Stocks may have recovered from their dip in August, but as the U.S. and China get set for trade negotiations in October, investors should be preparing for the possibility of more turbulence. Marko Kolanovic, JPMorgan & Chase Co.'s global head of macro quant and derivative strategy, recommends six strategies that offer potential upside while providing a hedge against the risk of a more severe downturn, according to a recent story in Business Insider

Those strategies are: 1) overweight equities vs. underweight bonds; 2) overweight equities from U.S., Japan, and emerging markets; 3) overweight U.S. small caps vs. mid and large caps, and value vs. low-volatility; 4) long the U.S. three-year Treasury, Italy’s 30-year government bond vs. Germany’s, and Spain’s 10-year vs. France’s; 5) short the AUD/JPY currency pair, utilize a bear put spread on the GBP/USD pair, and go long the CHF/USD pair; and 6) overweight energy, precious metals and agriculture.

Key Takeaways

  • U.S. and China prepare for October trade negotiations.
  • Outcome of talks could lead to large swings in markets.
  • JPMorgan’s Mark Kolanovic is optimistic about trade talks.
  • He offers six themes to play the uncertainty.
  • He also sees technical rotation from momentum to value continuing.

What It Means for Investors

Kolanovic is ultimately optimistic about trade talks in October, but even in the event that the trade war escalates, he believes the global economy will avoid sinking into a recession. Another factor driving his bullish perspective is the resurgence of value stocks, which had been underperforming momentum stocks since at least the tech bubble. The equity rebound from the dip in August was particularly beneficial for stocks considered undervalued. 

That technical rotation, from momentum to value, explains one of his six themes that overweights value stocks relative to stocks with low volatility. “We believe that this week’s value rotation can continue and the broad market can move higher going into October negotiations, and if real progress is made, continue into a more sustained rally,” Kolanovic said.

For the bond portion of investors’ portfolios, which should generally be underweight relative to equities, one suggestion is to go long 30-year Italian bonds vs. German bunds. Political risks have subsided in Italy with the Five Star party forming a coalition with the more mainstream PD party, a development that is likely to limit the possibility of conflict with the European Commission over the country’s 2020 budget.

One possible wrench in Kolanovic’s bullish thesis on energy, precious metals, and agriculture is the weaker data coming out of Europe early this week. He cites the rebound in manufacturing PMI in August as being supportive of commodities overall. However, the European data, including German manufacturing PMI at its lowest reading in more than a decade, suggests the uptick in August may have been just a brief respite from an overall downward trend. 

Looking Ahead

The OECD has also come out and expressed concern over the global economic outlook since Kolanovic first presented his optimistic outlook. The Paris-based organization expects global growth to remain low in 2020 and possibly longer, and cut its expectation for U.S. growth down to 2.4% for this year and just 2% next year. Of course, despite his optimistic bent, Kolanovic did pitch his strategies as also offering protection in the case his more bullish scenario didn’t play out.