Of Trade and Rumors of Trade Wars

US equity markets have embarked on another wild ride as investors responded to the rising spectre of a potential trade war. President Trump recently enacted tariffs on steel and aluminum imports and targeted China with about $60 billion in additional tariffs over "intellectual property" theft. Ultimately, analysts - and as of yesterday, the broader markets - are assuming this is simply a calculated move to bring China to the negotiating table to discuss trade issues. For Trump, the biggest problems with China seem to revolve around intellectual property theft (as previously stated), cheating on trade conditions, non-reciprocity of access to Chinese markets for US investors, and contributions to the USA trade deficit (mostly good points to be sure; only the last one confuses TheIgnorantInvestor since a trade surplus or deficit merely indicates the direction of flow of goods and services, which China can't be blamed for).

Where do goods enter and leave the United States? The main throughways for trade with the United States are typically shipping ports and large airports (yes, of course LAX makes the list): details for 2017’s top 10 throughways can be found here: https://www.forbes.com/sites/kenroberts/2018/02/27/the-top-10-airports-seaports-and-border-crossings-for-u-s-trade-in-2017/

The USA was the world’s largest trading nation (which alternates with China) with $3.7 trillion in goods traded in 2016, followed closely by China’s $3.68T (WTO). Simultaneously, China recently supplanted Canada as the USA’s largest trading partner. Add to this fact that China holds more than $1.2 trillion in US Treasuries, and one might almost say that we either sink or swim together. The possibility of a trade war between the USA and China would be disastrous for both countries, although China would be expected to be slightly more resilient (the average US consumer would not be a happy camper to pay higher prices across the board for goods).

The top five trading partners for the US, in order of dollar-denominated trade size, are: China, Canada, Mexico, Japan, and Germany (US Census). Check out a comprehensive breakdown of 2017’s Top 10 US Trade Partners here: https://www.forbes.com/sites/kenroberts/2018/02/28/top-10-u-s-trade-partners-in-2017-can-be-broken-into-three-tiers/

Plenty of words and some random facts set the stage for the question: where should an investor invest in such an environment? The probability of full-blown trade war is considered small, with China exercising restraint and both sides meeting up to discuss their respective differences. Sometimes news headlines can be very distracting (Facebook, anyone?), and so, when big issues arise and with limited resources at the average investor’s fingertips, it can be helpful to read what analysts are projecting, and what the equity market is actually doing. Examining sector and sub-sector sensitivity to anticipated changes can be very helpful.

How have various assets and asset classes performed since talk of a trade war began nearly a month ago? Nice breakdown with a beautiful illustration provided by Bloomberg in an article here: https://www.bloomberg.com/news/articles/2018-03-26/the-market-is-already-picking-trade-war-winners-and-losers

The Good
Technology would be expected to continue to outperform, since tariffs are difficult to implement against them and they tend to have solid balance sheets these days. The old 2016 Trump-trade of Financials would also be expected to perform just fine (banks, rising inflation and interest rates, anyone?). Health care could outperform. For health care, biotech companies involved in drug research and development are particularly resilient to external (international) pressures.

The Bad
Immediately what comes to mind is that retail (stores that sell clothing, furniture, etc), large multinational industrials, and the automotive industries could easily be hurt by rising protectionism. Domestic production with exposure to raw materials that the US is raising tariffs on would also be expected to see margin pressures. Even emerging market economies with exposure to the USA could be negatively affected. China could also respond to rising US tariffs by targeting Trump’s political support base, in which case agriculture companies and companies with sensitivity to agricultural companies (supplying tools, chemicals, etc) could also be affected.

The US is the world’s largest soybean producer, and China is the world’s largest soybean consumer (article by Reuters): https://reut.rs/2ueeswV

The Verdict
Remain vigilant! On the one hand, earnings season is just around the corner with a strong performance widely expected. On the other, many sections of the US equities market hit correction territory after last Friday’s sharp selloff; the S&P 500 itself hit its 200-day moving average before Monday’s sharp rebound (ie technicals are vulnerable). Staying involved in “safer” sectors (inflation and trade war resistant) could turn out more ideal as the market remains on shakier ground. Finally, remember Treasuries? China holds more than $1 trillion of them. Smart money seems to be treading carefully around that fact.