Winning the Trade War at Home

A few days ago, my colleague Robert Rapier discussed the economic implications of trade wars. To summarize, he identified five industries as being most at risk in the U.S.-China trade standoff:

  • Transportation equipment
  • Computers and electronics
  • Agricultural products
  • Chemicals
  • Machinery (except electrical)

In closing, Robert recommended that “the best way to distance yourself from trade war-induced volatility is with investments that aren’t dependent on foreign goods for their businesses.”

Read this Story: Understanding and Adapting to Trade Wars

I agree with Robert’s reasoning. Now, I am going to continue his train of thought by identifying businesses that use little or no foreign goods. These five sectors are least dependent on goods from China in their manufacturing or service process:

  • Energy
  • Pharmaceuticals
  • Financials
  • Food & beverage
  • Real Estate

Armed with this list, we can make thoughtful portfolio decisions that should reduce our exposure to trade war risk.

Pick Your Battles

Incidentally, the first three sectors on that list are among the poorest performing sectors thus far this year. Through August 23, the energy sector had lost 3.2% in 2019 while Health Care (which includes pharmaceuticals) gained just 2.4%. Financials were up a respectable 9.1%, but that is still less than the 13.6% increase in the S&P 500 Index.

That makes stocks in these sectors especially attractive since they are also cheap to buy at the moment. The other two industries on our list — food & beverage (a subset of the consumer staples sector) and real estate — have performed better than the S&P in 2019 and appear fully valued.

If you believe in the concept of reversion to the mean, then overweighting these three sectors is likely to reduce risk in your portfolio while increasing its return at the same time. That will not happen overnight, and it may take several months before you see any benefit at all given the stock market’s extreme volatility at the moment.

As for which stocks to buy in those sectors, that depends on your investment objectives (capital appreciation versus current income) and appetite for risk. Income investors may prefer a high-yielding master limited partnership (MLP) in the energy sector such as Enterprise Products Partners (NYSE: EPD) with its 6% yield.

As for pharmaceuticals, giant drug company AbbVie (NYSE: ABBV) pays a dividend yield of nearly 6.5%. That return can be magnified by enrolling in the company’s dividend reinvestment plan (DRIP) if you don’t need the income now.

With regard to financial stocks, a business development company (BDC) is a great way to generate current income. Gladstone Capital (NYSE: GLAD) pays a forward dividend yield of nearly 9%.

All three of those companies are holdings in the Personal Finance Income Portfolio, which produced outstanding results during the last major stock market collapse 10 years ago.

Peace with Honor

Of course, all of that presupposes that the trade war with China continues into next year. But what if, instead, the two countries bury the hatchet tomorrow and discontinue all of the recently enacted tariffs?

In that event, you should still be okay. The energy sector benefits from increased manufacturing activity since that requires more gas, electricity, and other forms of fuel. Demand for all types of real estate should also increase as the economy expands. The same holds true for the financial sector.

In that respect, the U.S.-China trade war is not the greatest threat to your portfolio. The bigger risk is the increasing threat of a recession brought on by decreasing economic activity.

I have no cure to offer for a recession. It harms all sectors of the economy and almost always induces a corresponding stock market correction. Regardless of how the trade war pans out, stay cautious.