STA Weekly Report – How Bad Could a Trade War Get?
Written by Luke Patterson | Thursday, February 14th, 2019
INSIDE THIS EDITION: S&P 500 Crosses Above It’s 200-Day Average Industrial Sector Clears December High 401k Plan Manager*Updated on 12/31/2018
This week is an important week on the U.S.-China trade dispute front. Senior Chinese and U.S. officials are meeting again in Beijing this week to continue trade talks and try to resolve their trade dispute ahead of the March 1st deadline. When Donald Trump met Chinese President Xi Jinping on December 1, they agreed to a 90-day trade truce to give negotiators time to hammer out an accord. That truce extended the deadline for an escalation in U.S. trade tariffs from January 1 to March 2.
The trade fight has rattled financial markets and threatened world economic growth for months now. It remains a focus for investors as the outcome of the talks could play an important role in determining the direction of markets.
So how costly is a trade war if a bilateral agreement cannot be reached?
There are surely more losers than winners, in an ever-integrated global economy. If 25% tariffs are imposed on all bilateral trade between China and the United States, China’s GDP growth is expected to be dragged down as much as one full percent, according to estimates by OECD (The Organization for Economic Co-operation and Development). More damage can be done if the negative impact of related uncertainty is factored into the equation. The U.S. is not in a better position, either. A full-fledged trade war could cause a 1% slowdown in US GDP growth by 2021.
Bloomberg Economics holds a more pessimistic view. According to its calculation, the increase of tariff on $200 billion of imports from China from 10% to 25% alone could shave 0.9% off growth. The 25% tariff on all imported Chinese goods will cost as much as 1.5% of Chinese GDP growth.
A trade war would likely shock the global economy more if it is transmitted through a country or region of great importance to global trade. This is certainly the case for U.S. and China, because both countries stand at the center of global trade. See chart: the size of the circles represents total trade. The thickness of the lines represents the volume of trade flows. Grey circles represent other countries.
Because of the interdependence in global trade, the damage
will likely go beyond the borders of U.S. and China. For example, a hit on
China’s exports can pass on to other economies through at least two channels.
The first is the supply chain, because China imports parts from other countries
to be processed and exported to the rest of the world. The second is domestic
demand if weaker exports hit income of Chinese consumers. According to
Bloomberg analytics, Asia’s smaller economies, such as Taiwan, Malaysia, and
Korea will be hit hard if China’s exports fall 10% (damage ripples through supply
chain channel) or imports fall 10% (damage ripples through domestic demand
Although the impact on other regions is likely to be modest,
some countries, especially, commodities exporters that have high exposure to
China can be significantly impacted with China’s dominant role in global
As for this week’s trade negotiations, will we get a big
agreement to settle the trade dispute? Probably not. The negotiations so far
seem to have focused on the easiest part, where China agrees to narrow the
trade imbalance by buying more American products. But negotiators haven’t made
much progress on tougher issues such as industrial subsidies for state-owned
enterprises and intellectual property. In addition, we haven’t seen any clear
path of enforcement if any deal would be made.
We hope both sides can at least make meaningful progress
before March 1st and agree on postponing the tariff escalation
beyond March 1st. So, the
recent uptrend momentum of the markets will not get disrupted. We expect the
ongoing negotiation will last much longer and will get harder when tougher
issues kick in. The new U.S.-Mexico-Canada Agreement replaced NAFTA in a
relatively short period because exports to the US from either country are a big
component of the national economy. China certainly feels the drag of tariffs on
its economy, but it can also sustain that pain for much longer.
S&P 500 Crosses Above It’s 200-Day Average
Until this week, the Dow Industrials was the only major stock index to trade above their 200-day average. The S&P 500 closed marginally above its 200-day line on Tuesday.
Chart 2 shows the SPX extending that gain over its red line today. That leaves their early December highs as the next resistance barrier to be challenged. Both indexes remain somewhat over-extended after their strong 2019 rebound. The upper box in Chart 1 shows the Dow’s 9-day RSI line moving into overbought territory over 70 for the second time this month. The second move over 70 is usually the more troublesome and bears close watching for any sign of failure. Chart 3 shows the Nasdaq Composite in the process of testing its red line and its early-December intra-day peak at 74.86. This week’s upside crossings of 200-day lines is a positive sign for stocks. It’s important, however, that they end the week on top of the those lines. Several sector SPDRs have also crossed over their red lines which include cyclicals and industrials.
Industrial Sector Clears December High
Chart 4 shows the Consumer Discretionary Sector SPDR (XLY)trading over its 200-day line and nearing a test of its December high. Chart 5 shows the Industrial Sector SPDR (XLI)already clearing its early-December peak. [The only other sector ETF to do that is Real Estate (XLRE) which is trading at a record high]. The XLI has been drawing strength from rising transportation stocks, and rails in particular. Chart 6 shows the Dow Jones US Railroad Index reaching the highest level since early November. Its biggest gainers include CSX, Norfolk Southern (NSC), and Union Pacific (UNP). Building materials, industrial suppliers and machinery have also been industrial leaders. Other sector SPDRS that are trading above their 200-day lines include staples (XLP), healthcare (XLV), utilities (XLP) and Real Estate (XLRE). That shows that investors aren’t abandoning defensive stock sectors while buying into more economically-sensitive groups.
If you are a business owner or executive that is looking to learn how to maximize import/export trade in today’s global markets, this event is for you. STA is proud to co-sponsor this event and breakfast discussion where a panel of trade experts will further explore the current trends and opportunities happening globally and ideas to optimize your global trade business activity.
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