Initial Trade War Scare - Stocks Mostly Recovered

Initial Trade War Scare - Big Trade-Related Swing

We’ve heard government officials repeatedly say the trade negotiations with China were going smoothly and a deal was near completion. We learned this weekend that’s not the case.

To be clear, stocks have been helped by this positive rhetoric, but it hasn’t been the only catalyst of this bull run. Stocks have rallied because of the Fed’s pivot, the realization that the economy isn’t headed towards a recession, and the great Q1 earnings season. 

This means if there isn’t a trade deal, the entire rally won’t be revoked. An all-out trade war isn’t the end of the world, but it will negatively affect the economy.

Stocks sometimes ignore the news on trade because it’s a lot of rhetoric. Something a politician says might be the exact opposite of the truth. The trade war definitely matters as tariffs create barriers to doing business. If there is a long trade war, supply chains will need to be altered. 

Initial Trade War Scare - Many people and businesses are still operating on the premise that something will get done.  

That’s why there haven’t been as many problems as people feared.

The big news this weekend was that President Trump threatened to increase the tariff rate on $200 billion of Chinese goods from 10% to 25% on May 10th. 

As you can see from the chart below, the $200 billion in goods are much more heavily weighted to consumer goods than the first $50 billion. The U.S. consumer will feel the brunt of these taxes. 

American farmers already have been hurt by China’s diminished demand for U.S. soybeans. Furthermore, President Trump threatened to impose another 25% tariff on $325 billion worth of Chinese goods. In 2018, America imported $539.5 billion worth of Chinese goods, meaning virtually every good could be taxed.  

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Rumors have swirled since last weekend, making some traders sell stocks in the pre-market trading session and during the morning after the market opened. Many traders seem to have a blasé attitude about this situation because we have seen this play out several times. 

Trump’s threat may or may not be acted upon, but traders won’t panic until it happens. That’s why stocks rebounded throughout the day.

Initial Trade War Scare - Stocks Recover Most Losses & Healthcare Rallies

Dow recovered from a 471 point decline, to close down just 66 points. S&P 500 opened down 1.24% and closed down just 0.45%. Nasdaq fell 0.5%. That makes sense because tech firms garner a high percentage of their sales from China. Russell 2000 closed up 0.06%. The Russell 2000 had periods of underperformance last year because traders realized the fear of the trade war was overblown. 

To be clear, small caps are hurt the least by a trade war with China because they don’t have much international exposure. Some American firms are even helped by protectionist policies.

VIX increased 19.97% to 15.44. That big upswing is likely because of the wild movement throughout the day rather than the slight decline the market closed at. These swings pushed the CNN fear and greed index down from 60 to 55 which is neutral. 

It’s amazing to see this index at neutral with the S&P 500 less than 0.5% below its record high. As expected, the tech sector underperformed as it fell 0.82%. However, the worst 2 sectors were materials and industrials which declined 1.38% and 0.97%.

The only positive sector was healthcare. It’s not affected much by trade. Plus, the sector seems to like when Biden goes up in the Democratic primary polls and the progressives fall. 

The latest poll helped the sector as it showed Biden with a 32 point lead over Sanders 46% to 14%. That’s the highest Biden has ever been in a poll. I’m not a political analyst, but it’s clear he has momentum in the polls. Things can still change when the debates start this June.

Initial Trade War Scare - Factory Orders Beat Estimates

After a few disappointing soft data surveys from the manufacturing sector, the hard data factory orders report beat estimates last Thursday. Even though this report is from March it still matters because orders lead production. Monthly factory orders growth was 1.9% which beat estimates for 1.5% growth. 

That’s impressive because February’s growth rate was revised upwards from -0.5% to -0.3%. As with most reports, the details of this reading were mixed. The bad news is monthly growth was only 0.3% when excluding transportation durables.

There were big gains in orders for cars, trucks, and aircrafts. The good news was that core capital goods orders, which is otherwise known as non-defense ex-aircraft orders, were up 1.4% monthly. That signals acceleration in business investment in Q2. 

Inventories were up 0.4% monthly and shipments increased 0.7%. The inventory to sales ratio held steady at 1.36. Unfilled orders were up 0.2%. Durable orders were up 2.6% and non-durable orders were up 1.1% partially because of the increase in petroleum prices.

Initial Trade War Scare - Trade Deficit Increases Slightly

International Trade in Goods report is interesting to review because of the trade war with China and because trade was a big reason why headline Q1 GDP growth was strong. Trade deficit increased modestly to $71.4 billion in March from $70.9 billion. It was less than the consensus which was $74 billion. 

Since the deficit was better than estimates, there won’t be a downward revision to GDP catalyzed by trade. Exports were up 1% and imports were up 0.9%. Food, feed, and beverage exports were up 6.5%. Food imports were up 8.1%. Consumer goods imports were down 2%. Decline in consumer goods imports explains why I say what’s good for GDP isn’t always good for the economy.

Initial Trade War Scare - Conclusion

Trade issue matters to the economy, but it isn’t a huge deal for the stock market because traders don’t believe the threats politicians are making. Like I said before this news, I don’t think a trade deal will be made in the near term. Negotiations weren’t going as well as officials claimed. 

However, I also don’t think this will end in a disastrous long term trade war. Politicians don’t like to make difficult choices. They won’t tank the economy, but they will delay making a trade deal. Sentiment will probably swing back and forth a few more times.