Stocks plummet, worries mount as China-U.S. trade war deepens

by Abraham Robison, Quantitative Strategist, Russell Investments

On the latest edition of Market Week in Review, Quantitative Investment Strategist Abraham Robison and Research Analyst Brian Yadao discussed the escalating China-U.S. trade war, recent remarks from U.S. Federal Reserve (the Fed) Chair Jerome Powell and U.S. manufacturing PMI (Purchasing Managers’ Index™) data for August.

China retaliates, announces new tariffs on U.S. imports

A relatively calm week in markets was shattered Aug. 23 when China announced tariffs on $75 billion worth of U.S. imports, including soybeans, textiles and cars, Robison said. Stocks dropped sharply on the news, with the S&P 500® Index down roughly 2.5% at market close. U.S. government bond yields also sank, with the yield on the benchmark 10-year Treasury note falling to roughly 1.51%.

“This caused the U.S. Treasury yield curve—measured by the difference in 10-year and 2-year yields—to re-invert again,” Robison said, “after un-inverting last week.” The drop in bond yields and the selloff in equities essentially puts financial markets back to the volatile state they were in earlier this month, he said.

The seeds to the week’s tumultuous end may have been sown a few days earlier, Robison noted, when the U.S. government extended Chinese telecom giant Huawei’s business license another 90 days, permitting American businesses to continue selling to Huawei until November. “Had the Chinese government viewed this extension as a positive development, it probably would have responded by purchasing more U.S. agricultural goods,” he stated, noting that China instead stayed quiet for a few days before ultimately announcing the retaliatory tariffs.

Powell reiterates Fed’s commitment to sustaining economic expansion

The escalating China-U.S. trade war continues to command the attention of the Fed, as indicated by Chair Jerome Powell’s recent comments at this year’s annual economic policy symposium in Jackson Hole, Wyoming. “Powell struck a fairly dovish tone in his speech, essentially saying that the Fed is committed to taking whatever steps may be necessary to sustain the economic expansion," Robison said.

“Ultimately, the Fed wants to help combat the global economic slowdown with an accommodative policy, but doesn’t want to do too much to stoke inflation,” Robison explained. He noted that the central bank continues to stress a data-dependent approach to monetary policy, and is therefore unlikely to commit to any pre-emptive measures. That said, Robison and the team of Russell Investments strategists believe another rate cut is likely in September.

U.S. manufacturing contracts

New data released Aug. 22 showed that U.S. manufacturing continues to slow, Robison said, as evidenced by IHS Markit’s flash manufacturing PMI for August. The preliminary PMI came in at 49.9, which is indicative of contractionary conditions, he explained. “This means that the U.S. is joining the rest of the world in somewhat of a cycle slowdown,” Robison remarked, explaining that the trade war appears to be weighing heavily on the manufacturing sector.

Moving forward, it will be important to see if the slowdown is reflected in other data points, such as GDP (gross domestic product), personal consumption data and durable goods orders, he noted. “Tariffs are a contractionary measure, as they slow things down and create friction—so what we don’t want to see are signs that they’re starting to affect the broader economy,” Robison concluded.

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