Risk is back on as Japan and US strike a deal

The market mood has been lifted on Wednesday after the US and Japan announced a trade agreement. The Nikkei is surging more than 3%, as a trade agreement beats news that Japan’s Prime Minister is set to resign after less than a year in office, after a disastrous Upper House election result at the weekend.

Auto tariff hopes

The trade agreement is undoubtedly good news for Japan. There is  a 15% rate on Japanese exports to the US, which includes auto exports. In return, Japan has pledged to invest $550bn in the US. The auto component is by far the biggest coup for Japan, as that makes up the bulk of exports to the US. By lowering the auto tariff rate to 15%, auto tariffs were a flat 25% rate before the exemption for Japan, it is giving hope that those countries who have yet to agree tariff rates with the US can seal good deals if they pledge investment into the US.

China deal hopes grow

The US President also sealed a deal with the Philippines on Tuesday, and the US Treasury secretary said that he would resume trade talks with China next week, ahead of the August 12^th deadline for negotiations. This suggests that the US is more focused on agreeing a deal with China, rather than the EU. The EU has until August 1^st to reach a trade agreement, otherwise, it will be subject to 35% tariffs.

Luxury, Airbus and Autos lead European bourses

This trade agreement has changed the mood as we move to the middle of the week. Financial assets had been directionless at the start of the week, as investors waited for some key earnings reports later today and news on trade deals. The Japan/ US trade agreement has boosted stocks across the world. European indices are a seal of green. The FTSE 100 is lagging; however, it continues to extend gains above 9,000. The Cac 40 is higher by more than 1%, as luxury companies and Airbus lead the index higher. These companies are most exposed to US tariffs and are reacting to any hint that tariffs could be milder than expected.

German car makers are also higher, as hopes rise for lower tariffs. BMW and Volkswagen are some of the top performers on the Eurostoxx 50 index, as hopes rise for Europe to achieve a similar deal to Japan especially on auto levies. Luxury car makers like Ferrari are also leading the index higher on Wednesday.

We continue to think that tariff news will have the broadest impact across financial markets in the coming days. For example, the gold price is down by $4 today, and the oil price is also up a touch, with Brent crude rising by 0.25%.

The FTSE 100 could be an underperformer in the next few days, firstly because UK companies are less impacted by tariff news, since the UK already has a trade deal with the US, and secondly because the focus will switch to tech later Wednesday. Tesla and Google will report earnings for the second quarter. There are high hopes that these results will sustain another leg higher for the AI trade. Below is our earnings preview for these two companies that we included in our week ahead report.

Earnings preview: Tesla and Google

The reporting season will heat up this week, with Google and Tesla earnings the highlight. Overall, 100 S&P 500 companies will report earnings this week, and expectations are high after a solid start for earnings season, especially from US financials. Alphabet and Tesla will both report earnings on Wednesday evening, after US markets close. Analysts expect Google to report double digit earnings and revenue growth. Google could report stronger advertising expenditure, and crucially, for the stock price, signs that AI investments are starting to pay off, and AI monetization is boosting results in Google’s search business. Cloud is also an important part of the business, so these results will be watched closely. Cloud strength could come from more businesses adopting AI. Thus, we are moving into the monetization phase of AI, and Google will be a key litmus test for the tech sector. If its AI investments pay off, then it may ignite another rally in tech stocks, especially those with AI exposure.

Tesla will also report this week, Last quarter, Tesla reported a 20% drop in auto revenue, and the bar is low for Q2. The market expects a 20% drop in earnings YoY, although there is some confusion about Tesla earnings leading up to this report. There could be further weak sales, but Tesla is the ultimate growth stock, and if the earnings call presents a positive opportunity for the robotaxi revenue possibilities, and the company’s AI investments, then the stock could shine.

Tesla’s shares have tended to rise in recent quarters, even with earnings misses, and the average move in the share price 24 hours after an earnings report is 10%. The share price has been rising as we lead up to this report, and it is higher by nearly 4% in the past month. Thus, it may take a negative report to weigh on Tesla’s share price.