As the trade protectionist trend rolls on, wealth managers comment on latest developments.

Escalating protectionism between the US and China shows few signs of abating any time soon. A week ago, President Donald Trump jolted markets by tweeting about raising tariffs on China to 25 per cent, on the existing $200 billion of tariffed goods. Those tariffs came into effect last week. He said that he is also considering higher tariffs on the remaining portion of $325 billion of imports. China has retaliated. 

Wealth managers continue to figure out the impact the moves will have on the global economy and investors in the short to medium term. The standard default assumption is that protectionism – taxing imports or hobbling them in various ways (tariffs are not the only way to frustrate trade flows) - is almost universally agreed to be a bad thing. It is one of the few areas on which economists, ranging from a Paul Krugman on the Left to the late Milton Friedman on the classical liberal side, have agreed. The issue is complicated by China being accused (with justification) of state backing for industries, manipulating its yuan currency exchange rate, and using joint venture deals to take Western intellectual property. 

Here is a further round of economists’ reactions to developments. (To join the debate, email tom.burroughes@wealthbriefing.com)

Luca Paolini, chief strategist, and Patrick Zweifel, chief economist, of Pictet Asset Management
When trade breaks down, everybody loses. Investors should brace themselves for a new fallout from the latest tit-for-tat trade dispute, where Beijing announced retaliatory tariffs in response to Washington’s move to increase duties on $200 billion of Chinese goods.

Our calculations show a full-scale trade war between the US and China has the potential to tip the global economy into a recession and lead to a sharp decline in world stocks. Our model shows that if a 10 per cent tariff on US trade were fully passed on to the consumer, global inflation would rise by about 0.7 percentage points. This, in turn, could reduce corporate earnings by 2.5 per cent and cut global stocks’ price-to-earnings ratios by up to 15 per cent.

All of which means that global equities could fall by some 15 to 20 per cent. This in effect would turn the clock back on the world stock market by three years. US bond yields may fall, but the scale of decline will be limited due to an inflationary impact from tariffs. Washington and Beijing may still be able to reach a deal at the June G20 meeting. But should they fail, the planned tariff increases would cause both economies to suffer: we estimate that existing trade measures would reduce China’s growth by 0.5 per cent and the US’s by some 0.2 per cent.

To make matters worse, the impact of a trade war will be felt far beyond the world's largest two economies. Open economies in countries such as Singapore and Taiwan in Asia and Hungary, the Czech Republic and Ireland in Europe are potentially more vulnerable than the US and China. As for equity markets, Wall Street would suffer more from an escalation in the trade war than other stock markets, contrary to conventional wisdom. This is because the US is the most expensive market in our valuation model and its sector composition is more cyclically sensitive. On a 2019 price to earnings basis, it trades about 30 per cent higher than its European, Japanese and emerging market counterparts.

Richard Hodges, manager of the Nomura Global Dynamic Bond Fund, at Nomura. 
We believe the US/China trade tensions could now be key to sentiment. Any expectation of a resolution will be greeted positively by the markets, although our central belief is that, whilst a deal will eventually be done, the market may have a longer wait than it currently expects. President Trump’s interests in a second term are best served by the perception that he is talking tough on China, whilst continuing to avoid tariffs that severely damage trade and therefore the economy and his voters’ wealth. In other words, if the talks drag on, that suits the President.

(The fund remains long of risk across credit asset classes and has a relatively high duration exposure, the firm said.)

Dylan Cheang, senior investment strategist, DBS Bank
Worst-case scenario: An “all-out” trade war will hit US economic and earnings growth. Everybody hurts. The latest USTR announcement marks a sharp escalation of the US-China trade war. Thus far, global investors have assumed that the US and China will eventually reach a peaceful resolution on the trade front. 

But this assumption may turn out to be overly optimistic, as recent rhetoric from US President Donald Trump suggests otherwise. In such an environment, it is worth running some worst-case scenarios of what will transpire in an “all-out” trade war.

According to DBS economists, real US gross domestic product (GDP) growth will be reduced by 0.6 percentage points from 2.5 per cent to 1.9 per cent. With headline inflation expected at 1.5 per cent, this translates to an approximate nominal GDP growth (real GDP plus inflation) of 3.4 per cent, vs the consensus forecast of around 4.5 per cent. Based on simple regression, an “all-out” trade war will shave 3 percentage points off US earnings growth – from our model-based forecast of 5.8 per cent to 2.8 per cent in 2019.

Robert Horrocks, PhD, chief investment officer, Matthews Asia
The issue  here is twofold: first, the impact on sentiment, mostly corporate investment, is far greater in both the US and China than in reality. That means that actual effects are borne by the economy and reflected in the market to a much greater extent than are warranted, giving rise to opportunity. Second, the fear that the tariffs may signal something more than the current dispute - a full blown trade war that could rip apart supply chains and undermine the global economy. This is far more serious, but yet not enough to derail domestic economies. It could lead  to a dismantling of the US’s international influence and signal the rise of China and a different kind of world order. But this is something  that I suspect neither the US nor China is ready for and they are unlikely to accept.

So the likelihood remains that a trade deal  is done, albeit one that doesn’t clear up the fundamental tension between the two powers and doesn’t remove the incentives for China to continue to expand its economic sphere of influence and expansion of manufacturing supply chains into Southeast Asia and even further afield.

Cédric Özaman, Nicolas Besson, and Marco Bonaviri (head of investments and portfolio management, head of fixed income and senior portfolio manager, respectively), at REYL, the Switzerland-based private bank and wealth management firm.  
This year, there are good reasons to believe that a risk reduction among portfolios is wise. The global economic backdrop remains fragile and not as strong as last year. The positive Q1 US GDP growth looks good on the surface (3.2 per cent vs 2.3 per cent expected) and bolstered hopes that the US economy is on track to rebound after its recent soft patch. 

However, when drilling down into the details, the picture is not so rosy, with consumer spending only rising 1.2 per cent, while business investment decelerated. Moreover, the main positive contributors were a rise in inventories and trade balance (downturn in imports), meaning that this trend should not continue into the coming quarters and can easily reverse. Weak indicators in the US manufacturing sector keep rolling in, with the ratio of new orders/inventories falling to the 2013 low. If history is any guide, when reaching such a level, the fair value of the S&P 500 at the end of the current month is lower than current prices.