Feeling the trade war heat

This week on Talking Finance:

• Warren Hogan, Executive-in-Residence at UTS Business School, warns that we're charting dangerous territory, yet it could still yet prove fortuitous;
• Michael McCarthy, Chief Market Strategist at CMC Markets, dissects trade dispute resolutions;
• Samantha Maiden, Political Editor at The New Daily, speaks of the ghosts of Parliament's past; and
• Trevor Long, Technology Commentator, tells us how phones of the future will function as proper pocket computers.

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Hello and welcome to Talking Finance. I’m Alan Kohler and what a big week it’s been. Of course, we had a 2% drop yesterday. 2.5%. Markets are all over the place worried about trade wars and currency manipulation. In the midst of it all the Reserve Bank kept rates on hold but that was completely overshadowed by the market action.

So to deal with all of this week’s action we have Warren Hogan from the University of Technology in Sydney, UTS. We have Michael McCarthy from CMC Markets talking about the markets. We have Samantha Maiden on politics from The New Daily. And Trevor Long whose talking to us from New York where he’s attending the Samsung launch. Where they’re going to launch something or rather but they don’t say anything about it. But it’s assumed to be another Note or a phone. A big phone.

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Now to focus on the economy here is Warren Hogan, the former head of research at ANZ bank and now he is with UTS in Sydney. Warren, yesterday’s interest rate decision by the Reserve Bank was a bit overshadowed, it wasn’t a surprise though, was it?

WH: Not at all. They have made their 50 basis points of adjustment to the cash rate which they had factored into their forecast for the last few months. I suppose the key message is they’re deadest on downside risks on low inflation and on providing further stimulus to the economy if it’s needed so it’s actually quite a concerning outlook that the RBA is really projecting where if there’s going to be any move they’re ready to attack at any time and cut rates to what is historically unprecedented levels and rapidly approaching zero.

The market is pricing for another half a percent cut, do you think that that’s likely?

WH: It’s really hard to say. If we didn’t have these international risks I don’t think that it is likely, I think we’re seeing not just a stabilisation in the housing market. I actually think house prices will probably rise over the next year assuming we don’t get a disaster overseas. I think the economy is plodding along. We’re not going to get the economic growth we’ve been used to for the last 30 years in this kind of environment so I think 2% to 3% growth is going to generate jobs. The unemployment issue I think the RBA has been quite bold on this, I think trying to get unemployment down to 4.5% with a cyclical tool like monetary policy is dangerous. They even themselves admit there’s lots of structural issues there that are driving unemployment rates currently at 5% despite pretty good employment growth.

I don’t think they probably would cut further if the domestic economy was allowed to just play out because I think it’s going to start to improve next year but there’s a huge cloud hanging over everything with this trade war.

Let’s talk about that, how do you see it now or how do you think it’s going to unfold?

WH: This week we have seen a big shift so there’s a much more overt Chinese policy response, they’re shifting from trade war protectionist barriers to trade rhetoric and obviously action on the part of the US and some action on the Chinese to now currency war manipulation, and that’s a whole new realm for financial markets, it is extremely dangerous. A trade war is, for financial markets, a concern about the health of the economy and trade flows which we have been seeing the market is focussed on for the last six months. A currency war is concerned about capital flows, it’s much more immediate. Of course there’s lots of trigger points for financial distress if currencies, particularly the currencies of the world’s two biggest economies start moving around.

I think the markets are right to significantly reprice the outlook as they have this week and I wouldn’t be surprised if that process continues over the next few weeks even without any substantial new developments. Unless there is some cooling down between the Chinese and the United States then this is very concerning because essentially we’re taking a step up in what is otherwise a pretty cool cold war environment between China and the US because this has to be viewed not just in the economic setting, it has to be viewed in the long term geopolitical setting, this is front and centre in that process.

I must say, Warren, I agree with you but it seems to me a bit of a joke that America is declaring China to be a currency manipulator when what they do is they fix the currency every day.

WH: Because they are a currency manipulator.

They never not manipulate the currency.

WH: Exactly.

They can be declared to be a currency manipulator at any point.

WH: Yeah, I saw a chart you put up in the last 24 hours that shows that the last time they were declared a currency manipulator it was on the back of a substantial sudden move in the currency, it was sort of a 20% move.

If I can correct you it was actually a 55% devaluation in 1992.

WH: There you go, so that is manipulation.

Exactly, and the point is that every day since then they have continued to manipulate it.

WH: Exactly, and we have seen it on both sides. The Chinese have got a managed exchange rate or fixed exchange rate, however you want to characterise it, and it works both ways. They at times are having to intervene in the market to stop it going too far up, sometimes to stop it going too far down. This is politics, I’m sure the severity of the broader geopolitical scene is what’s allowed the US treasury to be pushed to this point because I think they have resisted this is sort of labelling of China at this point in the past. We look at the broad relationship here, broad sort of geopolitical scheme.

Many people have viewed for years that China and the United States are not your typical superpower rivalry, they’re not going to go to war because of the economic connectivity and linkages, it would be madness to think. Really what we’re seeing is a process of de-linking, of reducing those economic linkages. We know that there are hawks in Washington and there are hawks in Beijing who are wanting sort of to get the upper hand on the other side and taking a 20 to 30 year view. This is very serious stuff and this is part of the process of de-linking the two economies. It’s not going to be good for the global economy in any way, shape or form whether it’s a recession in the next 18 months or just a very sort of slow de-globalisation process over the next decade, it’s hard to tell but it’s very negative for the outlook.

On that sober note thanks very much, Warren, great to talk as usual.

WH: Thanks, Alan, all the best.

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And now to bring us up to date on the markets, here’s Michael McCarthy, the Chief Market Strategist at CMC. Well, a bit of a big week, Michael, how’s it been from your neck of the woods, what’s it been like?

MM: It’s been very hectic and rather distressing for the first couple of days of the week but here we are on Wednesday looking at a better outlook given rallies in US markets overnight, and some easing of the fears around the impact of the trade dispute between the US and China.

I suppose it’s another reminder that the markets go up by the stairs and down by the lift.

MM: Absolutely – great example of that this week, and I think one of the contributors to the big falls that we saw over the first couple of days of the week was the fact that the markets had risen so hard. A 10-year rally in US stocks and all-time highs in the Australian market meant there was a lot of concern about valuation, and of course, being at those levels meant that when sentiment swung, it swung hard.

In fact, investors were looking for an excuse to sell, weren’t they? And they got one.

MM: Absolutely. It looks much more like a trigger – let face it, this trade dispute has been rumbling around for almost a year now and many analysts are now taking the view that it could rumble al the way through to the US Presidential Election in November 2020. It looks like it’s going to be around for quite a long time. The issues between the US and China are very difficult to resolve. There’s some real conflict there and whether they’re cultural, societal or financial, it’s going to take a rather elegant political approach to get both the countries involved out of the current situation. So, no quick resolution, the reaction that we see in share markets probably speak more to sentiment amongst investors than the facts underlying this trade dispute.

Where do you think sentiment sits now?

MM: Well, fears have eased, I suspect, temporarily. When markets fall as they have done over the last few sessions, damage is done and I think we’ll see increased caution, even if we do see modest rallies over the coming days. There’s always potential for another trigger and of course, the world we live in, a single tweet could change things around very quickly.

That’s the point, isn’t it? It is interesting that the big correction last year was sparked, I think – a lot of people sort of attempt to rewrite history or at least attribute various things to it but the 20% correction was started by the Federal Reserve saying that interest rates weren’t going to come down, and it was ended by the Federal Reserve changing its mind. So, it looks like, it just seems to me, that the big moves in markets still in the domain of monetary policy and the central bank as opposed to the trade war.

MM: Absolutely, and the comfort that investors talk from, the shift in positioning from the Federal Reserve and from central banks around the globe really drove the rally that took the Australian market up 20% over the first six months of the year. The issue now for investors though is that they’re running out of room to move with rates now in many countries between 0-1%, the talk of negative rates is a fairly fraught situation because investors could respond to a negative rate scenario in a negative way. The reality is, while the central banks are willing to support, the sickeningly effect of turning rates negative might do more damage than good. With the central banks running out of room to move, running out of levers to pull, that impact might not be as helpful to shares as it has been over the first six months of the year.

Would you go as far, Michael, as to say that investors should still keep their eye on interest rates rather than the trade war or is it really, you’ve got to watch both?

MM: Well, they’ve obviously intertwined. Many of the central banks that have moved on rates, including the Reserve Bank of Australia, have cited that trade dispute as one of the reasons why they’re taking a more accommodative stance. We’re watching out for good news and bad news scenarios and ongoing volatility of volatility, that is periods of market calm followed by a severe disruption, followed by further calm. It’s going to be a tougher investment environment all around.

Good to talk, Michael, thank you.

MM: Thanks, Alan.

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And now for the week in politics, here’s Samantha Maiden, who is the Political Correspondent for New Daily. Sam, it’s been a week for ex-PM’s, we’ve had John Howard making the trip over to Kalgoorlie for the Dealers & Diggers of all things, and then Paul Keating on 7:30 last night. What did Howard say?

SM: Well, John Howard basically made the point at the sparkling Diggers & Dealers conference in Kalgoorlie – have you ever been to a Diggers & Dealers?

No, but I used to live in Kalgoorlie. I’ve never been to a Diggers & Dealers conference but I was a miner in Kalgoorlie.

SM: Apparently it’s quite the event, the old Diggers & Dealers. But basically, he went to give a speech about a whole bunch of things but he did an interesting interview while he was there basically talking about interest rates. He did one of those sort of faux modesty acts where he said, ‘Far be it for me to advise the RBA on monetary policy, but…’ he thought that interest rate cuts had gone too far. They’re obviously at record lows, 1%, and his argument was essentially, if something really bad happens with the economy, you don’t have many levers left and that’s what he was basically saying. I think that that is a perfectly legitimate view to hold – you may have different views on it, but an interesting thing I’ve…

I was actually going to say, it’s actually stuck in the past a little bit because half a dozen countries have got negative interest rates so there isn’t actually any longer a zero bound.

SM: Yeah, so I thought the interesting thing though was that we’ve really grown up over the last 20 years with basically hearing John Howard say at multiple elections that the interest rate’s always been lower under a liberal government and how wonderful all of this was, all the rest of it. 2004 election, ‘Who do you trust to keep interest rates low?’ And now he’s basically arguing that they shouldn’t be as low as they are. I think that’s interesting. Maybe he’s also, as he gets older – and obviously no doubt a lot of his friends are retirees, low interest rates are obviously not good for that section of the population, so perhaps he’s been having a couple of people complaining about that for the last 10-15 years as well.

Keating I suppose on the 7:30 was a bit more substantial talking about superannuation, what did you make of that?

SM: I thought it was really interesting how he broadened the debate on superannuation beyond just being about retirement incomes and talked about its role in tackling the current account deficit and historically why they thought this was a good idea and the fact that we have however many trillion dollars in superannuation and the role that that plays in the economy and how that’s important, which I thought was really interesting because you don’t necessarily have people mounting those arguments. Paul Keating’s obviously an acquired taste.

I think that for political aficionados they often enjoy the nostalgia of a good old fashioned Paul Keating rant, but we shouldn’t forget that this was a bloke who was not enormously popular in the entirety of the Australian electorate. He won one election just off the back of John Hewson basically trying to roll out of GST. But apart from selling the benefits of superannuation and basically comparing people that didn’t want to increase the super guarantee to 12% by 2025 with anti-vaxxers, which is showing a signature Paul Keating flourish. He basically went onto say that the reason why he thought that Bill Shorten had lost the election was he hadn’t understood the middle class and that middle-class people in Australia don’t like higher taxes as a result of them proposing to reinstate the deficit levy for high-income earners, but they were talking about income tax rates of 47% for very high-income earners and that this was a problem. I think it’s raised eyebrows among some Labor MPs because Paul Keating was also obviously a very enthusiastic barracker for the ALP tackling issues like dividend imputation and negative gearing.

He’s obviously coming in at the end with a bit of backseat driving and I’m not sure welcome that will be but it might be an accurate assessment of what happened.

Possibly not well-known as an expert on the middle classes either, Paul Keating.

SM: No, unless they’ve suddenly got into antique clocks and renovations of heritage-listed properties. But I think it’s a very important question to ask why the Labor Party lost the election and it is an unusual election in the sense that it is probably the closest to 1993 in terms of a surprising or a shock result. I remember talking to you shortly before the election and we talked about the fact that there was a narrow pathway, that there was a narrow pathway if the Liberal Party was able to hold the line in Queensland or gain seats in Queensland and pickup seats potentially in Tasmania or WA.

But obviously the concern was that Labor could basically win government in Victoria alone and the reality is that that didn’t happen. The Labor Party still won a majority of votes in, I think, every seat outside of Queensland and then obviously they did quite well in Northern Tasmania. But it was a surprising result and it is a very important question that the Labor Party’s got to resolve of why that happened, and I think why that happened – you can’t just blame the polls, you can’t just say that they were snowed by the polls. I think that was pretty important factor because we’re used to polls in Australia being pretty reliable and a lot more reliable than they are overseas where you have voluntary voting. But the Labor Party’s got some tough questions to answer as they approach the next election.

Three years is really not a long time to kind of come up with a new policy agenda if they are planning to dump negative gearing or dividend imputation. I think it’d be pretty unlikely they dump both. But they’ve got to answer all those questions of whether they hang onto some of it and expose themselves to the same scare campaign again or whether they go another way.

Yes, indeed. Great to talk to you, Sam, thanks very much.

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Now here is Trevor Long to talk to us about technology and he is talking to us from New York for the Samsung launch. Trevor, you’re in New York for the Samsung launch, what are they launching? Is it the Note 10?

TL: This is the time of year when they would normally launch the note phone, and the note is their biggest phone, physically biggest phone, it has the little stylus, the little pen, built into the bottom of it so you can actually draw on the screen, write on the screen, write notes, whatever you like to do. A very specific market, this time last year, the year before and the year before that it was the Note so we assume it’s the Note. The rumour this year is there’s going to be two, two different sizes. I don’t quite understand why they would do that because their other flagship phone which they announced at the start of the year, the Samsung Galaxy S10 which it was this year, I think there was four variants of that.

Samsung this year have launched it feels like eight or nine different phones with prices from $200 up to $2,400. They are really spreading themselves across the entire price bracket to make sure that they maintain their market dominance but even before this event they announced just in the last few days the new smart watch, a new tablet, new headphones, so they have gone very strong this month in terms of product announcements. I guess time wise it’s a smart time to be a bit ahead of the game because Apple will announce their next phone in just a month from now. There’s a lot going on for Samsung.

Do they have market dominance?

TL: It’s a very good question actually, Alan. If you look at the Australian market I think it’s pretty much Apple and Samsung even Steven on around let’s call it 40% to 43% and the rest is a bunch of smaller companies who struggle to really sell in huge numbers. Globally Samsung absolutely have market dominance, they’re the number one player. Huawei is probably second with Apple third. That’s because Samsung and Huawei globally sell so many phone models. For example, Samsung in Australia they have four phones that are under $600 to $700. They then have four phones that are between $1,000 and $2,300 so they have so many phones to choose from, they sell more models. Apple really just has two or three phones.

If we just look at the flagship model probably Apple pings them more but on overall total market sales Samsung is the big player.

What about the split between operating systems, Apple and Android? Is that changing?

TL: Yeah, I think it’s had a fair bit of growth, Android that is, over the last few years because you’ve got to remember every single phone that’s not an Apple is Android. Whether it’s a Huawei, a Sony, an LG, al Alcatel, it’s an Android phone. That’s actually the interesting thing that Samsung, I think, have to be careful of because essentially any phone that’s not an Apple is as good as a Samsung in terms of the way it works. They need to show that their brand brings something else to the smartphone, not just the operating system because you can get Android on a $300 phone that doesn’t carry any of the brands that we might have heard of. Apple, I don’t think they have lost market share in a huge rate of knots but I don’t think they have had the best couple of years and I frankly don’t think the next year is going to be all that amazing for them either because from what we again see in the rumours it doesn’t look like there’s going to be anything outstandingly new from them come their announcement in September.

Which brings us back to tomorrow’s launch. What are the rumours around apart from size or possibly two of them, what are the rumours around features that Samsung might have?

TL: It will revolve around the camera, I think. There’s some leaked photos going around that show this phone will have a triple lens camera which is almost a standard these days. Triple lens cameras have been around for 18 months now and that’s the kind of rumours we’re hearing about Apple too. I think they will play a very big market towards the camera and how well you can do both video and photography with this high-end Samsung phone. They essentially place this phone as a computer. In the past couple of years, and this may be something they play up again this year, in the past couple of years you’ve been able to plug this phone into a monitor and use it as a full computer.

If you’re the kind of person that uses Word, Excel, e-mail and internet but doesn’t do video editing and photo editing and all those things this phone is everything you’d ever need in a computer. I think that’s still a growth market for Samsung to actually just play up to the people who frankly don’t need to carry a computer around, don’t need to own a computer, they just need to have this phone and maybe plug it into a monitor.

As you say, they seem to be focussing on the camera side of things though and really kind of building that up and turning them into better cameras than we used to use with Nikons and Olympuses in the old days. Those camera companies must be getting smashed.

TL: They don’t sell anywhere near the number of units that they used to but what Nikon, Cannon, even Sony now do is they sell a very premium product. They sell products to kind of prosumers, hobbyists and professional photographers but you and I, there’s no need for us to have a camera with a huge lens. The ability for us to take a photo that looks DSLR-like, is what we say, which is the style of camera we’re talking about that has the look, the elements, the blurred background, the crisp portrait photo in the front, and they’re now bringing that to video as well. We could do that with a video now on the smartphone. It is quite remarkable to think what we can do with a smartphone camera today but I do think if not now we are very close to being at a point where I don’t think it matters that it gets any better.

Most photos that are taken on a smartphone are shared on Instagram and Facebook, they’re not published on television, they’re not videos that are being made for broadcast. We’re kind of at a point where do we even need it to be any better.

Does that mean you think the next development of the phones will be further towards making them into computers that you can plug into a monitor?

TL: Yeah, I think there will be a little bit more of a push into it. We carry this thing with us everywhere, it is so powerful. There will be both a push towards it being the only device you carry around and I think the next big push will be in the wearables, the smart watch. What do we do with the smart watch that’s on our wrist, how can we use it more than the phone so that we’re doing the basic tasks like texting, calling, using the watch on these smarter systems and the voice recognition technology. That’s where the real next kind of generation of evolution will be, that and these folding phones are about the newest and coolest things we have seen but again it’s taken six to eight months since they were announced by both Huawei and Samsung for either of them to come to market. We don’t still have a date for the Samsung folding phone to come to market.

Great to talk, Trevor, have a good day in New York.

TL: My pleasure, talk to you soon.

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Happy birthday to Ian Anderson the lead singer and flautist of Jethero Tull. And who could ever forget Thick as a Brick. What a great album that was.

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That’s it for Talking Finance this week. Have a great week.