The stock market seems to whipsaw with every new development in the saga of US/China trade negotiations. Headlines today as I write this are good, and so the S&P 500 is up about 0.5%. That could reverse tomorrow if a bad headline or a bad Trump tweet comes out. It has been this way since early 2018 when President Trump and his administration began threatening tariffs. The stock market seems to want resolution on this US/China trade issue above all other issues out there. Why is US/China trade so important to the stock market? In one word, Uncertainty.
China was allowed into the World Trade Organization in 2001. China’s production and trade volume with the US and the rest of the world has skyrocketed since then. China’s labor and production costs were cheap then, although less cheap now. Since 2001, it has been a given that US companies (such as Apple) can produce goods in China at a low cost and that US consumers can purchase goods made in China (at Wal-Mart, for instance) also at a low cost. This is one of the main reasons inflation has been kept in check for all of these years.
That “given” perhaps has changed or may change with the introduction of tariffs by the Trump administration, especially those aimed at China. We are currently in the negotiation phase of what the new trade landscape will look like, and negotiations can take some unusual and unexpected turns. While we are in the midst of negotiations as we are now, we don’t know what the end result will look like. Both the US and China have a lot to gain and a lot to lose.
Because of the uncertainty of the trade landscape going forward, corporations don’t know what their Cost of Goods will be, and so they don’t know what their profits will be. “Financial Risk” is the probability that a future actual result will diverge from a projected result. Because of the trade negotiations, investors don’t know and can’t project a financial result, and so they don’t have a good barometer to read the actual results. Too much uncertainty means too much risk, and too much risk means some investors shy away from the market.
Counterbalancing this argument is the fact that the market is at or near all-time highs. To me, this means that we would be even higher had this US/China trade situation been resolved earlier. It also means that the US’s hand in negotiating the trade relationship becomes stronger as the market highs demonstrate that US investors are able to see through some of the uncertainty.
Look for the stock market to make even higher new highs if trade negotiations with China continue to make progress or even result in a trade relationship both countries benefit from. I am not the only one making this prediction, but I hope you have a better understanding that it is the economic uncertainty that results from the negotiation process that is the source for a lot of the volatility that we have seen in the stock market especially since early 2018.