Stocks were broadly lower this week as trade worries sat heavily on investor’s minds. For the week the S&P lost -1.3% while small-caps dipped -2.5%. For the first time in a while the international markets were in line with the domestic. Both the EAFE and emerging markets indexes were off about -1.3%. The Chinese market cleared a notable hurdle – it officially fell into bear market territory this week with losses from January high surpassing -20%.
Conversely, bond yields dipped again as money flowed into safe-haven U.S. Treasuries. The yield on the 10-year fell -4bps while the 2-year yield decreased by -2bps. The gap in rates between 10 and 2-year treasuries dropped to just 33 basis points.
A Trade War Isn’t Easy to Win – But a Currency War Might Be
For all the talk of tariffs and trade wars with China, one issue has largely flown under the radar – currency trends. Since the administration ratcheted up the battle against China’s trade surplus, the renminbi, China’s currency, has fallen roughly 5% against the dollar, as you can see below.
When it comes to trade, this simply means that the exports China sends to the U.S. just became 5% cheaper, partially offsetting the new tariffs. Conversely, everything the U.S. sells to China has become 5% more expensive, all things being equal. Is this just coincidence?
Take Bank Credit Analyst’s view:
“China is waging a geopolitical war with the United States. The U.S. exported only $188bn of goods and services to China, a small fraction of the $524bn in goods and services that China exported to the United States. China simply cannot win a tit-for-tat trade war with the United States. In contrast, a currency war from China’s perspective may be, to quote Donald Trump, ‘good and easy to win.’ The Chinese simply need to step up their purchases of U.S. Treasuries, witch would drive up the value of the dollar.”
Of course, a path of devaluation would invite a backlash from the U.S. But given that they are already on the receiving end of a growing list of tariffs, what do they have to lose? Just push the currency even lower versus the dollar to help offset the tariffs.
Trade wars are hard.
If you want to dig into the weeds, the Tax Foundation put out their analysis of the new tariffs. In essence, their findings are as follows:
“If all tariffs announced thus far were fully enacted, U.S. GDP would fall by 0.44 percent ($110 billion) in the long run, effectively offsetting one-quarter of the long-run impact of the Tax Cuts and Jobs Act. Wages would fall by 0.31 percent and employment would fall by 342,051.”
Granted, there is a strange level of precision here (342,501), but the sign in front of the jobs number is clearly the wrong one. Also, the odds are pretty good that job losses exceed the entire number of people employed in the steel industry (roughly 140K at the end of 2017).
Trade wars are really hard.
Market Timing is Also Hard
You know another thing that is hard, market timing. And for those of you who think buying an index gets you around the market timing problem, think again.
Cast your mind back ten days and you might remember that the committee that maintains the Dow Jones Industrial Index announced they were giving G.E. the boot after 111 years (read more here. The stock has seriously underperformed the last twelve months and….well, they gave other reasons, but basically GE’s stock has been a dog.
In its place they decided to add Walgreens. Yea, the Walgreens we go to occasionally to pick up prescriptions and dental floss.
So far, this trade isn’t looking too good. On Thursday Amazon (yea, that Amazon, the one we buy literally everything through) said it was buying PillPack, an online pharmacy. Apparently, Amazon thinks it can disrupt another major industry by moving into the pharmacy business.
The pharmacy business is enormous. In 2016, U.S. consumers spent $328.6 billion on retail prescription drugs (man, we take a lot of pills!). CVS alone had revenues last year just from pharmacy sales of $59.5bn. Walgreens came a close second with $57.8bn. For Walgreens this constituted roughly 65% of total sales.
As you would expect, Walgreens stock was hammered on the Amazon news – down -9.9% on Thursday alone. Since Walgreens was added and G.E. eliminated on June 26th, G.E. has gained +6.7% while Walgreens is down -10.7%, as you can see below.
I guess the moral of the story is that indexes really aren’t that passive.
Oh, yea, market timing is really, really hard.
Have a good weekend.
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