September 18, 2018

Stocks surged at the open despite escalation of the trade war with China. The Dow is up 118 pts and the SPX is up .58%. Technology and consumer discretionary sectors—thought to be especially vulnerable to a trade war—are leading the way with 1% gains. European markets will close modestly higher and Asia was mostly higher overnight. In fact, China’s Shanghai Composite Index rose 1.8% and copper prices surged more than 3%. That is absolutely not the expected reaction to more trade tariffs. Commodities are higher on the day and the US dollar is trading flat. Iron ore is up over 1% and WTI crude oil is up around $69.60/barrel. Bonds are selling off today as interest rates head higher. The 5-year and 10-year Treasury yields are up around 2.92% and 3.03%, respectively. In addition, the yield curve steepened just a bit.

Yesterday evening, President Trump announced a significant expansion of trade tariffs on imported Chinese goods. While the president said he respects Chinese President Xi Jinping, said the US can’t continue running such large trade deficits. He has been unhappy with China’s refusal to cave on its’ own trade tariffs & foreign investment restrictions. Starting next week, the US will begin charging a 10% tariff on about $200bil worth of imported Chinese goods. That figure will jump to 25% next year. The administration wants to give US multi-national companies some time to move their supply chains before the worst of the tariffs take hold. Thus, Mr. Trump makes good on his threat: “If countries will not make fair deals with us, they will be ‘Tarrified?’” The announcement comes less than a week after an administration official said the US is seeking new trade talks with China. It seems to many observers that the Chinese may decline, and yesterday pledged to retaliate with their own trade tariffs on $60bil of US goods.

Traders are anticipating next week’s Federal Reserve policy meeting. Morgan Stanley says the Fed will likely raise its short-term interest rate again by .25% and will signal another hike in December. The Fed may acknowledge downside risks from “overseas developments and trade policy.” But will they also acknowledge the fact that inflation has slowed recently? Will they signal any caution about further rate hikes in 2019? Many traders and economists think this issue is more impactful to the stock market than the emerging trade war.

According to Goldman Sachs, US companies are using money saved with tax reform to buy back their stock and invest for growth. The firm’s research suggests that total capital spending—on buildings, machinery and other equipment—during the first half of 2018 is up 19% from year-ago levels. Spending on research & development is up 14%. In a CNBC interview, Goldman’s David Kostin said, “In the last 25 years, you’ve never had capital spending growth at that level.” Stock buybacks are expected to consume even more of the tax windfall. Corporate stock repurchases climbed 48% to $384bil in the first half of the year.

Reuters reports CVS Health’s (CVS) planned acquisition of Aetna (AET) may be formally approved by the Dept. of Justice by the end of the month. The approval process has taken quite a long time due to anti-trust concerns that will prompt some minor divestitures. The deal was initially announced back in December 2017. Both stocks have responded positively as the chances of DOJ approval improved. CVS is up 8% so far this month and AET is up 13.8%.

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