Combing through the financial press generally yields a relatively narrow range of opinions on matters of economics, politics and the daily gyrations and machinations of Adam Smith’s fabled “invisible hand”. That’s not to say there is no divergence – of course left and right have their say. In the modern age however the division between left and right has largely been about the distinct flavour of “free market, liberal capitalism” one prefers, as opposed to anything more distinct. Even the neo-cons are pretty neo-liberal in financial matters. The authors largely went to the same schools, studied at the same universities and imbibed the same textbooks. Whether your favourite economist (to be honest if anyone has a favourite economist, they really need to get out more!) is saltwater or freshwater, neo-Keynesian or neo-classical, Austrian or Chicago – on the vast majority of topics they will be more than happy to bandy about certain absolutes which will have their readership nodding along furiously.

On the subject of economists, it is a matter of record that the subject of macroeconomics is so pseudo-scientific that it is not just possible but easy to find a credentialled economist to support just about any economic policy using supposedly ‘sound’ theory. One of the main architects of US President Donald Trump’s trade agenda earned both an MPA and an Economics PhD from Harvard after all. The economic absolute du jour is of course ‘free trade is good and thus by extension trade barriers are bad’. Let’s put aside for now the fact that every country the world over has significant trade barriers. Let’s put aside the rather relevant national security concerns, and let’s certainly put aside for now the fact that the European Union was founded explicitly on the principle of protectionism both as industrial policy (protect French farmers) and source of revenue (how else could an unelected European government with no fiscal policy raise the revenues needed to further its agenda?).

Let’s instead focus on what economists, and those that parrot their pseudo theory, mean when they say ‘good’ or ‘bad’ or ‘better’ or ‘worse’. Without hesitation I feel justified in generalising absolutely – they ALWAYS mean better for the economy, in aggregate. They don’t mean better (or worse for YOU specifically) or for the average person or the poorest person. They mean better for the size of the economic pie. The distribution of that pie rarely comes up and unfortunately when it does it tends to be from a source wishing to relive the horrors of collectivist regimes of the 20th century.

This is where the rubber hits the road. The graph below has been in our chartbook since I arrived at Marlborough almost a year ago. I’ve been using it further back than that also. Of course, one picture cannot surely explain away everything going on today – but it goes a pretty long way towards doing so, in my humble opinion. This picture does indeed paint a thousand words.

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The blue line is the share of US GDP accruing to workers – those supplying their labour (hence the L). The orange line is the share of US GDP accruing to owners of capital – essentially business owners in all their guises (the symbol C is used for consumption in economic parlance and thus the symbol K is used to denote capital).

As you can see my chart goes back to the late 1940s. The lines ebb and flow over time but have mean reverted over a long time period – and particularly around recessions when, though unemployment rises, capital owners have tended to fare very badly.

Around the year 2000 (not coincidentally, just around the time that China joined the World Trade Organisation on contentious ‘non-market economy’ terms) we start to see a divergence. Sure, there was a reckoning around the Great Financial Crisis but, as policy makers rode to the rescue of all sorts of financial assets regardless of their underlying quality, the reckoning did not last long. Over the last 20 years or so, there’s just never been a better time to be a capital owner (think equity, i.e. shares of companies) and it’s never been a worse time to be a US worker. Its these sorts of imbalances, which have historically led to upheaval (if you study the research output of many of the financial world’s foremost analysts, I’m sure you will read repeatedly that a recession is unlikely because of the lack of economic imbalances. Ahem, to that). Throughout much of history, the word I would have used instead of upheaval would have been revolution but let’s keep it clean for now.

The received wisdom is that globalisation has been an unequivocal success and thus anyone seeking to go the other way is a [*insert favoured pejorative here*].

The problem with that thinking and that analysis is that for many people its just not true. Being able to buy cheaper imported tat from China doesn’t really make up for losing a good job and being forced to accept a worse job instead, or for seeing real wages stagnate over decades (as they have across much of the Western world for much of the population). Where US consumers buy higher value goods from China they don’t really benefit from the lower cost of production – the producer does. For evidence of that check out the margins on an iPhone.

Whether Trump is mad, bad or dangerous to know (quite possibly all three) isn’t necessarily a relevant repudiation of the underlying sociopolitical problems he is purporting to address (I say purporting because honestly does anyone really know why he does what he does, or says what he says?) but you would never know that from reading the financial press. Actually, you are more likely to assume that if you look around you and think that your lot has gotten worse over the last number of years then you must be wrong, bad, stupid or ignorant. It would help all of us if we started to have a more objective, more informed and much calmer conversation about the conflict between economic policies designed to be efficient at the aggregate level and the social consequences of those policy choices. Economic theory isn’t even theory as scientists would understand the word – it sure as sugar shouldn’t be dogma.

With all of that theoretical, socioeconomic digression aside I feel compelled to cover what’s actually going on in markets – this is supposed to be a macro market commentary after all.

The tariff announcements from Trump on 2nd April – the day he himself christened ‘Liberation Day’ (‘who’ is being liberated from ‘what’ I’ll leave readers to decide, I can only presume) – were much bigger and scarier than markets had expected. For all the reading and conversations I engaged in leading up to the day, I recall no one suggesting things would be as extreme as was announced. Markets dutifully went through the five stages of grief in short order with the net result being selling. Selling of just about everything. Safe havens be damned as it seemed that no financial assets were consistently desired in the trading sessions which followed the big announcements. Government bond yields did go down for a short while but very soon even those safest of safe assets got taken to the woodshed. It all became a bit reminiscent of those early days of the pandemic in March 2020. There’s a good reason that things seemed so familiar – in modern markets there are a vast number of investors and investment styles which measure the amount of risk they are running using some variation of a ‘value-at-risk’ (VaR) model. We don’t need to go into the weeds to assess the specific details of what that means, how it is calculated or why its useless at just the moment you need it to be very useful (history is littered with examples – but suffice it to say that all ex-ante risk models rely on assumptions and the assumption that the future looks like the past and the assumption that market returns are normally distributed are two absolute crackers which are, quite obviously, and at times catastrophically, false). All that matters here is to say that there is a relationship between the level of risk in any portfolio and the volatility of the securities which make up that portfolio. When volatility rises so does risk (risk as calculated in these sorts of models, whether that is really ‘risk’ is another matter, and one which Warren Buffet would very much challenge).

Most of these sorts of investors generally don’t want the market to decide how much risk they are running. So as their portfolio risk changes as a result of changes in volatility, they will often respond by increasing or decreasing the size of their positions in order to keep risk levels constant. They don’t necessarily do so on a day-by-day basis in response to the normal changes in volatility which are inevitable in markets. When volatility goes through the roof overnight however it is near inevitable that a vast number of hedge funds and other faster-moving investors will respond by reducing the size of their positions. It doesn’t necessarily matter if some positions are doing well and others doing badly. The usual response is to reduce everything. So, if hedge funds happen to own a load of US treasuries and volatility goes up dramatically the chances are they will be selling treasuries in response.

This situation is known (imaginatively enough) as a VaR shock and that’s exactly what we just witnessed. Sure there are likely other explanations for the somewhat unusual looking movement in Treasury yields (Treasuries are a safe asset and so we normally expect their prices to rise, and thus yields to fall, when bad things are happening and stock markets are plummeting) such as Chinese and Japanese selling, a general distaste for US assets, fears about rising US inflation etc and I’m sure they all played a part. However, in my humble opinion, over the time horizons we are talking about here the VaR shock dynamic is the big one. Especially as foreign institutions (the People’s Bank of China for example) probably hold mostly shorter-maturity Treasuries and if inflation was the driver, then why did rates of inflation implied by markets (so-called ‘breakeven inflation’ – the difference between the yield on a normal nominal US Treasury and the yield on their inflation-protected cousin the TIPS or treasury inflation protected security) fall over the period in question?

In general, markets reacted very badly to the tariff news with large falls in equities, volatile and discomforting price behaviour in bond markets (as discussed) and a general repudiation of the US dollar. Maybe it was this market mess, maybe it wasn’t. We will probably never know, but after a few days Trump started the now all-too-familiar row-back. With the exception of China (where mutual retaliation has taken tariff rates into triple digits) many of the larger tariffs were paused for 90 days to allow for negotiation. Of course, equities took-off like a robber’s dog (it doesn’t take much to get that most hopeful and blinkered of markets back into bull mode) but elsewhere the response was more muted. It seems hard to completely discount the potentially epochal shift in the global order, regardless of whether Trump is selling this as the Art Of The Deal.

Anyone hoping for insight and clarity I do apologise. This is one of those times where we are all learning by doing – regardless of how old, bald, grey and tired we are.

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This article is provided for general information purposes only and should not be construed as personal financial advice to invest in any fund or product. These are the investment manager’s views at the time of writing and should not be construed as investment advice. The opinions expressed are correct at time of writing and may be subject to change. Capital is at risk. The value and income from investments can go down as well as up and are not guaranteed. An investor may get back significantly less than they invest. Past performance is not a reliable indicator of current or future performance and should not be the sole factor considered when selecting funds.