Trade Truce, Take Two?

As always, our political discussion is non-partisan. We favor no party or politician and assess political developments solely for potential market and economic impact.

Evidently deciding participating in a trade war was inconsistent with the EU’s Nobel Peace Prize, European Commission President Jean-Claude Juncker agreed to cancel the EU’s trade spat with President Trump at their much-ballyhooed meeting on Wednesday. While nothing outlined in their press conference is a done deal yet, Trump said they will “work together toward zero tariffs, zero non-tariff barriers and zero subsidies on non auto-industrial goods.” They also pledged to “resolve” (Trump’s word) or “reassess” (Juncker’s) America’s steel and aluminum tariffs (and the EU’s retaliation) and refrain from adopting new tariffs against each other. Presumably, that includes auto tariffs. Meanwhile, the EU will soon purchase more American soybeans and liquefied natural gas (LNG). If this all comes to pass, it will relieve investors of one source of trade-war worry, making Trump’s tariffs even less likely to wreak global economic havoc—and illustrating the positive surprise potential inherent in the remaining tariff fears. They also back up a suspicion we have occasionally shared: that all Trump’s tariffs are negotiating tactics, not long-term economic measures.

This outcome—and the saga leading up to it—is all very Art of the Deal. First, Trump slapped the EU with those steel and aluminum tariffs. Then he directed the Commerce Department to investigate taxing auto imports for national security purposes, a shot across Germany, Britain and Italy’s bow. Two weeks ago he fanned the flames at the NATO summit, ripping Germany for relying on Russian LNG and propping up Putin and his oligarch cronies as a result. All harsh, attention-getting moves! And seemingly consistent with the widely portrayed vision of Trump as protectionist and provocateur. Lest there was any doubt, yesterday he tweeted, “Tariffs are the greatest!” Yet those who looked beyond that soundbite and read the rest of the tweet (and the one preceding it) would have found a little clue: Tariffs were great because they were driving trade partners to march over to Washington to talk freer trade. We reckon that explains the tweet-dare Trump tossed out Wednesday evening: “The European Union is coming to Washington tomorrow to negotiate a deal on Trade. I have an idea for them. Both the U.S. and E.U. drop all Tariffs, Barriers and Subsidies! That would finally be called Free Market and Fair Trade! Hope they do it, we are ready – but they won’t!”

Only, they sort of mostly did. And they threw in the LNG purchases, supporting our suspicion that Trump’s jabbing of German Chancellor Angela Merkel was a negotiating tactic all along. You are welcome to quibble with Trump’s approach, and we aren’t here to argue its merits. Tariffs are negative, full-stop, and even temporary measures can raise short-term uncertainty and interfere with investment for a spell. Late June’s volatility is evidence of that.

At the same time, tough talk—and widespread fear surrounding it—does set up some big positive surprise potential when reality turns out much better. Think about it: Investors feared a more protectionist trade relationship with the EU. Instead, if both sides make good on Wednesday’s pledges, the net result will be US – EU trade becoming freer than it was before the steel and aluminum tariffs took effect. That is a huge, unexpected plus! Markets generally like huge unexpected plusses.

Since markets are efficient, we aren’t arguing Wednesday’s agreement is hugely bullish for the US and EU. If it becomes reality, it should assuage some fears. However, more importantly, it does present a pretty compelling precedent. Steel and aluminum tariffs remain in force against Mexico and Canada—as do their retaliatory measures—while NAFTA talks grind on slowly. What if those negotiations also lead to freer trade! And what about China? As we noted Friday, the Trump team claims there is a deal to end tariffs and streamline trade ties basically sitting on Chinese President Xi Jinping’s desk. Two months ago, they seemed tantalizingly close to finalizing it. What if this eventually comes to fruition and Chinese trade gets freer too, perhaps even with more intellectual property protections for US companies doing business there?

In short, we see a lot of positive surprise potential out there. Even if talks grind on longer while the Chinese and NAFTA-related tariffs stay in force, those measures remain too small to sink the US or global economy and markets. Not to go all jargon-heavy on you, but it seems to us like the upside risks vastly outweigh the downside risks. If you are looking for a reason to own stocks today, we think this is a great one.