The Trade War Is Back, Should Investors Be Scared?

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Goodbye ceasefire. Hello escalation.

The market plummeted this morning after China retaliated against the United States in the ongoing trade war. The Dow and S&P are both down roughly 2% as of midday while the Nasdaq Composite dropped 3%.

Just days after all three indexes set new all-time highs.

How did the Chinese strike back this time?

Through their oldest and most trusted method of export-boosting chicanery:

Currency manipulation.

This time, China is letting their yuan fall to the lowest it’s been in nearly a decade. Currently valued at 7 yuan per U.S. dollar, Xi Jinping & Co. are intentionally devaluing their currency to gouge the United States after President Trump threatened the Chinese with new tariffs.

Some analysts see this as a major economic setback for the United States.

“Now we have a trade situation that is going off the rails as the side effects multiply due to the ramping up of the use of tariffs and we are only further apart from any resolution with the Chinese,” cautioned Peter Boockvar, chief investment officer at Bleakley Advisory Group.

“The policy of using tariffs as a tool to address our legitimate beefs with the Chinese has failed miserably.”

Boockvar may be right, but how else is Trump supposed to take China to task? Addressing Chinese trade transgressions has been on the western world’s “to-do list” for decades.

Now that the United States is finally trying to solve the problem, analysts are starting to sour.

“[China] appears to have decided that, given the increasingly dim prospects of a trade deal with the US, the boost to China’s export sector from currency depreciation is worth attracting the ire of the Trump,” wrote Julian Evans-Pritchard, senior China economist at Capital Economics, in a note.

“The fact that they have now stopped defending 7.00 against the dollar suggests that they have all but abandoned hopes for a trade deal with the US.”

Evans-Pritchard, in the second part of his statement, makes an interesting point.

What if a trade deal never happens?

Will both sides be content to exist in a perma-trade war?

Based on what we’ve seen over the last few years, it appears as though the United States could stomach those conditions. China, on the other hand, may not be able to.

At least not as well as the Americans.

Despite a raging trade war, economic indicators stateside suggest moderate to strong growth. The economy seems somewhat healthy.

Real unemployment dropped to the lowest it’s been since December 2000, over 18 years ago.

And yes, American farmers are likely in for even more pain after the Chinese asked state-owned companies to halt U.S. agricultural imports.

But that’s something that will end up having a small impact on the overall economy. Especially if the federal government continues to subsidize American farms with tax dollars generated in other high-flying industries.

So, while the market-wide drop has investors thinking that the sky is falling, the truth is that the rekindled trade war tensions aren’t as much of a disaster as they may seem.

Today’s plunge has been caused by a combination of factors. One of them certainly is the trade war, but the other has to do with the market’s woefully overbought status.

Equities have been on absolute tear since June and until now, there haven’t really been any significant sell-offs. Investors were waiting for their sign to get out, and oh boy, did they get a big one over these last few days.

Add to that the stress of an interest rate cut that fell flat and you’ve got the makings of a short-term correction – something we might be witnessing the start of this morning.

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