How and why rising trade tensions have moved markets
After markets fell sharply overnight, we look at what's been going on and what might happen next.
23 March 2018
How far have stockmarkets fallen this week?
Global stockmarkets have come under pressure this week on fears over escalating trade tensions. The selling has been most marked in the last 24 hours following President Trump’s announcement that tariffs of $60bn would be imposed on Chinese imports.
The table below shows the performance of a variety of regional stockmarkets up until the morning of 23 March 2018 (apart from the US which shows performance to the market close on 22 March).
Regional stockmarket performance
Asian markets have witnessed the most significant falls so far. Japan’s Nikkei 225 index suffered the steepest declines over both the week and the past 24 hours. Large exporters play a significant part in the Japanese economy and there are concerns that they could be caught up in any US-China trade war. Another factor is that the yen is perceived as a “safe haven” asset and is often in demand at times of market stress. A stronger yen would make Japanese exports more expensive.
Elsewhere, China and Hong Kong equities have unsurprisingly also borne the brunt of the selling pressure. However, there are other factors contributing to the declines today too, notably Naspers, the South African media group and technology investor, selling a 2% stake in Tencent, the world’s biggest gaming company and owner of China’s WeChat social network
Shares on the New York Stock Exchange were also under pressure amid worries that the tariffs could hit growth in the US as well as in China.
Eurozone and UK equities have escaped the worst of the selling. News came yesterday that the EU, and others including Canada and Mexico, will be temporarily exempt from the new tariffs being applied by the US on steel (25%) and aluminium (10%). This week’s EU summit is continuing today with the bloc’s leaders discussing its response to the escalating US trade measures.
What’s happened in bond markets?
Government bond yields declined during the week’s later sessions, which meant prices rose. Yields on 10-year US Treasuries and German Bunds fell six basis points (bps) on Thursday, while 10-year gilt yields fell by eight bps. Government yields are marginally lower on the week. The riskier areas of the corporate bond market were impacted too as spreads (the difference in yield over equivalent less-risky government bonds) widened.
Why are markets falling?
Markets have fallen after US president Donald Trump announced plans to impose tariffs on up to $60bn in annual Chinese imports. On Friday China retaliated by revealing plans to apply tariffs on 128 US products.
This raised the prospect of an all-out trade war between the world’s two largest economies. Investors fear the impact of escalating trade tension on global economic growth and corporate earnings, with cyclical sectors (ie those most exposed to economic swings) leading the sell-off.
The latest bout of volatility follows the market weakness in February amid fears around the pace of policy tightening by the Federal Reserve (Fed) in response to growing inflationary pressures in the US economy. As expected, the Fed raised interest rates by 25 basis points yesterday at the March Federal Open Market Committee (FOMC) meeting. At his first FOMC meeting, new Fed chair Jerome Powell also announced that the committee is pushing up its growth and inflation forecasts and increasing its expected path for interest rates.
The prospect of a trade war-driven slowdown follows a period of rising optimism around the outlook for the world, and US economy in particular. In January the International Monetary Fund upgraded its global growth forecasts for 2018 and 2019 by 0.2 percentage points to 3.9%.
Why has President Trump introduced tariffs?
President Trump accuses China of, over a period of decades, unfairly acquiring US companies’ intellectual property and says China must pay the price.
The implementation of tariffs could also help to address the US’s $375 billion trade deficit with China which President Trump has made a priority.
With US midterm elections scheduled for November, there is increased incentive for President Trump to deliver on campaign pledges. It could also be argued that tariffs are the feature of a bargaining strategy for preferential trade, which could prove popular in key voting states, particularly in the so-called rustbelt.
There is therefore more to come. President Trump has ordered the US Trade Representative to propose a list of product tariff increases within 15 days, and to consider further tariffs on goods from China, reporting back within 60 days. President Trump has also tasked the US Treasury to prepare a plan to impose further sanctions on Chinese investment in technology sectors within 60 days.
These moves follow the announcement of 25% tariffs on steel and 10% tariffs on aluminium tariffs earlier in the month. However, shortly before their implementation, the Trump administration has announced further exemptions to those previously agreed with Canada and Mexico. Imports from the Argentina, Australia, Brazil, the EU and South Korea will also be exempt.
How might China respond?
China’s Ministry of Commerce indicated it is planning tariffs on 128 US products, representing around $3 billion. China’s ambassador to the US indicated that the allegations had no foundation and pledged measures in retaliation. However, he also stated that the country did not want a trade war, echoing comments from other Chinese officials in support of free trade. This raises the prospect that China could be willing to negotiate.
Other potential retaliatory measures from China, not currently discussed, include opening a case against the US at the WTO and limiting the purchase of US services by the Chinese government and state-owned enterprises.
How might a full-blown trade war affect markets?
History shows us that trade conflicts are rarely good for markets. The most commonly cited example was the 1930s Great Depression, largely a result of protectionism rather than the 1929 Wall Street Crash. There are also more recent examples.
In March 2002 President George W Bush announced steel tariffs of 8-30%, scheduled to remain in effect until 2005. Canada and Mexico were exempt. The EU immediately threatened (but did not enact) retaliatory measures, and went to the World Trade Organization (WTO). The WTO ruled against the US in December 2003 and the US dropped its tariffs rather than face retaliation from the EU.
As the chart of the US dollar spot price below shows, the impact on the US dollar wasn’t positive.
And equities struggled before making a recovery. Germany’s DAX seems to have been hit harder than others.
An alternative recent example was in Russia in 2014, though this was a case of sanctions, which included trade measures, rather than tariffs. The chart below shows the performance of the rouble, Russian equities and Russian bonds. There were definite impacts on all of them.
Past performance is not a guide to future performance and may not be repeated.
Important Information: This communication is marketing material. The views and opinions contained herein are those of the author(s) on this page, and may not necessarily represent views expressed or reflected in other Schroders communications, strategies or funds. This material is intended to be for information purposes only and is not intended as promotional material in any respect. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. It is not intended to provide and should not be relied on for accounting, legal or tax advice, or investment recommendations. Reliance should not be placed on the views and information in this document when taking individual investment and/or strategic decisions. Past performance is not a reliable indicator of future results. The value of an investment can go down as well as up and is not guaranteed. All investments involve risks including the risk of possible loss of principal. Information herein is believed to be reliable but Schroders does not warrant its completeness or accuracy. Some information quoted was obtained from external sources we consider to be reliable. No responsibility can be accepted for errors of fact obtained from third parties, and this data may change with market conditions. This does not exclude any duty or liability that Schroders has to its customers under any regulatory system. Regions/ sectors shown for illustrative purposes only and should not be viewed as a recommendation to buy/sell. The opinions in this material include some forecasted views. We believe we are basing our expectations and beliefs on reasonable assumptions within the bounds of what we currently know. However, there is no guarantee than any forecasts or opinions will be realised. These views and opinions may change. To the extent that you are in North America, this content is issued by Schroder Investment Management North America Inc., an indirect wholly owned subsidiary of Schroders plc and SEC registered adviser providing asset management products and services to clients in the US and Canada. For all other users, this content is issued by Schroder Investment Management Limited, 1 London Wall Place, London EC2Y 5AU. Registered No. 1893220 England. Authorised and regulated by the Financial Conduct Authority.