China Leads Market Recovery As Predicted Trade Deal Emerges

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Posted: Nov 02, 2018 10:30 AM
China Leads Market Recovery As Predicted Trade Deal Emerges

The popular large-cap China ETF (ticker FXI) led the S&P 500 during the market uptick of the past several days, driven by signals from Beijing and Washington that a resolution of the Sino-American trade dispute was possible.

President Trump this morning tweeted that he had made progress on trade negotiations with China, and had spoken by telephone with his Chinese counterpart Xi Jinping.

The correlation of S&P returns to FXI returns jumped in recent days to around 90%.

Click here to view the chart.

The October plunge in US equity prices, as well as weakness in recent US economic data, give the Trump Administration an incentive to reach a resolution with China.

As I reported from Beijing October 23, China is looking for a framework for a trade deal that would allow Trump to claim credit for better protection for American intellectual property as well as changes in China’s industrial policy. China may tone down its rhetoric about dominating high-tech industries under the “Made in China 2025” program, source of contention with the United States, although it will not abandon its economic goals.

I predicted October 25 that the slumping stock market would motivate the Trump Administration to seek a deal with China.

The October manufacturing survey of the Institute for Supply Management released Nov. 1 showed weaker-than-expected growth in US industry. The index fell from 58.8 to 56.8 while new orders fell from 61.8 to 57.4, and prices paid rose from 69.0 to 71.4.  The numbers reflect the percentage of respondents who see expansion vs. contraction and came in far below the consensus of economic forecasters.

The Institute told Bloomberg news that tariffs are a concern to more than 40% of respondents in the broad-based survey. “Import tariffs and counter-tariffs are the biggest inhibitor to the expansion in manufacturing,” ISM official Timothy Fiore said.

Evidently, the administration’s initial confidence that the US would emerge nearly unscathed from a trade war with China has eroded in the face of poor stock market performance and softer-than-expected economic data.

In an open letter to Larry Kudlow published July 19, I warned that tariffs against Chinese imports would hurt the United States as much as they hurt China:

“The vast majority of China’s exports to the US are consumer goods, especially electronics. Most of these goods are assembled in China from imported components. China adds only a third or so the value added to these goods. China has a chronic labor shortage and is shifting low-paid assembly to lower-wage countries in Asia. If you tax consumer goods from China, American consumers will pay more, and the Chinese will accelerate the shift of low-wage employment to the new economic zone they are building in Asia through the $1 trillion One Belt, One Road program.”

I believe that the Trump Administration has come over to my point of view. That portends a sharp recovery in Chinese equities before year-end.

This article originally appeared on Asia Times.