As China Hits Back, Investors Hit the Panic Button

When investors think that President Trump is merely posturing on tariffs, stocks rise. When it appears that Trump will actually follow through on his stated trade policy, stocks fall. It reminds me of Bizarro World in the Superman comics, where everything is reversed in some way.

Today, Trump seemed quite serious. China immediately responded in kind. The result: panic selling on Wall Street. The main indices went into free fall today, with all 11 S&P 500 sectors closing deeply in the red. The Dow Jones Industrial Average was down 767 points at its session low. The CBOE Volatility Index (VIX) spiked more than 13%. The price of gold rose 0.64%.

President Trump late Thursday unexpectedly threatened to impose an additional $100 billion in tariffs on Chinese goods. The high number cited by Trump stunned observers.

China quickly hit back. The country asserted on Friday that it would fight the fresh round of proposed tariffs “at any cost.”

Make no mistake: China is not an innocent party. The country has bullied its way to economic primacy. Does China cheat on trade? You bet it does. By wielding carefully calibrated mercantilist policies, China increasingly dominates the global economy. China has become the world’s biggest exporter, commanding more than 13% of the total.

China has flouted international trade rules, this much is certain. What remains uncertain is the best way to bring China to heel. Economists are nearly universal in their disdain of tariffs. History shows that tariffs brings disastrous consequences. Tough but rational negotiating, together with other nations, remains the smartest route.

Beijing said on Friday that it didn’t want a trade war but it wasn’t afraid of one. Investors today showed that they are indeed afraid of one — very afraid.

Comments from Federal Reserve Chairman Jerome Powell today only exacerbated investor fear. Powell said that Fed officials have “increased confidence” that inflation will move up toward the central bank’s 2% target. That suggests the Fed may get aggressive in hiking interest rates.

Shoot Out at Tariff Corral…

The world’s two largest economies are now squaring off like gunslingers in a movie western. Caught in the crossfire are U.S. manufacturers, farmers and consumers. Republican lawmakers that are in the heart of “Trump country” have expressed concerns about serious economic damage to their states.

Trump took Thursday’s aggressive action after China’s retaliation against earlier U.S. trade sanctions. China announced on Wednesday a list of 106 U.S. goods targeted for tariffs, encompassing aircraft, cars, beef, soybeans, and whiskey. China’s action was in turn a response to the White House’s announcement on Tuesday of potential duties on more than 1,300 Chinese technology, industrial, transportation, and health care products.

These tit-for-tat trade hostilities would disrupt the global supply chain and hurt other economies. Countries such as Taiwan, Malaysia and South Korea provide a large part of the value added to Chinese exports.

The following chart shows indirect exports via China. The countries are ranked, according to their percentage of gross domestic product generated by the content that they embed in Chinese exports (latest available data from Oxford Economics, 2011):

The global economy is tightly integrated, a fact that’s baked into earnings expectations. That’s why investors get rattled when the prospect of a trade war rears its head.

The tariff figures bandied about by both sides — $50 billion, $60 billion, $100 billion — lack details and timetables. It’s reminiscent of the Mike Meyers character Dr. Evil, who ransoms the world for absurdly high dollar amounts that he pulls out of thin air.

Mixed employment data also weighed on markets today. U.S. job growth slowed in March, a sign that the economy is flagging. But on the bright side, the labor market isn’t sufficiently fueling inflation to force the Federal Reserve’s hand.

The U.S. Labor Department reported today that nonfarm payrolls rose by only 103,000 in March, the smallest increase since September. Job growth last month fell below the 202,000 average of the past three months.

The unemployment rate held steady at 4.1% for the sixth consecutive month. The tight labor market fueled further wage growth in March, but only modestly. Average hourly earnings rose 0.3% last month, after edging up 0.1% in February. The gain lifted the annual increase in average hourly earnings to 2.7% from 2.6% in February.

Wage growth remains in check, which indicates less inflationary pressure. But weakening jobs growth is a sign that the economy could be running out of steam. A trade war would further impede growth and offset much of the stimulus from the new corporate tax cuts.

The upshot: Don’t expect markets to stabilize anytime soon. Stay invested but elevate cash levels. The stock market probably has further to fall.

Friday Market Wrap

  • DJIA: -2.34% or -572.46 points to close at 23,932.76
  • S&P 500: -2.19% or -58.37 points to close at 2,604.47
  • Nasdaq: -2.28% or -161.44 to close at 6,915.11

Friday’s Big Gainers

  • Supervalu (NYSE: SVU) +9.33%

Retailer exploring potential sale.

  • Telecom Italia (NYSE: TI) +6.04%

Italian government to buy large stake in telecom.

  • Intelsat (NYSE: I) +5.75%

Satellite operator launches tender offer for 2018 notes.

Friday’s Big Decliners

  • NewLink Genetics (NSDQ: NLNK) -42.62%

Biotech’s drug combination treatment fails in clinical trial.

  • MannKind (NSDQ: MNKD) -24.79%

Analysts look askance at biotech’s direct stock offering.

  • Incyte (NSDQ: INCY) -22.93%

Biotech has been pursuing drug combo similar to NewLink’s.

Letters to the Editor

“I read a lot about North Korea, but what about South Korea as an investment destination?” — Chris P.

With an export-dependent economy oriented toward electronics and high technology, South Korea is positioned for sustained long-term growth, yet the country gets mostly ignored by the average investor.

The growing number of gadget-loving consumers around the world is a positive trend for South Korea, which is home to mega-cap technology companies that make brand name products.

The easiest and safest way to gain exposure to the country is through exchange-traded funds pegged to the overall economy. Investors should wait, though, until current trade tensions are resolved.

What’s your opinion about tariffs? Share your views:

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