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Time To Take A Deep Breath!

Almost unnoticed outside the world of smokers, Canada has legalized marijuana for recreational use, clearing the way for millions of adults to smoke or grow the drug openly. Other nations may follow opening a new multi-billion-dollar market. It raises the possibility for Big Tobacco with its manufacturing and marketing expertise and huge distribution networks to sell cannabis someday. There have been some suggestive moves by tobacco firms and the potential for consumer goods groups has not been lost on brewer Constellation Brands. The company behind Corona beer took a near 10 per cent stake in Canopy, Canada’s leading weed producer, in October.

However, the strengthening US dollar, tightening monetary policy, higher volatility and widening geopolitical risks have dominated the news the first half of 2018. At the halfway point of 2018, big tech groups, oil and small US companies have been the standout successes for investors since the start of the year. Eurozone periphery sovereign debt, emerging market currencies and equities, and Chinese stocks on the other hand have all performed poorly.

The Chinese market is down some 20% this year. Long before US president Donald Trump imposed billions of dollars in tariffs against China, a steady drip of credit tightening and middling Chinese economic data underpinned the selling, with the tariff rhetoric just amplifying the gloom. In China’s bluntest response to the fall in stocks so far, the People’s Bank of China cut the reserve requirement ratio for a number of banks, deploying about USD 100 billion into the economy. The measure was directed at cushioning the impact of the US tariffs and allaying investors concerned about credit tightening.

Interestingly, the renminbi has weakened some 3% since the beginning of the month as a weaker currency is a time-tested remedy for exporters facing tariffs abroad. The Hang Seng index earnings are in that currency. A weaker exchange rate against the dollar hurts those ‘old’ economy companies that have borrowed in USD such as and property groups, airlines and manufacturers. Tech and internet companies basking in a cyclical up-swing have not been able to escape the downturn but have been much less affected.

Investors’ response has been to sell cyclical investment plays — banks, emerging markets and European equities — in favor of defensive sectors and US equities, while allocations to commodities hit an eight-year high. Meanwhile, after last year’s exceptional rise, Bitcoin has steadily dropped in value since the start of 2018. The controversial cryptocurrency’s price is down nearly 60 per cent year to date. Confidence has been tested by frequent attacks on cryptocurrency exchanges and US regulators’ moves to examine potential market manipulation.

Market confidence in Europe, which was meant to underpin a sustained recovery from the financial crisis a decade ago, has been shaken by recent events in Italy. Interest rate expectations in the US have indeed risen but the yield on the 10-year Treasury note is lower than its peak in January and has failed to sustain its jump above 3 per cent in May. Emerging Markets equities have so far proven painful with the MSCI EM equity index down by 9 per cent year-to-date.

Going forward, we see investment-grade debt and companies with strong balance sheets and earnings growth in equities, mostly in the US as particular areas of opportunity. A recent survey of investors by Bank of America Merrill Lynch found that in the past month investors have become overweight in US stocks for the first time in 15 months. Nearly two-thirds thought the US had the most favorable outlook for profits globally, a 17-year high.

For now, it is hard to fret about trade when inflation is on target, unemployment is low, and GDP growth is tracking above 4 percent for the second quarter. Maybe you would like to fire up your portfolio with some cannabis stocks until markets find their footing.

Switzerland, July 1st, 2018

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