Trump Ups Trade War Ante: Tariffs on all China Products

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Shortly after US implements the first round of tariffs worth $50 billion on China, the China yuan devalued 15%, effectively neutralizing the 25% tariffs. To make matter worse, US July trade deficit with China widened to the most since 2015 as importers increased their shipment from China on fears of further tariffs and the falling yuan has made it cheaper to import China made goods not affected by the tariffs. President Trump is not pleased with the results of his first volley and decided to "go forward with another $200 billion" worth of trade items, with the threat to impose tariffs on all of China goods imported into US. This created a huge chaos in the emerging market equity where the fate of its stock market diverge sharply from the US stock market.

Emerging market equities has fallen into a bear market, losing 20% of its value since Jan and investors are jittery whether further trade war actions on China, with the additional threat of an rising interest rate and USD will derail the strong economies of Asia. 

This divergence between US equities and EM equities is currently at one of the extreme divergence and past trends have shown that EM equities will bounce back strongly after such a situation.

The last time US and EM saw such divergence was in 2015 when US federal reserves start rising interest rates and the higher interest rates lead to fund outflows in weaker economies such as Turkey, Indonesia, Malaysia and Latin American countries. However, the stock market generally bounce back with an average return of 30% as the market sentiments catch up with the actual market fundamentals.

Is it the best time to buy EM equities given that the trade war seems to be escalating? There is no indication when the storm will die down but we do know that the skies will eventually clear again.

Portfolio Strategy

The portfolio has weathered the downturn in EM equities well given that we have allocated a good proportion of the portfolio into USD and US equities which has buffered the storm that has wrecked the stock markets around the region. As the EM equities reached its historical divergence with US equities, I am planning to move the resource funds into EM equities and European equities while trimming our positions in US, which has now swung to the overvalued zone. Given that the benefits of the Trump tax cuts will eventually be offset by the rising interest rates and the threat of falling profits on companies with major manufacturing facilities in China such as Apple, it is prudent to take profit off from US and to reallocate into a cheaper asset class.