It is said that the stock market climbs a wall of worry. Put another way, while there is always something for the nattering nabobs of negativity to fret over, the stock market tends to "get over it" and move higher over time. So, just about the time investors may have assumed the market was "over" the fear of a trade war with China, the wall of worry appears to be growing again.
To be sure, market participants were once fearful of every tweet coming out of the White House. But over the last 18 months, we've learned that this President likes to negotiate via the Press and that anything said (or tweeted) can quickly be walked back.
Investors were also assured in the beginning by the likes of Larry Kudlow that the U.S. was not in a trade war with China. No, the administration was simply negotiating to improve what were perceived to be unfair trade policies with the world's second largest economy.
However, a day after the President made good on the initial round of tariffs, the situation is escalating. And investors now appear to be thinking that a trade war may not be so easy to win - or get out of.
I won't bore you with all the details here. But in short, $50 billion in tariffs looks to be turning into $250 billion and China is retaliating, saying that "strong countermeasures" are coming. The thinking seems to be that since the U.S. imports a lot more goods than China does, Beijing won't be able to match the total tariffs Trump puts on. Advantage U.S., right?
Maybe not. It is important to recognize that China has other arrows in its trade war quiver. For starters there is the exchange rate of the yuan to the U.S. dollar. Recall that after keeping the yuan low in order to promote exports for years, the Chinese allowed the currency to rise in 2014. This made everybody happy about China's attitude toward "manipulating" their currency. However, this policy could easily be reversed.
Oh, and then there is the issue of foreign bond buying. Or in this case, a lack thereof. Lest we forget, the tax reform deal ballooned the amount of bonds the U.S. needs to sell this year. And given that China has been softly talking about reducing the amount of U.S. treasury purchases for some time now, this is another weapon that could be used against the U.S. And for those keeping score at home, this would likely mean higher interest rates, which, of course, is another brick in the wall of worry investors are dealing with.
The key point to consider - and the reason futures are down hard this morning - is that while analysts can quickly do the math on tariffs, the consequences of a lower yuan and less bond buying by the Chinese are much harder to work into a spreadsheet. Can you say, "unintended consequences?"
Other Bricks In The Wall
According to the WSJ, Trade Tensions are at the top of investors' list of concerns. Coming in a close second in the survey is the "End of the U.S. Equity Bull Market." These two are followed by concerns about a slowdown in the global economy, tighter global monetary policies, and U.S. mid-term elections/political gridlock.
I might add a few more bricks to the wall of worry here. Things such as a Fed overshoot, inflation taking root, European banks, and the action in the emerging markets.
When taken as a whole, the current worries do seem a bit daunting. As such, another wave of volatility wouldn't be surprising as buyers could decide to step to the sidelines for a while.
However, the bears would need to do a LOT of damage before we would need to start talking about the beginning of a bear market. Let's not forget that the economy is strong, and earnings are still moving up and to the right. Now toss in the ongoing stock buybacks and the "re-risking" that Paul Tudor Jones and others have been talking about (meaning there is really no alternative to the stock market these days), and well, this is simply not the stuff that bear markets are made of.
And yes, all of the above could change, and change quickly - in either direction. So, before we freak out completely over the trade war and the expanding wall of worry, let's keep in mind that violent reactions to news events is simply part of the game these days. And with the VIX having been stuck at very low levels lately, another dance to the downside would appear to be in the cards for now.
I will be watching how investors react to the opening dive. I.E. Will the dip-buyers jump in immediately or simply decide to stay at the beach for a couple days? From my seat, this should be a key "tell" relating to how entrenched the morning selling could become.
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Thought For The Day:
Accept what is, let go of what was, and have faith in what will be. -Unknown
Wishing you green screens and all the best for a great day,
David D. Moenning
Founder, Chief Investment Officer
Heritage Capital Research
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At the time of publication, Mr. Moenning held long positions in the following securities mentioned: None - Note that positions may change at any time.
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