Stocks Dive on Trade War Gamesmanship

War, what’s it good for, absolutely nothing ! so goes the Motown Vietnam protest song. Investors shouldn’t be surprised that Trump is delivering on his promise to threaten Trade Wars to fix what he perceives as unfair trade decimating US business. Trump’s modus operandi is anchored in domination and alarm. It worked in business deals, it protected his empire from defaulting to banks in the early 1990’s and has been a natural fit for politics which thrives on alarmism and demagoguery. Extreme war rhetoric between Trump and  N.Korea alarmed the world, yet thus far has resulted in an historic cease-test-fire and opening for rational dialogue. Alarmism over a depleted military helped pass a record increase in military spending and omnibus bill today.  Will his Trade War threats have similar results as part of another negotiating tactic? The Section 232 Tariffs on Steel and Aluminum have already led to claims of successful trade deals with Mexico, Canada and Europe, who may now be exempt from penalties. China is the primary target that remains for Trump to improve trading leverage. In all cases, Trump isn’t playing by conventional rules or displays of decorum. Trump has a penchant for bullying tactics with an alarming dose of purposeful unpredictability and appearance of irrationality. Asking for the moon to gain an inch smells like victory for our President. Being crazy like a Fox or dumb as a rock may be a matter of perspective that only history can attempt to assess. In the big picture our trade deficit as a percent of our economy has been improving over the past decade and currently resides at levels seen in the mid-1980’s.

For now, the stock market is finally becoming concerned as the Dow fell over 1,000 points in the past 2 days. After 5 superb quarters of corporate earnings growth since Trump’s election, equities are now down 10% from recent record highs, attributed to uncertainty over US trade related profits in the future. Many great american companies like Apple, Catepillar, Fedex, Starbucks and GM need China and will feel the bite in minutes should China decide to retaliate. We have been warning of this 1st quarter 2018 correction since late 2017 that was forecast to be greater than a 10% decline before new investments in stock should be considered. Given the lack of extreme fear, more time is required before the psychology of fear is sufficient to form a solid bottom.

Trump cares about the stock market, but short term he’s unfazed by a 10 to 12% correction. Section 232 Tariffs on Steel and Aluminum were only his first salvo. As we have warned, Intellectual Property in Section 301 is the new Trade War front against China. The tariff on Steel and Aluminum still consumes headlines, although often overlooked is that while China produces close to half of the worlds steel, it consumes 88% of what it makes. Trump’s goal wasn’t as much about having stronger domestic steel, but better trade deals.

The question of the day is how bad will investments suffer from this budding trade war? In a recent interview we said it could escalate, but at this point see trade threats being used to improve negotiations. We also noted that the greater than 10% first quarter correction arrived so quickly that more time was required to generate the requisite pessimism that pullbacks need to achieve a significant low. The latest time and price zone below was illustrated prior to the 2018 correction or threats of Trade Wars, thus we view current scary rhetoric as an excuse or trigger for what was already expected to be a risky market environment. We wouldn’t rule out a few more months of churning given the entrenched complacency of Buying the dips mentality that needs to be quelled. Our contrarian view is that: in a correction, pessimism is good and extreme caution is great. When investors start doubting the rallies and standing aside, that will be the start of low risk entries. One technical clue will be AAII (small investor sentiment) near 20% Bulls (33 last) and the 20 day equity put/call ratio in the lower 50’s (63 last).

For better or for worse, this President is delivering on his campaign promises, but his mercurial nature regarding risk can lead to extreme emotional turmoil among investors. Every CEO or General understands that in any threat of war, one dare too far can be disastrous. It’s clear that Trump expects a negotiated outcome avoiding all out Trade War with the end game of a strong economy as measured by jobs, GDP and the stock market. His current high level Global Gamesmanship is part of a tactic whose outcome is uncertain, but his goal is a resolution this Spring that will clear the ground for accelerated US growth and prosperity. A double digit stock market correction was our expectation prior to a potential Trade War and while further extremes toward a 2011 style drop of 21% is possible, we suspect that Trump will not allow investor or voter angst to fester much longer. Look for a trade resolution in the 2nd quarter that avoids recession and flips the market back into euphoria prior to the November mid-term elections. 

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