Equity Monthly: Can EM shares find their footing?

Last month’s Equity Monthly focused on China setting up the premise of its own centrality to world affairs. But while China is destined to become the world’s largest economy, the country is currently experiencing a slowdown due the US-imposed tariffs and a general weakening of the massive, post-2015 impulse that has swept the Chinese economy forward for more than two years.

Among the latest fragments of evidence for a weaker China was the worse-than-expected Q2 technology earnings season, which saw many of the country's tech giants expand heavily into new businesses to secure top line growth at the expense of profit margins. Today, Chinese carmakers tumbled around 5% as Great Wall Motor announced an aggressive pricing campaign to maintain market share as the Chinese auto market has retreated to its slowest rate of expansion since early 2012. Growth has barely been above zero over the past 12 months and competition is increasing. This will likely hurt operating margins, and it could be the story that clings to Chinese equities over the coming quarters.

The current regime is a puzzling one. The Federal Reserve’s policy normalisation and Trump’s trade war is a benefit, at least in financial markets, to US equities at the expense of everyone else (see the trade war ETF basket chart below). Looking at economic forecasts for the G10 countries, only the US' has been raised while all others have headed lower. Our view is that US outperformance can continue for a bit longer, but a major swing is getting closer.