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Industry Voices

Commentary: Investment themes in the post-trans-Atlantic world

The term "trans-Atlantic alliance" is a bit of misnomer, for "alliance" implies equals. The trans-Atlantic relation is one of inequality. Despite this original ambiguity, the trans-Atlantic alliance certainly has achieved its goals: Europe is peaceful, wealthy and open to American multinationals. The U.S. no longer sees the value of its alliance with this cluster of whining, declining midsize powers. Since U.S. foreign policy is now publicly conducted on Twitter, I will not spend much time covering the U.S. perspective.

Instead, let's focus on the other side of pond and argue that the feeling is, or at least should be, mutual: Europe no longer needs an alliance that has repeatedly hurt its economic interests. Most of the European elite still bows to the altar of Atlanticism but the tectonic plates of popular opinion, trade routes and energy dependency already have split the two sides of the Atlantic. A progressive trans-Atlantic divorce would reinforce the two secular trends that I keep coming back to: a weaker U.S. dollar and higher, much higher, bond yields.

A brief history

The trans-Atlantic alliance was born out of European despair. After destroying most of its continent and large chunks of the world, European nations had little choice but to turn to the only power that was still standing. Fortunately, Europe's financial need and strategic despair overlapped with the U.S.' economic interests and nascent imperial confidence. The European Recovery Program of 1948, or Marshall Plan, handed over $13 billion in loans and gifts to Western Europe, providing it with a miraculous recovery.

Growing apart, economically

Alliances are maintained by common economic and strategic interests. The weakening of Europe's economic dependency on the U.S. is the underlying reason for the weakening of the trans-Atlantic alliance. Among the key changes in that dependency are:

  • Access to the American market for European exporters: The importance of access to the American market has greatly diminished since the days when the U.S. consumer was the only game in town. China is an example of the diversification of trading partners brought by globalization. The following statistic illustrates the relative decline of trans-Atlantic trade: Trade with the U.S. accounts for just 6% of Europe's total trade, against 10% in 1960.
  • Policing of the world's major trade routes by the U.S. Navy: The U.S.-controlled Europe-Middle East-Asia sea route was the pillar of the 20th century world order and the ultimate justification of the trans-Atlantic alliance. The shrinkage of Europe's American dependency will accelerate due to historical changes in trade routes.

First and least importantly, the melting of the Arctic ice cap is progressively opening the Northern Sea Route. A voyage to Rotterdam from Shanghai via the NSR shaves roughly 30% of the distance off a similar trip via the Suez Canal, and it also avoids pirate-infested waters.

Second and more importantly, the "One Belt, One Road" initiative aims to connect 75% of the world's population in 40 countries within a decade. China hopes to reduce the traveling time to Beijing from London to two days with at least one 320 kph (200 mph) high-speed train.

  • Europe's dependency on imports of Middle Eastern fossil fuels: The most crucial economic pillar of the trans-Atlantic alliance was Europe's dependency on Middle Eastern fossil fuels, which has been weakening.

Europe today consumes 12.9 million barrels of oil a day, down from 15.7 million barrels 40 years ago. Russia produces about 10.5 million, and Iran another 4.4 million. The rise of hybrid and electrical vehicles is another secular nail in the coffin of Europe's dependency on U.S.-protected Middle Eastern energy imports. For example, nuclear energy accounts for about 75% of France's electricity consumption while wind power supplies about 45% of Denmark's electricity consumption.

In sum, the economic fundamentals of the trans-Atlantic alliance — access to the U.S. consumer, protection of the trade route east of Suez and dependency on Middle Eastern energy imports — are already unraveling. Politics will eventually follow.

Growing apart, politically

The trans-Atlantic alliance was founded on an original inequality, but the American hegemon tended to avoid explicit predation on its junior partners and focus on mutually beneficial initiatives.

This dynamic changed after the global financial crisis. On the one hand, the shale boom had greatly reduced the strategic value of the U.S. post-war system of alliances. On the other hand, the recession led to a domestic reorientation of the U.S. public budget. The result was an increasing lack of concern for European interests and a greater willingness to use imperial force to extract wealth from allies.

The recent years have witnessed the "weaponization of finance." Foreign (or in this case, European) banks operating in the U.S. were fined for actions taken outside of U.S. jurisdictions. Under this new extraterritorial model, European banks have effectively become an auxiliary of the U.S. Department of State.

Additionally, the United States is ready to sacrifice any number of European jobs to send a message to its strategic competitors. The 2014 Russian sanctions mostly hurt European exporters, to the benefit of domestic Russian production and Chinese manufacturers.

Although institutions that were created by and for the promotion of American interests in Europe defend the trans-Atlantic alliance with the ferociousness of a bureaucrat fearing for his pension, popular opinion will adjust to this new reality much more quickly — in fact, it already has. According to the last survey by Pew Research Center, 49% of Europeans have a negative opinion of the U.S. as a whole. In a major historical turn, Europeans' perception of the U.S. has become more negative than the world average.

Market implications

A progressive unwinding of the trans-Atlantic alliance would reinforce the two secular trends to which I keep returning: a weaker U.S. dollar and higher, much higher, bond yields.

The dissolution of the trans-Atlantic alliance will lead to a power vacuum, or "G-zero," a term coined by Ian Bremmer to reflect the collapse of global leadership. A leaderless world will certainly be less predictable: the risk-free rate should increase to compensate for the inherent instability of a multipolar world.

The unraveling of the trans-Atlantic alliance will contribute to the secular rise in Treasury yields and the fall of the U.S. dollar via a reduction of European (mostly German) surpluses. At $595 billion annually, the European trade surplus is by far the world's largest macroeconomic imbalance. The European trade surplus is a byproduct of the trans-Atlantic alliance.

Europe may no longer be in a position to accumulate such large surpluses anyway. Germany's pending retirement bomb will drastically reduce the country's excess savings, and force a domestic reorientation of its economy. This German savings squeeze is occurring just as the two other big global savings gluts (the Chinese surpluses and the petrodollar glut) are being drained at the same time.

The trans-Atlantic alliance trade can be summarized by the relative performance of the European defense sector vs. consumer staples stocks.

European consumer stocks — such as Nestle, Danone, Unilever, l'Oreal and Inbev Anheuser Busch — rely on the global infrastructure provided by the trans-Atlantic alliance: their complex logistic chains require free trade, their voracious appetite for mergers and acquisitions needs open capital accounts and their financial leverage is supported by cheap money.

On the contrary, European defense stocks would be the most obvious beneficiary of the unraveling of the trans-Atlantic alliance. The eurozone spends just 1.4% of its gross domestic product on defense. Raising this figure to the 2% NATO objective would require $78 billion in additional annual spending. For comparison, the market capitalization of the MSCI Europe Defense index is just $257 billion.

Not surprisingly, European defense stocks have risen almost continuously against European consumer staples stocks in the past two years.

Unsurprisingly, Europe's "continental" markets have greatly outperformed the "Atlantic" powerhouses since the U.S. election. Expect more of the same in a post-trans-Atlantic alliance world.

Vincent Deluard is the global macrostrategist for INTL FCStone, San Francisco. This content represents the views of the author. It was submitted and edited under P&I guidelines but is not a product of P&I's editorial team.