Europe tries to look past new tariff threat

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By :  ,  Financial Analyst

Investors are buying growth but expect revenues to fall

EU stock markets remain mixed a day after a global relief rally following the trade war truce agreed by the U.S. and China. Investors are trying to shrug off proposals for an additional $4bn in tariffs on European exports to the U.S. The new list adds to a $21bn range of products flagged by the Office of the U.S. Trade Representative in April. The EU has prepared a retaliatory list in the dispute that stems from U.S. claims that the bloc is subsidising aircraft manufacturers. Since the case predates the Trump administration, markets have largely assumed Washington will continue to treat it as a side issue that’s amenable to agreement. Either way, the USTR's move underscores that trade tensions will continue to haunt investors for months to come.

Although Washington and Beijing have pledged to hold off from more tariffs and to resume negotiations, the pair have retained the highest level of tariffs on each other’s imports than at any comparable time. It’s a reminder that the world’s largest economies remain willing to wreak havoc on commerce and supply chains and ultimately put global growth at risk. Little wonder that European stock markets have somewhat underperformed the U.S.’s this year given the threat of tariffs hanging over the Continent’s car industry.

At the same time, global markets are consolidating their best June gains since MSCI’s World Share Index was launched in 1969. With most of the advance posted before the trade war truce, it appears to owe more to signals that major central banks have returned to an easing stance than trade ‘victories’. The White House has yet to reveal details of Trump’s arrangement with Xi, adding to uncertainties. More broadly, consequences from over a year of elevated tensions keep rolling in. Weak prints dominated the U.S. Institute of Manufacturing PMI readings for May. Several Asia- Pacific PMIs also project declining growth.

Oil markets also reacted with limited enthusiasm to OPEC+ members’ agreement to extend supply arrangements for another 9 months. WTI contracts had already surged around 16% from June lows, suggesting that only even tighter supply can underpin prices further. Visibility about deeper supply cuts is limited, so current prices could cap gains for the foreseeable future.

As it stands then, recent rallies have presumably exhausted potential upside from reduced challenges to sentiment and from expected policy stimulus. The next challenge is spotting what could give stock markets their next up leg.

As the chart below shows, investors are pessimistic about the ability of the large European groups to grow sales. Yet the market has benefitted handsomely from the global stock market bounce since the winter correction. This disparity of sentiment look unsustainable. Something may have to give in the medium term.

Normalised chart: EURO STOXX 50 / EURO STOXX 50 revenue forecast 

Source: Bloomberg/City Index

Chart thoughts

The chart of the more actively traded EURO STOXX 50 benchmark also reflects that prices of the region’s biggest blue-chip shares are attempting to recoup all losses from the upset following Washington’s sudden about-face in May on a trade deal with China. (Note the chart below graphs City Index’s EU STOCKS 50 which is equivalent to the EURO STOXX 50). It’s worth noting that recent EURO STOXX 50 trends are similar to those seen in other major European indices, as stated here. As such, the benchmark’s adherence mostly topside of a thin rising line since the end of the May pullback is a positive for potential continued relative stability and order, whilst the line is inviolate. Furthermore, the same applies to the large recovery trend from winter doldrums. Both are backed by the favourable gradients and direction of both 21-day exponential moving average (depicting solidly optimistic monthly trading sentiment) and the 200-day exponential moving average (depicting the return of longer-term confidence). Both averages have also supported index prices in recent weeks. Yet the EURO STOXX 50 is now approaching the 2019 high that defeated it on 1st May. Note the Stochastic RSI momentum oscillator has flagged this week. It had managed to remain more ‘overbought’ for longer last month. That possibly points to insufficient conviction to tackle c. 3540 highs. Destruction of the short-term rising trend mentioned above would be the first sign that May’s recoil could be repeated. A break below the 3440 pivot would increase the probabilities further.

Price chart: EU STOXX 50 CFD – daily [15.20 BST 02-07-2019]

Source: City Index

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