Investors took most of last week’s potential market-moving events in stride: a tempestuous meeting of the G7 in Quebec; a historic North Korea/U.S. summit in Singapore; and another quarter-point rate hike by the Federal Reserve. But the announcement of the U.S.’s planned tariffs on Chinese imports has sent stocks lower.
Back in March, trade relations between the United States and China began to deteriorate when President Donald Trump imposed new tariffs on aluminum and steel. In response, China’s Ministry of Finance announced a new round of tariffs of up to 25% on U.S. products. Although at the time, many saw the jockeying as having more political than economic implications, Trump subsequently announced he was considering imposing tariffs on an additional $100 billion of Chinese imports, furthering concerns that what began as a mere spat could turn into a more far-reaching trade war. Markets roiled, but within a few days had calmed.
Last Friday, Trump made good on his threat, unveiling plans to impose tariffs of 25% on $50 billion in Chinese products, $34 billion of which is set to go into effect on July 6. And tariffs on an additional $100 billion of Chinese goods are still on the table. China retaliated, targeting high-value U.S. exports, including farm products, cars and crude oil. On Monday, Trump announced the threat of further tariffs, asking his administration to identify a second tranche of $200 billion of Chinese goods subject to 10% tariffs, “to encourage China to change its unfair practices, open its market to United States goods, and accept a more balanced trade relationship,” according to the president’s statement. Not surprisingly, stocks opened lower on Tuesday in response to the proposal.
Despite the health of the U.S. economy, markets are understandably wary of an all-out trade war between the United States and China. Are we indeed headed there? And if so, what are the implications?
Implications of a trade war
While there’s no precise definition for a trade war, the potential impacts are generally understood. The fear is that actions and counter-actions by the U.S. and China could escalate to a point where they hamper trade and investment and hurt both economies. And escalating confrontations between the two economies could spill over to other countries, with the potential to considerably impact the global economy.
We’re still short of that point, though.
“Let’s call it a trade skirmish, as we’ve moved beyond just rhetoric, and some concrete action has taken place,” says Mark Riepe, head of the Schwab Center for Financial Research. “The risk of one or more skirmishes turning into a full-blown trade war is real, which is why the stock market trembles when it senses tensions ratcheting up. Monday’s proposal pushes us further down that path. ”
Although thus far, China’s retaliatory tariffs affect a small portion of U.S. exports—$50 billion constitutes roughly 0.25% of the U.S economy—they have the potential to derail market confidence and delay investment decisions. According to Schwab Chief Investment Strategist Liz Ann Sonders, “Protectionism broadly—and tariffs specifically—have historically boosted inflation while causing economic growth to slow, which could lead to ongoing bouts of market weakness and heightened volatility.” Also, the magnitude of the impact to individual sectors can vary depending on the nature of the measures and countermeasures.
In any event, U.S. tariffs aren’t scheduled to go into effect until early July, so there’s still time for negotiation and the potential to avoid a negative outcome, but risks have risen. While administration officials have said they don’t want to unleash any trade wars, markets are likely to remain cautious.
What you can do now
Our belief is that the markets will continue to adjust as the situation evolves. However, trade isn’t the only factor driving equity markets. The rest of the economic and corporate earnings picture is bright and offers a potential counter weight to trade-associated downturns.
As always, periods of market volatility offer a reminder for investors to review their long-term strategic asset allocations, including the timeline for their goals. For goals that have a longer horizon, short-term volatility should be of little concern. However, market volatility can sometimes reveal that investors aren’t as diversified as they should be or that they have a lower risk-tolerance than they thought.
- Try to remain calm. Volatility often leads to knee-jerk reactions that are rarely in investors’ best interest. Let patience prevail as negotiations play out.
- Stay diversified—globally. Diversification can help you manage volatility. Global stocks have recouped half their losses from this year’s correction, closely following the average pattern for corrections seen over the past 50 years.
- Hang tight. While market volatility can be unnerving, it’s a normal—and, indeed, expected—part of the investment cycle.
What You Can Do Next
- Changing economic conditions can affect how each component of your portfolio performs. It’s impossible to predict which one will be the top performer in any given year—that’s why diversification is so important. Want to talk about your portfolio? Call our investment professionals at 800-355-2162.
- Watch Schwab experts discuss other market and economic topics in the Stock Market Report.