US President Donald Trump has instructed US trade officials to consider US$100bil in additional tariffs on China, fuelling an already heated trade dispute between the world’s two biggest economies.
The further tariffs were being considered in light of China’s retaliation against earlier US trade actions that included US$50bil of tariffs on Chinese goods.
There are fears that the growing trade tension between the United States and China can result in potential knock-on effects on businesses.
Apart from focusing on the ongoing trade war between these two economies, it is important to observe the impact on the businesses of other countries, especially those whose businesses focus on these two countries.
Besides, jitters in the global markets are causing concerns in terms of investment strategies.
Will Chinese officials express their dissatisfaction to the World Trade Organisation (WTO)?
In 2015, China’s “Made in China 2025” plan was announced. It highlighted 10 sectors that would pave the way for China to become an advanced manufacturing power. These ranged from information technology to robotics and aerospace. In addition, China has a separate development strategy for artificial intelligence.
Hence, by targeting sectors that Beijing is openly trying to promote, the United States could be signalling that its strategic aim in the current conflict is to prevent China from gaining the global technological leadership that it covets, an act that may have provoked anger in China.
But the Chinese leadership has long stood on a foundation of support derived from providing continued growth and development. In the case of Trump, it is often touted with the performance of the US stock market during his tenure and the ongoing improvement in the US economic picture.
The current trade war could be viewed as the US president being far more serious about opening up talks with China compared with his predecessors by directly targeting China. Possibilities are that the United States and China will find a way to hash out some sort of solution that will not harm both economies.
So, possibilities for the Chinese officials to convey their dissatisfaction on the US tariff plan to WTO’s dispute settlement body where they can question the legality of US tariffs, while the United States alleged that China is involved in the theft of US intellectual property are high. We could potentially see some trade-offs between these two countries and these may ease the tension for an escalated trade war between them.
Knock-on effects on businesses engaged in intermediary trading
In the interim period pending any talks and negotiations with the WTO, businesses engaged in the intermediary trading or have a significant portion of their global production chain focusing on the Chinese or US exports will have to bear the brunt of the impact of the trade dispute i.e. from the targeted tariffs imposed by the United States and China.
If we look in the context of Asia, companies that focus on exporting their goods such as machine parts and components for communications equipment used in the production of items that China then sells to the United States will feel the heat. In this case, those in South Korea, Taiwan, Vietnam and Malaysia can experience some knock-on effects.
Besides, Asian chipmakers risk being the loser in this trade war with the change in semiconductor suppliers. It can happen should Beijing decide to make concessions with the United States whereby Beijing reduces its trade surplus with Washington by boosting its purchase of US chips. At the moment, mainland Chinese companies import about US$200bil worth of microchips a year, most of them from South Korea, Japan and Taiwan.
In the case of Japanese businesses, the impact will be felt by their exporters given that they are among the world’s largest exporters. Japan exports almost US$700bil worth of goods in 2017 with China and the United States being their top trading partners. Its major exports are cars, computers and electrical equipment, as well as iron and steel, all which have been in the crosshair amid the China-US tensions.
Besides, the Japanese yen, which is deemed as safe haven currency, will strengthen. It will cause their exports to become more expensive, thus hurting exporters.
So, any potential evidence of China likely to agree to purchase more US manufactured semiconductors, lowering tariffs on imported cars and relaxing its tight laws about foreign ownership of Chinese firms will ease an all-out trade war, although it can still have some knock-on effects on some Asian businesses.
Pockets of opportunities for equities
Noises of trade war will continue to cause jitters in the global markets. Equities will be the hardest hit, especially cyclical sectors that are most exposed to economic swings. These will experience strong selling pressure.
Companies with a significant portion of the global production chain of Chinese exports will be affected. Japan, a safe haven, will see the yen appreciate and potentially affect exports and in turn put its equity market in jitters.
Hence, investors who seek to protect their portfolios against the risk of a full-scale trade war should ensure that they are not overexposed to export-oriented equity regions or sectors such as machinery, car manufacturing and retail industries.
The reason being these are highly dependent on global supply chains. The result is bound to be a combination of rising input costs due to tariffs, and possibly supply restrictions.
In turn, they should ensure adequate global diversification, including assets in the United States where some sectors could benefit directly from the tariff, for example steel manufacturers.
Besides, there are good buying opportunities for those with a longer investment horizon. The focus should be on companies that are stable with strong business models. These companies may have fallen out of favour due to the adverse noises but can still offer solid returns even if the market volatility continues and the broader economy loses steam.
Thus, one should focus on momentum as an investment strategy with the aim of capitalising on the trends in the market. This can be achieved by taking a long position, especially on stocks that have established a firm trend and are unlikely to move against the trend.
Besides, investors could consider equity put options to reduce portfolio volatility. Put options are financial instruments that give traders an option to sell assets at an agreed price on a particular date, thus allowing traders to hedge their portfolios.
And finally, with the volatility looks set to stay for a while, opportunities can arise for day traders to profit from the movements on the long and short side.
Anthony Dass is chief economist and head of AmBank Group Research.