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  • MONTHLY VIEWPOINT

    From the Chief Investment Officer Marco E Pabst

    15th May 2018

    ___________________________________________________________________________________________

    ACPI Investment Managers Private & Confidential 1

    The buck is back ___________________________________________________________________________________________

    "Truth is so obscure in these times, and falsehood so established, that, unless we love the truth, we cannot know

    it" Blaise Pascal

    Summary

    • The dollar appears to have completed its bottoming phase and is set to move higher

    • Trump was able to score some notable successes recently, resulting in his approval rating improving substantially

    • Higher bond yields caused by rising commodity prices and inflation are the next pain trade for equity and credit markets

    • Despite those headwinds, strong fundamentals continue to underpin current market levels

    As is often the case in investing, peaks and troughs are

    reached at points of extreme optimism and pessimism.

    Stock markets tend to top out and turn the other way when

    everyone is maximum bullish and I highlighted in previous

    Viewpoints that such a point was reached around the end of

    last year and early 2018 when some prominent fund

    managers started discussing the possibility of a stock

    market melt up.

    Similarly, I felt that bearishness for the dollar and

    bullishness especially for the euro have been near extreme

    levels for some time. Euro bullishness was driven by an

    acceleration of growth in the eurozone whilst, on the flip

    side, markets turned negative on the dollar because of

    rising budget deficits, the threat of a trade war and Trump’s

    general unpredictability.

    Obviously, a certain investment narrative can only be stretched to a point where everything is priced in. Interest-rate

    differentials today are pricing in an annual 2.4% depreciation of the dollar versus the euro for every year over the next ten

    years. This just doesn’t smell right. Although this is an anomaly that is largely caused by the ECB’s inertia to do anything

    about the ultra-low European interest rate regime, it highlights how attractive US yields are at the moment.

    Exhibit 1: Performance of different asset classes in 2018

    Source(s): ACPI, Bloomberg

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  • MONTHLY VIEWPOINT

    From the Chief Investment Officer Marco E Pabst

    15th May 2018

    ___________________________________________________________________________________________

    ACPI Investment Managers Private & Confidential 2

    It appears, markets are taking notice and, thus, April saw a turnaround in the dollar’s fortunes. Whether this was just part of a

    general bounce in risk assets remains to be seen.

    Although equities recovered nicely, the moves that mattered last month took place in currency and interest rate markets. Thus,

    the dollar finally managed to stage a rally from oversold levels, driven by rising yields in the US. As a result, the DXY dollar

    index gained more than 2%, while the Euro fell 2%, the Swiss Franc 3.7% and the Yen 2.8%.

    Exhibit 2: Dollar index, euro and dollar speculative positioning and US 10-year yields

    Source(s): ACPI, Bloomberg

    The rise in the greenback was accompanied by a reduction in speculative futures positions in euros and a small increase in

    dollar long positions. Irrespective of the recent moves, euro optimism as expressed in net long positions is still near record

    levels. Rising yield differentials but also faster growth in the US are supporting the stronger dollar. Thus, for the first time since

    2015, growth in the eurozone is running below growth in the US (Q1: 2.5% in EZ versus 2.9% in the US).

    Although there was no single driver that caused the rebound in the dollar, we believe it is a multitude of factors that led to this

    bounce. Receding geopolitical risks are probably on top of the list as a further confrontation between the US and Russia on

    Syrian ground was avoided. The third inter-Korean summit in 20 years also appears to be bearing fruit as Kim Jong-un is

    caving in on pressure by Donald Trump, promising to end his nuclear ambitions and to destroy a major test site.

    This did not come as a major surprise as it was, in my opinion, very unlikely that Kim Jong-un ever intended to attack South

    Korea or even the US. His nuclear posturing created a bargaining positioing for a country that is deeply impoverished and

    whose millitary is in an extremely bad state. Having seen the equipment of soldiers in the North and especially the border

    troops left the impression of a military that is on its last legs. Those troops in most countries, but especially in hermetically-

    sealed states would be staffed with elite soldiers and the newest equipment available. In the case of North Korea, these troops

    looked like an army from the 1960s or 1970s. Some cynical voices are even suggesting that the test site that Kim is prepared

    to destroy is currently unusable and heavily damaged anyway.

    Should the reinvigorated inter-Korean dialogue and Trump’s involvement lead to a substantial improvement in relationships

    between the two countries with a view of a potential re-unification in the future, then one major potential conflict area in the

    world would be eradicated and Trump should maybe be considered for a Noble Peace prize, and deservedly so, in contrast to

    his predecessor.

    Not much progress was made in the brewing trade conflict between the US and China, however, although I would suspect that

    some compromise will be found in the end. Trump will be satisfied if China promises to reduce its trade surplus with the US

  • MONTHLY VIEWPOINT

    From the Chief Investment Officer Marco E Pabst

    15th May 2018

    ___________________________________________________________________________________________

    ACPI Investment Managers Private & Confidential 3

    albeit not the amount currently requested. China is likely to also open up somewhat in terms of intellectual property rights and

    technology transfer requirements. As the next phase in the development of the country is more focussed on the quality of

    growth, the improvement of living conditions and environmental protection, export growth per se will not be of the highest

    importance to China’s government.

    Furthermore, the country’s leaders probably acknowledge the fact that the trade agreements that are currently in place are

    unusual by international standards and the result of a weak negotiation partner. Madeleine Albright finalised the deal at the

    time and China became member of the World Trade Organization (WTO) in 2001. However, she was no trade expert and

    apparently struggled to see the importance of what are the key issues at hand today. This was in stark contrast to

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