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Steeling for Trouble: Stocks Swoon Amid Trade Angst

By John Persinos on March 12, 2018

“Hoisted by his own petard” is a Shakespearean idiom, coined by the great bard in Hamlet. It means to be hurt by one’s plot intended for another, a term that derives from explosive devices hoisted over fortress walls during Medieval battles. These bombs often went awry and destroyed the assailant.

The term brings to mind the Trump administration’s steel and aluminum tariffs. Stocks wobbled and fell on Monday, as investors worried anew about protectionist measures from the White House.

The Dow Jones Industrial Average and the S&P 500 both closed today in the red. Industrial stocks fell the hardest. The Dow was down 183 points at its session low.

The Nasdaq closed at a record high, as investors continued to bet that technology firms can weather a trade war better than traditional manufacturers.

Today’s market action stood in stark contrast to Friday’s rally, when investors shifted their attention away from trade policy and toward inflation. The bull market turned nine years old Friday on an exuberant note. Stocks soared to cap a week that witnessed a 3.5% spike on the S&P 500. Last week was chaotic but ended firmly in the green, punctuated by a positive government employment report on Friday.

The U.S. Labor Department last Friday released data that offered a reassuring combination of robust job creation and restrained wage growth. Investors came to the conclusion that the economy was fundamentally strong but inflation was in check.

At the same time, Wall Street was heartened by President Trump’s ostensible softening of tariffs. He dangled the prospect that his 25% tariff on steel and 10% tariff on aluminum would include carve-outs for Mexico and Canada. But only under a daunting condition: the two countries would have to meet tough U.S. demands in current re-negotiations of the North American Free Trade Agreement (NAFTA).

Friday’s optimism gave way to angst on Monday. Today’s market volatility and downward movement showed that investors remain jittery about a damaging trade war — and with good reason.

As they continued to unfold today, NAFTA talks have been acrimonious. They could still fall through, which would wreak havoc on the North American supply chain.

Trump has tied his steel and aluminum tariffs to not only NAFTA, but also security alliances and existing trade pacts with traditional U.S. partners. Not since its inception at the end of World War II has the global trading system faced such existential threats. Hence the stock market’s anxiety, with stocks soaring one day and plummeting the next.

The tariff proclamations signed by Trump last Thursday already have triggered retaliation from countries overseas. Trade tensions could be the catalyst for another stock market “flash crash” of the magnitude that we saw in early February.

Then there’s the damage that the tariffs would likely exert on the American economy. The vast majority of economists and business leaders — both Republican and Democratic — think protectionism is a bad idea.

The latest Trump tariffs are designed to assist U.S.-based steel and aluminum companies that are grappling with foreign competition. But history shows that tariffs don’t create domestic factories or jobs. They merely raise prices and generate a ruinous game of tit-for-tat that undermines global economic growth.

Set ’em up, Joe…

The steel and aluminum tariffs have spawned counter measures against important American exports to other countries, including a wide variety of agricultural goods.

Higher prices for steel and aluminum also have a trickle-down effect on several U.S. industries, including construction and auto manufacturing.

Consumers will see higher prices as the cost of aluminum cans spikes. Beer drinkers will start paying more for their beverage of choice. The list goes on and on.

The European Union and other overseas markets sent a message to the administration by targeting red states that form the core of the president’s electoral base.

Among the big decliners today was Chicago-based Boeing (NYSE: BA), the largest aircraft maker in the world. BA closed the day down 2.91%. Boeing is a major defense contractor that plays a pivotal role in U.S. national security.

In January, Trump imposed steep tariffs on solar components and washing machines. All of these protectionist measures have caused strife within the GOP. The establishment wing of the party is now in open conflict with the “populists.”

Ironically, the main victims of the Trump tariffs will be American allies, including Canada, the EU and South Korea. Canada is the top exporter of steel and aluminum to the U.S. The intended target of U.S. tariffs, China, supplies to the U.S. only a fraction of Canada’s contribution. Our neighbor to the north is supposed to be an ally. Perhaps no longer. Geopolitical risk will have reached a bizarre new level, if America manages to alienate the Great White North.

Don’t get complacent. Consider taking profits from your growth stocks that have run up in price and which are now overvalued compared to their fundamentals. Keep the cash handy, for bargain hunting when the next massive sell-off hits. The stock market remains vulnerable to troubling news, of which there has been no shortage. 

Monday Market Wrap

  • DJIA -0.62% or -157.13 points to close at 25,178.61
  • S&P 500 -0.13% or -3.55 points to close at 2,783.02
  • Nasdaq +0.36% or +27.51 points to close at 7,588.32

Monday’s Big Gainers

Distributor of building and industrial supplies plans strategic merger with wholesaler.

Maritime oil shipper boasts stronger domestic crude transportation demand.

Energy transportation firm posts robust earnings.

Monday’s Big Decliners

Mortgage services firm faces slowing demand.

Institutional investor reduces stake in private mortgage insurer.

Analysts bearish on footwear firm.

Letters to the Editor

“You’ve been warning that stocks are overvalued. How do you define overvalued? Which yardsticks do you use besides the P/E ratio?” — John M.

It’s not just price-to-earnings or price/earnings to growth ratios that are raising red flags. By almost every measure, this bull market is frothy, even after February’s sharp declines are factored in. I expect this persistent overvaluation to get cleansed out by the end of 2018. In the meantime, as today’s market behavior showed, you should fasten your seat belts.

Important valuation metrics include:

  • Price-to-book ratio (P/B), which indicates what investors are willing to pay for each dollar of a company’s assets.
  • Price-to-sales ratio (P/S), which indicates the value placed on each dollar of a company’s sales or revenues.
  • Enterprise-value-to-EBITDA, determined by dividing a company’s enterprise value by its earnings before interest, taxes, depreciation and amortization. This metric allows investors to compare the value of a company (debt included) to the company’s cash earnings less non-cash expenses.
  • The cyclically adjusted price-to-earnings ratio (CAPE), designed by Nobel laureate and Yale economics professor Robert Shiller.

Questions about stock valuations? Drop me a line: mailbag@investingdaily.com

John Persinos is managing editor of Personal Finance and chief investment strategist of Breakthrough Tech Profits.

 


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