By: BlackRock Investment Institute (BII)
Cybersecurity is becoming a pressing issue – and a flash point where countries’ economic and national security interests can intersect. The combination of these issues is complicating U.S.-China trade negotiations, with market implications across the technology supply chain in particular.
Chart of the week
U.S.-China tech competition is heating up, amid rising trade tensions between the two nations. These two previously distinct risks are spilling into each other. The U.S. has added China’s Huawei Technologies, the world’s largest telecoms equipment maker, to its “Entity List”, a list of companies deemed a national security risk by the U.S. This designation prevents Huawei and its affiliates from buying or using U.S. technology and components without a license. The news hit the stocks of a slew of industries in the global telecom equipment supply chain. One exception: U.S. telecom equipment makers, which initially gained. See the chart above. Yet the ban could damage the global telecom supply chain in the medium term, as there are no simple substitutes for a lot of Chinese tech equipment.
Cyber risks and investment implications
Cyberattacks are increasing in scope and intensity. Cyber actors across the world vary in sophistication and capability, ranging from well-funded government agencies and terrorist networks to poorly resourced criminal groups. Their objectives span beyond stealing personal and business information to include broader geopolitical and economic aims. We view cyberattacks as a growing risk to critical infrastructure and increasingly part of the arsenal of nation states.
Geopolitical tensions are driving an increase in the scale and sophistication of cyber-attacks—specifically those from nation states or with nation-state backing. This is the backdrop against which the U.S. has moved to restrict the use of Chinese-made equipment that it believes could potentially be used to intercept sensitive materials or disrupt American infrastructure. The seemingly abrupt U.S. action on Huawei was a long time coming, given the intensifying rivalry between the two countries: The U.S. has long complained of Chinese practices such as forced technology transfer and a lack of protections for intellectual property. China has shown its ambition to lead the development of advanced technologies including the fifth-generation cellular network (5G), yet it remains heavily dependent on the U.S. tech sector. The chips used in 5G development are dominated by U.S. semiconductor suppliers, for example. U.S semiconductor suppliers had enjoyed higher demand for their products in recent quarters as some Chinese companies built up their inventories in anticipation of a U.S. government ban; that demand now looks likely to plummet.
Bottom line: We see cyber security as an increasingly important risk for all investors to monitor, with implications that cut across sectors, from financials to utilities. This risk has become entangled with concerns about national security, economic competitiveness, and leadership in advanced technologies. We are still positive on makers of semiconductor products related to 5G development over the long term, but believe investors need to pay more attention to potential impacts of geopolitical tensions on the supply chain. And more broadly, we see potential for such tensions to drive a gradual decoupling of the U.S. and Chinese technology sectors – a reason why we believe there is a case for owning tech companies in both.
Week in Review
- Global stocks fell on growing concerns about global growth and rising U.S.-China trade tensions. Energy and technology sectors led the retreat. Crude oil prices dipped to two-month lows. Government bond yields fell in the U.S., and hovered near the lowest levels in more than two years in the eurozone, as investors sought shelter in perceived safe-haven assets.
- The resignation of Britain’s Prime Minister Theresa May deepened uncertainties around Brexit. Central bank policy meeting minutes showed European Central Bank policymakers were concerned about weaker-than-expected growth in the eurozone, while their peers at the Federal Reserve were adhering to their view that the below-target inflation was “transitory”.
- Manufacturing and business sentiment data from the U.S. and eurozone disappointed. U.S. manufacturing sector in May recorded its slowest activity level in nearly a decade and new orders fell for the first time since August 2009 amid rising U.S.-China trade tensions. The growth in the eurozone’s manufacturing sector was slower than expected. German business morale faltered.
Weekly and 12-month performance of selected assets
Chinese economic data is likely to be the market’s main focus this week, against a backdrop of rising U.S.-China trade tensions. The official China PMI number is likely to indicate economic activity was still expanding in May. Any signs that increased U.S. tariffs have dented sentiment will be worth watching for. We expect Chinese activity to remain steady through the second quarter, after having rebounded in the previous quarter with significant policy stimulus providing ongoing support.