New York City is Worried About China, and the Fed

Deputy CIO fleshes out key concerns at meeting of five city pension plans.

The US-China trade war and monetary policy are two of the primary things keeping the five pension funds of New York City up at night.

Fourth-quarter market swings, the unpredictability of the Fed, and President Trump’s ongoing gripes with China were highlighted as current concerns by Michael Haddad, the deputy chief investment officer of the New York City Bureau of Asset Management at Wednesday’s common meeting. This monthly meeting is where the heads of each of the city pension plans (teachers, employees, and board of education systems, and the police and firefighter pension funds) meet—not to be confused with the New York Common Retirement Fund, the state’s massive pension organization.

Traditionally known for being a rally month, December was rougher than expected for investors. Haddad said one of the catalysts was Apple’s November pre-earnings report, where the company disclosed it would expect fewer iPhone sales in 2019. The diminished projections spooked the markets, which realized what the trade war could do to the US’s tech industry. “It triggered a market view that the combination of China’s slowing and the trade tariffs were going to be damaging to US businesses going forward, and it kind spilled into all things China in that whole fourth-quarter environment,” he said.

The Russell 3000, MSCI World (excluding US), and MSCI Emerging Market indexes were down 14.3%, 13.3%, and 7.5%, respectively, in 2018’s fourth quarter. Although Haddad discussed the slowing of global growth, mentioning issues in Europe such as the yellow jacket protests in France and Italy’s technical recession, he remained fixated on China.

“On one hand you have China as a whole trying to de-lever. On the other hand, you have them trying to keep growth from going too far below their target with some monetary stimulus,” he said. “But China is slowing.”

This, of course, led to the Fed, and eventually Washington D.C., which he said remained “a circus of sorts.”

Federal Reserve Chairman Jerome Powell’s decision to raise interest rates 25 basis points on December 19 was expected, and the change of heart to downgrade the number of hike expectations from three to two was nice, but the move still caused alarm for investors as the market dropped yet again.  With its actions, Haddad opined that the Fed had “ignored what was going on in financial markets,” contributing to the extreme volatility felt that month.

As for Washington, D.C., the chief said the midterm elections “actually really bothered markets in the fourth quarter,” where the House flipped from Republican to Democrat.

“From a market perspective, that just means the end of the Republican agenda, if you will, in a market-friendly way, specifically, additional deregulation,” he said. “I think the markets realized there’s going to be less deregulation going forward with the Democrats in check.”

He said that the US’s policies with China are going “more in a positive way” in the fourth quarter because of the G20 summit in Argentina, “where it seemed that Trump and[China President] Xi [Jinping] reached some sort of a d’état.” However, Haddad said the uncertainty remained when layered “on top of the Apple announcement.

“A lot of these things happened in late December, where everything in the market was extraordinarily illiquid,” Haddad said. “A lot of it reversed itself in January…but some of it had to do with illiquidity.”

For now, the deputy CIO sees no clarity as to whether or not Trump and President Xi are going to meet, which is expected. He said Chinese currency has rallied almost 3% from its fall lows. He added that there’s been stability in China’s A-shares since the fall.  China’s A-shares are shares that are denominated in local currency.

He also said equity volatility will be higher than in the past. “When you think about downside risk to consensus earnings…it speaks to me that there’s limited upside from here, and it’s not an asset class that I think is going to return anywhere near what we’ve seen in the past several years.”

Returning to the Fed, Haddad said that due to the changes in monetary policy the treasury duration could suffer as the Fed could “flip again” on its decisions, as it said in last week’s meeting that it would look to inflation as the impetus to raise rates.

“I would argue not that the word ‘patient’ in the FOMC statement is meaningful and it’s somewhere in a three- to six-month time period,” he said, adding that he’s also worried about wider credit spreads. “Leverage in investment grade [bonds] has gone up and it doesn’t take much of a catalyst to spill over… which then spills over into an entire capital structure.”

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