The markets are difficult to trade directionally with the markets whipping around on trade tariff headlines.  We have no significant competitive advantage in trying to guess the outcome.  There are a lot of people out there with more information than we have – people who actually speak to the inner circles of Trump and Xi.  And even if we knew what the final outcome was going to be, it’s probably going to be a long process and we have no idea if the next major trade headline will move the markets the wrong way before moving the right way.

The tariffs have been a large factor in driving the yield curve the past few weeks.  While I have no strong view of the outcome (that is different from what is currently priced in), I have some miscellaneous thoughts about the trade tariffs:

  • I’m not sure Trump has ever has a tough negotiation. He wrote a book called the “Art of the Deal,” (I read it a long time ago) but who has Trump ever “negotiated” with?  A bunch of banks who he owed money to?  The banks were probably petrified that they wouldn’t get paid!  That’s like taking milk money from a kid in a wheelchair.  A bunch of local government peons making barely above minimum wage?  As Amazon has shown, you just need to suggest a move to another location and take the jobs elsewhere.  A bunch of construction contractors?  People who would be afraid he would call another construction company for a bid?    Those aren’t really negotiations… they are more examples of how badly you want to beat down people you already have a significant advantage over.
  • We are in for a long negotiation. The tariff posturing is a battle between a kid with a silver spoon and a culture where haggling is a way of life.  The Chinese are not going to keel over easily.  Prepare for a very long negotiation.  It shouldn’t be a surprise the Silver Spoon is starting off by throwing a tantrum.  The Chinese have heard this before… yelling (and yelling back) are also a part of the culture.  Asians are only submissive in outlets like porn.  Our fearless leader has seen more than his share (“allegedly”) so he may be underestimating the Chinese.  I think there’s a good chance this drags on for most of the year (at a minimum).
  • What does a Trade War look like to the markets? Let’s start with equities… how much could equity prices fall if both countries say slapped 25% tariffs on $100 billion of goods?  I heard someone mention there was a 20% chance of a Trade War, and maybe a 15% equity market correction if there was.  The EV of that means a 3% correction in the stock market.  I guess we saw that on Friday.  And at face value, those numbers don’t look “wrong.”  But on the other hand, I can’t reconcile the 15% correction with the following: $25 billion in mutual tariffs causing $4.5 TRILLION in damage (a 15% correction on a $30 trillion in US equity market cap).  I’m not sure the discounted cash flow models get that huge an impact.  If equities were going to take that big a hit, doesn’t it make more sense for Apple, Amazon, Boeing, etc to each chip in a billion and tell the government to shut up about tariffs?  And consider that there are some companies that don’t do any business in China.  I had thought that equities were 10+% overvalued to begin with, so maybe the tariffs could be the pin that pops that tiny bubble.  That could explain part of the large forecasted drop in equities on a trade war.    As for fixed income, the effects are harder to gauge because you would think a trade war could be inflationary, while being a drag to overall growth (but could be positive for some industries).  And there’s always the wildcard of the “Chinese selling their Treasury holdings” story that always seems to make the rounds.  So fixed income could be anywhere.
  • People in ivory towers need to shut up. My head wants to explode every time I hear some egghead economist say something like “there is nothing wrong with trade deficits.  Free trade is awesome!”  And that’s why we have so many pissed off people in the US who would elect an idiot like Trump as President.  I realize that in theory, free trade has positive longer term benefits for most.  Say I owned a restaurant, and I bought a ton of supplies from the local warehouse store.  And the local warehouse owner came in to my restaurant for dinner once a month.  There’s nothing that says he needs to eat as much as I buy from his store (i.e. trade deficit does not have to be zero).  But if I have any kind of leverage, I’m going to suggest he starts coming in more often AND buying some of my pies for his store… especially if he just put my sister’s metal toy store out of business.  Shoot, even if I had no actual leverage, a good businessman should try to create leverage.  It doesn’t matter that we both currently benefit from our arrangement.  Why couldn’t I do my best Oliver Twist and ask for more (sir)?  If the warehouse store has to buy pies anyway, why couldn’t I get some of that action?  I make pies and I’m in the business of selling food!  If my tax dollars are paying the minimum+ wages of the government trolls, the least they can do is look out for my interests, and stop making terrible idealistic deals putting my sister out of work, and not make me have to give up my pie recipe to sell my pies to the warehouse store!  We can thank previous ivory tower denizens for putting us in this situation in the first place.  Don’t get me started again on how Hollywood’s tech industry moved to the UK and Canada because of subsidies from our alleged “friends.”  It’s a dog eat dog world!

Hmm… so much anger in this essay.  I need to calm down with a slice of pie before I go on to discuss trading opportunities in the next section.  Just because it’s hard to predict headlines and direction doesn’t mean there aren’t good relative value opportunities out there…