Biggest Structural Risks Facing The Market

Structural Risk: Trade Wars

In a previous article, I reviewed the cyclical risks in the Venn diagram below. Now let’s review the middle risks which are both structural and cyclical. The trade wars are considered cyclical because Trump is going to be President for another 2.5 years or 6.5 years. Without him, these tariffs wouldn’t be in place. They are also structural because real wage growth has been mediocre and manufacturing jobs have been outsourced.

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With such poor economic performance for working people, there are political consequences. Usually something gets the blame for hardships. It could be the rich which would cause heavier taxation on them or it could be international trade partners. Trump has discussed eliminating the income tax and replacing it with high tariffs. There would also need to be lower spending in that scenario, but Congress and the White House don’t seem to be following that part of the plan since the latest budget increased spending.

The risk is red hot because the negotiations keep leading to higher tariffs. It’s the biggest headline risk facing the market. With the economy being near the end of the cycle, investors are wondering if they should just take their gains and sell because a recessionary bear market is coming soon. Even though the risk is hot, it is increasing because there are more tariffs coming down the pike. We can’t ignore the possibility that the situation will be resolved quickly, but for now we need to deal with the risk.

The charts below show the European auto and auto parts companies compared with the STOXX 600. As you can see from the bottom chart, the relative performance has declined from 20% outperformance in January to nearly flat because of the tariffs Trump has threatened to put on European car companies. He threatened a 20% tariff, but nothing is set in stone. If this doesn’t get enacted, these stocks will rally sharply.

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