Which is worse for stocks, the ten-year treasury breaching 3% or the tariff battle now raging with the Peoples Republic of China?
To listen to most business media and analyst commentary, the answer is simple: the ten-year trouble. As long as rates stay below 3% we are fine. They go above it, we aren't. We must go lower. Everything must go lower.
I think that analysis is dead wrong, stupid, even. The fact is, as Goldman Sachs (GS) CEO Lloyd Blankfein told CNBC's Wilfred Frost last week, the ten-year rates have been heavily influenced by central banks and therefore don't have the kind of "price discovery" normally related to economic issues like growth or inflation that we would normally expect. Further, to take your cue from them to make decisions on equities could be very misplaced.
I think Lloyd's right, which doesn't mean the ten-year's crossing of the 3% won't cause a further selloff than we already have; it most likely will. It does mean that the selloff is probably a buyable one after the breach because for all of its import we can't trust it to be emblematic of anything, other than the sound and the fury signifying, well, nothing.
So we search for potential interpretations and I, for one, want to fall back on both the benign and important narrative offered by Bryan Jordan, the chief executive officer of First Horizon (FHN) , the largest bank in one of the fastest growing areas of the country, Tennessee, who told me Friday that business is excellent and there's terrific loan demand at this level and there will no doubt be good demand at higher levels, too.
He bases that on a belief that economies do build heads of steam and that steam isn't dissipated by rate increases at the short or long ends anywhere near these low levels. We even joked to each other that perhaps we are just too old to not be more pessimistic because we have seen great demand at double these rates in our lifetimes. We can't dismiss the concerns of managers in their 40s who haven't seen strong activity at higher rates - let alone those in their twenties and thirties who find the ten-year breach unimaginably frightening - but we know that their algorithms may very well simply be set wrong.
In other words, buy the weakness created by the 3% dilemma but only after the crossover, not before it.
However, I can't be nearly as sanguine about the stock market considering the prospect of President Trump selecting the next $100 billion worth of product to put tariffs on against the Chinese. In every case, no matter what I run through - furniture, footwear, computers, toys, cellphones - I see real problems for the American worker. We have given the Chinese the run of the place for so long, in large part because cheap goods have other, more positive effects than tariffs, that it's hard to calculate how negative the impact would be on the consumer for this next round of duties that could take some retail prices back to where they were before we adopted an ultra-free, one-sided trade position with many countries.
But we do know this: it's bad. It will chew into disposable income, it will cause inflation. It will drive down economic activity both here and around the world. In fact, the President's team so much admits that there have to be some negative consequences economically, SHORT-TERM and that most likely includes the decline in the stock market that we continue to experience.
Or to compare the two issues: it's possible that we could be building such a head of steam that economic activity won't be tamped north of 3%, but we know economic activity will go down in a hotter trade war than now and the American consumer will not have enough disposable income to keep spending at the current, desirable pace.
Worse, the trade war with China is on three fronts: finished goods, raw materials and outright theft of intellectual property. President Trump's fighting back on all three. Finished goods tariffs will lift prices, causing inflation, for certain. Raw materials could crimp the profits of all who make products of steel and aluminum. And intellectual property? Take a look at the carnage post the ban on selling our tech to ZTE (ZTCOY) , the big Chinese telecommunications company and the Chinese questioning of the prospects of any antitrust curing that can be offered that would allow Qualcomm (QCOM) to complete its deal for NXP Semiconductors (NXPI) . How can you cure antitrust when there is no antitrust to begin with?
At times like this I like to fall back on history: there have been some fantastic eras for the stock market when rates are going higher, at least initially, in a recovery like we have. But there have not been many times when we have had trade wars that were good for the stock market.
So, if we know this, then why not drastically cut back exposure to the equity markets?
Simple: because, hate him or like him, Trump has shown phenomenal dexterity and not nearly as much dogma as many of his confidants would like. What happens if he senses that the tariffs are hurting the working person too much for them to vote for him in 2020 or in the Congressional elections of 2018? What if the Chinese actually bend their behavior and offer real concessions, say, to allow ZTE to get the equipment it needs? What if they say that, upon further review, NXP and Qualcomm can combine if the U.S. recognizes that ZTE's untrustworthy managers have been replaced? And most important, what if the tariffs on $100 billion in imports is just an opening bid and nothing more?
That's right, things are so fluid that selling a huge amount of stock when our tariffs haven't yet been put into place - May 1's the day -could cause you to miss a comeback rally of some magnitude. I think we could see selling into the May 1 deadline if nothing's done.
So, what's the best thing you can do? Certainly, raise some cash, that's a given. It's what we have been telling people in the Action Alerts PLUS club to do. But then letting the rest stay the course so you can be owning stock WHEN the market comes to its senses about the ten-year and if there's a truce in the ongoing war with China over fairness of trade, one that Secretary Steve Mnuchin seems to want to try to reach. To miss that rally would be worse than if you catch another 3% to 5% decline and don't manage to put money back to work at the bottom.