Trump Threatens to Move Forward With Dec 15 Tariff Escalation, Considers Section 301 

There have been a few critical developments these past few weeks that could have significant deescalated the daunting momentum of global trade wars. However, with each small improvement, we are met with an asterisk that could quickly undermine the good will as well as an alternative stab to weaken the outlook for global trade. For the US-China engagement, the White House backed off of the planned tariff escalation scheduled for October 15th after the countries agreed in principal on a Phase One trade deal. Now over a month since that relief, the two countries have not made any material progress. Sure, there have been bouts of optimistic rhetoric, but the enthusiasm has fluctuated back to cynicism just as frequently. Whether ‘confidence’ or warnings, market participants have grown increasingly ambivalent to the situation. What can carry greater certainty as we move forward is the threat of an escalation in the scope of US tariffs on Chinese imports scheduled for December 15th. It was presumed that if the countries were working towards a first step to ultimate resolution, this jump would be avoided. However, multiple administration officials suggested the pressure would not be removed for fear of the President losing support from his base in an election lead up and to discourage China from pursuing a strategy that is founded on a different US government this time next year. 

Another seeming miss on the path towards further economic disaster was the passage of the October 14th deadline for the administration’s decision on whether or not to pursue auto tariffs. That date was itself the deferment after an extended review. While the White House has not said definitively that it was laying the Commerce Department’s investigation to rest, many believe that the matter is behind us owing to legal questions if not strategic ones. The European Trade Commissioner stated her belief that the risk has passed. That said, I would not forgot that this uncertainty is still somewhere in the wings. In the meantime, Europe still finds some of its agricultural exports to the US under a hefty 25% tariff rate, deciding whether and how to retaliate – and knowing there is a WTO ruling to come sometime near the beginning of 2020. Adding another layer of trouble, there was suggestion from some close to the US government’s strategy that the a Section 301 investigation may take the place of the 232 in order to keep the pressure on the EU (and potentially other major trade partners) to capitulate under trade pressure. This evaluation looks into broader trade practices rather than specific sectors under a national security assessment. 

Recession Risks Slowly Recharge 

Back in August, fear of an oncoming recession had hit troubling levels. With a host of warnings by supranational authorities (IMF), central banks and even governments; search interest in ‘recession’ through Google hitting a decade high; and a surprising mainstream interest in the otherwise wonkish interpretations of the Treasury yield curves; it was clear that there was serious concern about the further reach of the already mature global economy. Yet, with a few disarming updates and a shift in favor towards more speculative measures, the threat seemed to deflate through the subsequent two months. Now, to be clear, the economic trouble never really vanished. The US and Europe are still in extremely tepid course of expansion, there are certain key countries (Germany and Japan) that are oscillating quarters in contraction and China is running its slowest tempo in three decades. Instead, investors, governments and consumers simply just grew larger blind spots. 

This past week, it was even more difficult to ignore the signs of trouble ahead. The OECD lowered its outlook for global growth yet again to its worst standing in 10 years. The 2019 forecast stood at 2.9 percent with the 2020 projection nudged down another tick to the same pace. That is itself troubling and indicative of skepticism that a recovery is ‘around the corner’. To ensure that the world does not simply hold course on its current mix of beliefs and dependencies, the group extended its outlook to 2021 with a disconcerting 3.0 percent pace. That more distant prediction, it was mentioned, was only possible if significant risks like trade wars and China’s economic struggle leveled out. Warnings like these have come frequently and just as readily overlooked (OECD, IMF, World Bank, etc); but data is a little more black and white. Just this past Friday, the November PMIs crossed the wires with a clear warning in their mix. The Australian, Japanese, German and UK overview readings were all in contractionary territory (below 50). The Eurozone figure slowed to just barely positive territory (50.3) and only the US improved in a measurable way (to  51.9). 

Some may consider that US reading an opportunity to pursue a further run in the country’s assets to relative return. However, it should be said that a single country – even the world’s largest – would not hold back to the crushing tide of a global economic retrenchment. That is particularly true when we consider the excess built into the system through investment, borrowing and public debt. 

Trading Against Risk Versus Holding a Position Through Quiet 

Complacency is a danger in the financial markets just as much as it is in life. However, there is far more threat when we throw caution to the wind and actively pursue a line that attempts to extract ever-smaller rates of return as the risk profile we must adopt to chase it grows larger and larger. The evidence of complacency is abundant. Record high Dow and S&P 500 are perhaps the most obvious and the most aggressively rationalized. Consider the performance of this favorite capital market benchmark should represent some combination of ideal economic trajectory and/or the greatest potential for forward returns. There is nothing of the sort on our horizon, but many are perfectly happy to live on confidence central banks and previously-unmatched stability in the speculative future – the preferred opiates of the masses. Other risk-sensitive markets are not pushing such extraordinary levels, but the steadiness is still a feature. Meanwhile funding pressure is starting to show up even in the US short-term – arguably one of the most liquid areas of the global markets – but the rise in the Fed balance sheet is again putting most at ease. 

Yet, when we consider these conditions without the benefit of a blind faith in the unique profile of our present market mix, there are plenty of obvious threats that we face: including the trade wars, economic struggle and stretch valuations mentioned before. There is good reason to be concerned about the fundamental landmines that we continuously weave, but my principal concern is not with what straw breaks the camel’s back nor how indicative of the big picture it may be. Rather, the real risk is the collective exposure that the masses have taken. Adding to leverage despite the underlying risks with smaller returns to cushion any unfavorable winds, raises the serious threat of a panicked exodus from the financial markets. When leverage is applied, the losses accumulate much more quickly. I maintain that the best single asset analogy to the present conditions is the speculative interest behind the VIX futures contract. The net position has pushed a record short these past four consecutive weeks…despite the measure of activity already standing at an extreme low of approximately 12 throughout that period. This is a profound lack of reasonable return against an enormous amount of risk and in extraordinary volume.