ON WATCH FOR EXPOSURE TO CHINESE TRADE TARIFFS:
Boeing, Best Buy, Walmart, Carmax, Seagate, Apple, General Motors, Yum Brands, Hasbro
What we’re seeing is a hybrid environment in which broad market indexes are performing well but individual stocks associated with a potential Chinese trade war are underperforming. Let’s begin our discussion with the broad market…On Friday it was clear that central banks were buying stocks hand over fist. The WSJ reported Goldman Sachs CEO Lloyd Blankfein is planning to leave the firm the same week it was announced Gary Cohn is leaving the White House. Blankfein and Cohn want no part of Trump’s tariff policy. How did GS react to the bad news of losing its superstar CEO? The stock was +$4. Then there’s Facebook. It was revealed that daily use has plummeted by more than 20% in addition to intense regulatory pressure coming from the EU; what did the stock do? FB was +$3 on Friday. The Dow rallied 800 points last week even as steel and aluminum tariffs were announced. With no fundamental rationale for buying GS, FB or the Dow one can conclude it was blind helicopter money adding equity exposure. Top holdings of the Swiss National Bank outperformed. This market is still being propped up which will enable Trump and Wilbur Ross to announced more Chinese tariffs in the weeks and months to come.
Speaking of the Swiss National Bank, according to its most recent 13-F filing they recently sold shares of Best Buy which could get hammered by higher tech prices in a Chinese trade war, they sold shares of Carmax which would get hammered in a trade war, they sold shares of tech component company Seagate, they sold basic materials Eastman Chemical, and they sold shares of Manitowoc which is the same stock that Trump insider Carl Icahn just sold prior to the steel tariff announcement. If the SNB has its way, the broad market will remain stable and only those stocks with tariff exposure will drop. This dynamic could define market action over the next six months until the impact of a trade war spreads to the banks. Once it hits the banks, then the broad market would follow.
Our Chinese trade war watchlist is showing downside promise today as Boeing is -$9, General Motors is -$0.15, Yum Brands -$0.20, Walmart -$0.70, Best Buy -$1.40 and Hasbro -$1.30. Each are approaching their respective purchase points. Owning individual names that provide downside exposure is evolving into a more in-sync strategy than owning S&P 500 puts. Because we are sitting in SPY Leap puts that don't expire until January of next year, we have plenty of time for this bounce to run its course...the market will very likelly give us a breakeven or profitable zone to close out our puts upon a retest of the lows. So we will continue to hold those SPY puts . We will also average into more appropriate downside leadership at the opportune time. From today’s perspective, if we had to pick a candidate for ‘The Big Short’ it would be a competition between Boeing, Best Buy, & Apple. Boeing could lose its huge backlog of Chinese airplane orders, Best Buy is a high end retailer that relies 100% on inexpensive Chinese tech, & Apple's lion share of smart phone revenue is derived from China exposure. BA puts and BBY puts are looking like a solid initial allocation for the tariff trade. However, Boeingss exposure to the military sector is likely inhibitive for a short trade due to Trump's increased military budget. Apple on the other hand is producing what we is verly likely the last gasp run up here at all time highs. We don't see this
March 9 - Friday
Watching the Dow rise 600 points in what will eventually be known as the most pivotal week of the year represents an opportunity to build positions. The market is cheering the fact that Canada and Mexico were left out of the steel and aluminum tariffs but this trade war is not about Canada and Mexico, it’s about China. Even the 107 congressman who sent an anti-tariff letter to President Trump made it known they are okay with tariffs against bad players like China. During yesterday’s CNBC interview, Wilbur Ross said he is ready to issue additional tariffs in other industries over the coming weeks and months. As Wilbur Ross’s power grows, we expect downside volatility will increase as Wall Street realizes this is more than a one-off event. China’s initial response to these steel tariffs was to urge the U.S. to withdraw while threatening to take ‘strong measures that could seriously hurt the International trade order’. Europe also responded by saying, ‘trade wars are bad and easy to lose. EU’s goal is to keep world trade alive and if necessary to protect Europe by proportionate responses.’ Japan hopes to get excluded from the tariffs but said, ‘the measures are extremely regrettable and will have a big effect on the global economy’.
It’s not just other countries who are concerned. Major banks like JP Morgan and Goldman Sachs who, by the way, are part of the plunge protection team, have issued major warnings including yesterday’s forecast for a 40% correction. These are like flashing neon lights warning investors about what’s coming next. Gary Cohn’s resignation is the first concrete signal that a new regime has taken control of the White House. Yes, it’s still very early in the game but downtrend formation has been occurring since January 26th. A tectonic shift happened this week.
In order to prepare to add exposure to our Chinese trade war watchlist, we may be getting close to sell our Boeing long position. This will allow us to add the basket of potential downside leadership stocks that includes Boeing, Nike, NuSkin, Yum Brands, General Motors, Best Buy, Hasbro and Walmart that could get crushed by Chinese retaliation.
What if we’re wrong? What if the market explodes higher even as tariffs and trade wars infect the global economy? After all, there is a 30% chance that market manipulation can reject even the risk of trade wares. If this scenario unfolds, then we’ll utilize the greatest low volatility investment vehicle in UVXY puts as a hedge if not out right get more aggressively long where the momentum trade is. If we’re wrong, UVXY will drop perpetually on volatility suppression and we will go along for the technical ride. We're still in the stand-by zone before making any significant moves.
March 8 - Thursday
It’s interesting to watch this market somewhat cheer the possibility of Canada and Mexico being left out of the steel and aluminum tariff (Trump squashed the rumor). Why is it interesting? Because it reveals traders have no idea what’s coming next. Gary Cohn’s resignation signaled the dawn of a new era. If you want to know what’s coming, get acquainted with Peter Navarro. Go watch his youtube documentary. Read some of his books. You’ll quickly discover that the Trump administration is following Navarro’s timeline of domestic deregulation and tax cuts followed by steel tariffs in the name of national security. We’re digging into his literature looking for clues as to what comes after the steel and aluminum tariff. Investors quick to adapt to future rotations will profit the most.
Peter Navarro’s economic doctrine of ‘America First’ is built upon the premise that Bill Clinton’s 2001 inclusion of China into the World Trade Organization enabled China to gain a competitive advantage. Since China became a legitimate global trade partner in 2001 they have done nothing but take our manufacturing jobs, steal our IP, dump products with illegal subsidies, and exploit child labor and pollution as a cost advantage. Steel and aluminum tariffs targeted against Chinese producers as high as 108% is a first blow. The next targets are likely to be technology components, food supply, consumer products, machinery and auto’s. Navarro supports an across the board 45% tariff on all products ‘made in China’ as a way to repatriate part of the global supply chain. His negative rhetoric focuses on companies like Walmart, Apple and Boeing whose businesses have thrived because of Chinese exploitation during this era of globalization. Forget about Canada or Mexico. It appears Trump, Navarro and Wilbur Ross are focused on China. We think there’s a high probability that some sort of border tax on Chinese exports is what’s coming next. If this happens, it will be massively disruptive to the Chinese economy as well as cause price inflation in the USA. Protectionist policy is nothing new. It’s been around forever because there is an appeal to it. Countries like to be self sufficient. They like to take care of their own. Debate regarding the positive and negative merits of protectionism can go on for days, months and years. We don’t get into that here in this newsletter. What we focus on is the impact on markets.
All-of-a-sudden a great company like Boeing finds itself in the crosshairs of political trade wars. Not only do steel and aluminum constitute a hefty chunk of the cost of a new Boeing airplane but 25% of 2017 deliveries were to China and another 304 Chinese orders are in the existing backlog. Goldman Sachs issued a report speculating that Boeing carries the greatest risk of Chinese trade retaliation. It’s stock has risen 90% over the last year to a price of $345. In 2016 BA traded in the $120 range. It’s not a stretch to forecast BA has a long way to drop if retaliation hits.
It was only a few years ago that Chinese exposure was a positive for stocks. That may not be the case during Trump’s final three years in office. Beyond Boeing, other notable American companies with more than 10% revenue exposure to China include Nike, General Motors, Tesla, Apple, NuSkin, and Yum Brands. Supply chain exposure could derail companies like Best Buy, Walmart or Hasbro who rely upon the Chinese status quo to sell cheap tech, consumer goods and toys. Each of these stocks are at risk in the new environment and are being added our downtrend watch list.