I never had the honor of serving in the Armed Forces, but I did spend four years of my life at a military school and I am very familiar with the cadence of, “Left, left, left right left.” One could modify that to “Down, down, down up down” and be right in step with the market today.
This up-down nature is sometimes blamed on the Fed and interest rates, and sometimes blamed on the trade war. In our opinion, the latter explanation is the correct one. This brings to mind a newsletter I wrote in the summer of 2010, Ignorance is Bliss. Here’s an excerpt:
“Now for the anti-foreign bias: there is an inexplicable bias against free trade among other nations and a fear of immigration. People tend to see other nations as competitors instead of partners in a global economy. In his book Pop Internationalism, Paul Krugman states, ‘The growing obsession in the most advanced nations with international competitiveness should be seen not as a well-founded concern, but as a view held in the face of overwhelming contrary evidence. And yet it is clearly a view that people very much want to hold – a desire to believe that is reflected in the remarkable tendency of those who preach the doctrine of competitiveness to support their cases with careless, flawed arithmetic.’ The fact is, free trade is an economic win-win for all nations and legal immigration is desirable, as immigrants usually take jobs that, for whatever reason, native workers do not want. Immigrants also can bring with them skills and knowledge that the native workforce may not posses. No country is a greater example of this power than the United States, yet the majority still believes trade and immigration to be harmful, and populist politicians, mainly on the right, take advantage of this fear. The protectionist actions of the Obama and Bush administrations have led to many unintended consequences, including double-digit unemployment.”
Our current administration seems to view life as a zero-sum game. For every winner, there must be a loser. That is a very bleak way of looking at life, and in our opinion, it is wrong. Life is a win-win proposition. When we trade with anyone, including China, both sides win. If this was not so, the trade would never take place. The easiest way to think about these issues is to personalize it. When you go to the store and buy something, is there a winner and a loser? If there is, then that would be the last transaction at that store.
No, when we shop for ourselves we get something we need and/or want and the merchant gets paid. Win-win. I must admit, the benefits of trade are so overwhelmingly obvious to me that I frankly struggle to understand what others see.
Regardless, we are where we are. We have picked a fight with China, and as a result, the great economic expansion brought on by tax and regulatory reform is being threatened. Most in the administration suggest this is all negotiation. Hopefully they are correct, and Peter Navarro and the President’s Twitter account are not really to be believed. Hopefully this tough talk leads to an even better trade relationship with China.
However, the bond market is telling us that this is not the outcome most expect. Today bond yields on the 10-year Treasury fell below the yields on the two-year Treasury. This tells us that bond market participants believe we are headed for a recession. I’m not sure what it will take for his advisors to convince Trump that trade is a win-win, but if they fail, then he will learn right along with the rest of us that trade wars are lose-lose.
What are we to do as investors? Prudent investing over the long term goes back to three things: First, it is bottom-up. We have to analyze each investment in its own right and know what we own. Secondly, it is absolute return-oriented. Decisions need to be made that will lead to a long-term return that will actually achieve one’s goals regardless of what the market or others are doing. Finally, it is risk-averse.
The market is jumping around but really going nowhere. This is when prudence is needed most. Hope that there is a breakthrough on trade, but plan on it not happening. It is time to play defense.
Chuck Osborne, CFA