Trade Fears Dominate As China Announces New Tariffs Against U.S. Products

The down button on the elevator lit up Wednesday morning one day after a brief recovery as fears of an expanded trade war with China surged on Wall Street. Stocks plunged in overnight trading after China announced a series of tariffs targeting the U.S.

The new tariffs affect more than 100 products, including soybeans and automobiles. That could pressure auto company shares, and also could hit the agricultural firms that reside in the materials sector. It’s definitely looking like a “tit for tat” game. The U.S. talked about China’s airplanes so China came after U.S. airplanes. Now China is talking soybeans, which is a bit unusual because China consumes so much pork and needs soy to feed its pigs. So maybe it’s a bit of a “cut your nose to spite your face” situation with that product, but it shows how serious they are.

If you’re thinking long-term, the hope is that eventually cooler heads prevail and the two countries negotiate a way out. That’s the way it was looking two weeks ago, but now fears are back. At the end of the day, people are smart enough to realize that trade wars hurt everybody.

Tech, FAANGS and the Return of Volatility

Wednesday’s troubles came after the tech tumble halted for a day Tuesday in a broad market rally from Monday’s losses. However, the embattled tech sector wasn’t among the session’s leaders, and Facebook, Inc. FB shares didn’t exactly tear the cover off the ball. This could be a sign that the so-called FAANG stocks aren’t out of the woods yet, and more big, sudden moves could be in store.

If all these big moves in the FAANGS and across other sectors have you feeling a bit seasick, remember that this is the type of action often seen in big markets when volatility is at normal levels. Last year, many investors got used to a “VIX 9” market, but now it’s back to “VIX 20,” so people shouldn’t be all that surprised if the market keeps swinging like a pendulum. The VIX is one of the market’s most closely watched signals of volatility, and it fell to record lows below 10 last year. It remained above 20 on Tuesday despite the rally.

The sharp swings over the last couple of days have been out of the norm even when you take volatility into account, however. Looking specifically at FB, long-term holders might want to review their initial objective for the position in respect to both time and price. If bad news keeps coming out, it is important to remain disciplined when considering a possible exit point. All the FAANGs are moving like nobody’s business, and they remain momentum stocks. Remember, momentum works both ways and can have a negative confluence.

There’s just not much in the way of financial news until Friday’s jobs report. What’s there to get excited about until then? Not a lot. This means, as we’ve seen over the last two weeks, that outside news or the assumption of outside news is what’s likely to drive the market, often on thin volume. If you need proof of that, check how the market seems to be reacting this morning to the latest China news. Up until the China tariff announcement, the big outside news so far this week had been the president’s tweets about Amazon.com, Inc. AMZN, which might explain one reason why tech came under pressure on Monday. It’s possible that the jobs report followed by the start of earnings season could put the market back on a smoother path, but there’s no guarantee.

In Search of Sector Leaders

Tech came back a bit Tuesday, but didn’t regain its position as a market leader despite news headlines late in the day that the White House doesn’t plan any specific action against AMZN. For those following the market over the long term, it’s important to keep your eye on which sectors lead. Last year it was tech and, to some extent, financials. Both have given up their leadership roles recently, and on Tuesday the rally was led by materials, staples, and energy. The question is, if tech doesn't come back, will one of these take over? It’s unclear right now, but materials seems unlikely, in part because many companies in that sector could get stepped on by the trade war now brewing between China and the U.S.

Energy is an interesting area and some say maybe it’s going to be the new leader, but the jury is still out. That particular sector tends to move according to the price of oil, but it didn’t track oil too closely either up or down when oil moved recently. It’s hard to see energy becoming a major leader based on its performance over the last year.

If info tech fails to resume its leadership mantle, many investors would probably like to see financials step in. Traditionally, it’s a rare rally that doesn’t include financials as a major participant. However, with the 10-year Treasury yield recently coming up short in its pursuit of 3 percent, financials could continue to have trouble. The 10-year yield fell to around 2.76 percent early Wednesday.

One thing to keep an eye on is the S&P 500’s (SPX) forward price-to-earnings ratio, which is now down below 17 compared with above 18 earlier this year. A cooling P/E can sometimes mean the market has a little more leash to run to the upside. Some investors might have gotten concerned about historically high P/E ratios in 2017 and early 2018, but the level now is more in line with historic averages, so there’s potentially less concern about possible overbought conditions.

In other news, the Federal Reserve Bank of Chicago's two-day annual risk conference begins today. Also, St. Louis Fed President James Bullard and Cleveland Fed President Loretta Mester are scheduled to speak at separate appearances.

Also early Wednesday there was some earnings action, with homebuilder Lennar (LEN) beating Wall Street analysts’ estimates for earnings per share and revenue. The company reported a big rise in Q1 new home orders. The housing market is sending some mixed signals now, with LEN’s earnings on the positive side of the ledger. On the negative side, there was a report out Tuesday that some of the higher-end places in New York City are starting to get hit pretty good, and that’s usually a market that holds up well. Also, mortgage applications fell in the latest weekly report. Housing remains a market to watch as interest rates rise.

FIGURE 1: TECH VOLATILITY This year-to-date chart comparing the S&P 500 (candlestick) to the tech sector (purple line), shows that while both have had wild swings, tech is arguably the more volatile of the two, with higher highs and lower lows. The chart also shows a possible double-bottom developing for the SPX, which approached but didn’t take out its early February low this week. Data source: S&P Dow Jones Indices. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.

Participation Trophy

The February jobs report showed labor force participation rising to 63 percent from 62.7 percent the month before. That was one of many positive takeaways, and this Friday it’s important to check the participation rate once again. Something many economists noted during the weak economic growth of the last few years was that even though unemployment fell, labor force participation never really started inching up from near 40-year lows. That could be a sign that many people remain on the sidelines without enough incentive to get back into the jobs market, and that the economy’s gears in some ways remained stuck. The participation rate hasn’t topped 63 percent in four years. Consider watching this number in jobs reports to come, because it’s potentially one clue about how well the economy is functioning. Participation reached the high 60’s back in the late-1990s.

Turn Out the Lights!

Does it seem darker around your house or office? The U.S. Energy Information Administration (EIA) reported this week that U.S. retail electricity sales fell by 80 billion kilowatthours (kWh) in 2017, the largest drop since the economic recession in 2009. The 2 percent decrease in 2017 reflects lower retail sales in the residential, commercial, and industrial sectors and is largely attributable to milder weather, the EIA said. Total electricity retail sales in 2017 were 3,682 billion kWh, nearly identical to the levels seen more than a decade before, in 2006. Typically, electricity use declines during economic downturns, but not when the economy is humming along as it was last year. It looks like a cooler summer that reduced air-conditioning demand drove the decline in 2017.

Speeding Along

Car sales rebounded in March, the major automakers reported Tuesday. The news helped lift shares of a number of companies including General Motors Company GM, Ford Motor Company F, and Fiat Chrysler Automobiles FCAU. Fiat Chrysler reported an increase of 14 percent, while GM and Ford reported increases of 16.0 percent and 3.4 percent, respectively. Tesla Inc TSLA, whose shares have been battered recently, also saw gains after reporting Model 3 production just below its target and reaffirming its production outlook, Briefing.com said.

One interesting note: March marks the final month GM will report monthly sales figures, The Wall Street Journal reported. The nation’s top auto seller said a 30-day period doesn’t provide an adequate snapshot of the company’s business or the broader industry. The question is whether other big automakers decide to follow suit. If so, it could get a little more difficult to keep a finger on the pulse of this important economic metric.

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