Trump’s Trade War: What Investors Need To Know
President Trump’s tariffs have thrown the stock market into disarray. Hailed as a stock market miracle with his pro-business, anti-tax stance, investors have started to see another side of our controversial president.
For nearly two years, the stock market has only moved higher — punctuated with only minor periods of flat price action. The Dow Jones Industrial Average had an explosive run, rocketing over 10,000 points from February 2016 to January 2018.
#-ad_banner-#Volatility cratered during this same time frame with the VIX, or fear index, falling into the single digits as bullish fever swept the nation. Sophisticated market players were cranking in money on the famous “Short VIX” derivative trades, while everyday investors cranked in substantial profits on the long side.
In my 25-plus years of investing, I have never witnessed a market quite like this one!
Not far into 2018, the party came to a screeching halt when Trump started getting serious about his campaign promise. Since when does a president keeping the very promises that got him elected result in a sharp stock market selloff?
It does when the pre-election pledge has to do with tariffs and trade wars. Trump’s strong “America First” rhetoric scored him massive points with the electorate. However, economic reality paints a far different picture of tariffs and protecting American jobs at all costs. While preserving a small subsector of manufacturing, the rest of the economy can suffer on a macro level.
Investors need to know which sectors will be given a shot of adrenaline from Trump’s moves and which industries to avoid like the plague.
Just What Is A Tariff?
Simply stated, a tariff is a tax imposed on imported goods by the government. It is used to prevent a foreign nation from undercutting domestic goods by selling them for far cheaper. In other words, it is an impediment to free trade in the name of keeping the status quo at home.
Currently, foreign steel and solar panel makers, particularly in China, can create these items far cheaper than in the United States. Therefore, demand has spiked for the less expensive items, resulting in a flood of Chinese steel and solar panels in the United States.
It all sounds good, right? Cheaper steel and solar panels mean that the users of these items — builders and infrastructure developers, among others — can make more profits and hire more workers, thereby triggering economic growth.
However, what really happens can be very harmful. The countries that have the tariffs instituted against them don’t just sit there and take it. Typically, the nations that suffer from the tariffs decide to retaliate by launching tariffs and trade restrictions on the first country. This chess game is called a “trade war” and the United States has just entered one.
Looking back at history, a significant trade war started in the 1930s when America instituted a series of tariffs designed to protect the interests of U.S. farmers. Called the Smoot-Hawley Tariff, this act caused imports to plunge 40%, but at the same time, unemployment soared to an economy-killing 25%. History proves that, despite (in theory) protecting one economic sector, tariffs and trade wars are usually very harmful to the macro picture.
What Is Happening Right Now
In March, Trump announced that he instituted tariffs on steel and aluminum. He also stated that he is not concerned about the resulting trade war, since “they are easy to win.” Talk about narrow-minded!
The latest news is that Trump will hit China with tariffs on $60 billion of imports. China retaliated by announcing 15% tariffs on 120 U.S. products — including fruit, wine, and steel pipes — worth just under $1 billion and 25% tariffs on eight other types of goods — including pork and recycled aluminium — in the $2 billion range if Trump does not back down from his threats.
I am dumbfounded that our pro-business president actually believes these moves make sense.
Patrick Gillsepie, CNN’s economic reporter, best explains the problem and lack of economic sense displayed by the White House:
Trump’s rhetoric on trade has been mainly pointed toward China. But these tariffs would hit our top allies harder than China. A key part of the surprise is that Trump did not refer to something called exemptions. Usually, in a trade measure like this, the U.S. president would announce the tariffs but say they don’t apply to Canada, Mexico, and other allies. But as of now, no countries have been exempted from the tariffs. President George W. Bush last applied sweeping steel tariffs in 2002, but he exempted Canada and Mexico because the U.S. has a critical trade agreement with them, NAFTA. (Those tariffs were dropped a year later when the World Trade Organization ruled them illegal.)
Trump’s rationale last year for these tariffs is that countries that import steel and aluminum into the US pose a risk to American national security.
The top steel exporters to the United States: Canada, Brazil, South Korea and Mexico (by volume). China isn’t even in the top 10. So from our allies’ perspective, the national security reason is a head-scratcher.
Remember, Trump has made clear that these tariffs are the first of many and this fear has sent the market plunging.
Which Stocks Are Being Helped?
Common sense would tell you that domestic steel and aluminum stocks would benefit from the tariffs due to higher prices and reduced competition. However, the market appears to tell a different story.
Names like U.S. Steel (NYSE: X), Nucor Corp (NYSE: NUE), and AK Steel Holdings (NYSE: AKS) all had an initial bump higher upon the announcement of the tariffs. But the excitement soon faded, with prices plunging back lower. The market is making it clear that tariffs of any kind are not welcome!
The Latest Word
Fears have started to ease about the severity of the pending trade war. China has agreed to work with the United States to improve market access. Plus, China has decided to buy more semiconductors from the United States. All positive happenings!
Risks To Consider: The tariff chatter and gamesmanship will result in increased volatility. Expect volatility to expand in the coming months.
Action To Take: Buy the dips! I firmly think the tariff fears will quickly fade as Trump is faced with the economic reality of our connected world.
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