerging markets, value style significantly outperformed growth style. Large capitalization stocks outperformed small capitalization stocks in both the developed and emerging markets sub-indexes.

For the MSCI EAFE Index®, growth style outperformed value style, and large capitalization stocks outperformed small capitalization stocks.

Overall, the U.S. continues to enjoy a robust economy. Following Gross Domestic Product (GDP) growth of 4.2% in the second quarter, one of the fastest paces in its nine year expansion, indications from the third quarter still appear strong. The Federal Reserve expects GDP growth of 3.8%. Meanwhile, the labor market remains at full capacity, and inflation is hovering near the target of 2% after undershooting it for much of the last six years. Such growth encouraged the Federal Reserve to raise interest rates for a third time this year, to a range between 2% and 2.25%.

Reverberations stemming from trade tensions are beginning to show. But so far, the relatively small amounts of tariffs have been overshadowed by the sheer volume of tax cuts that have boosted economic growth. As such, the trade war has yet to materially impact the economic data or shake the Federal Reserve’s positive outlook. The most recent trade statistics, however, show that the U.S. trade deficit widened for the third month in a row, as Chinese imports were bought ahead of higher duties. Both consumer spending and business investing in the U.S. remain strong, though the latter softened slightly during the quarter.

In the final week of September, the Trump administration followed through on tariffs on an additional $200 billion worth of Chinese goods, and the trade war intensified. The first wave of tariffs, covering $50 billion worth of goods, went into effect in July and concentrated on things such as machinery and industrial and electrical components. This increased input costs for U.S. businesses. Now, the list of tariffed goods is so expansive that the trade war with China has migrated to a turf overlapping with the American consumer. Undoubtedly, this raises the stakes for President Trump, who has already taken pressure from some business and agricultural groups, because of the likely unpopularity of higher consumer prices. At the onset, the imposed duty for the new tariff is 10% but will rise to 25% by the end of the year.