The trade war between the United States and China took an ugly turn on Aug 1, with President Donald Trump’s tweet signaling the next round of tariff on $300 billion Chinese goods, effective Sep 1.
On Aug 5, China retaliated with a double whammy. First, China is taking steps to stop purchasing agricultural products from the United States. Second, the world’s second-largest economy allowed its currency yuan to drop below a key psychological barrier.
Trump’s Tariff and China’s Answer: Effect on U.S. Economy
The United Sates has already levied 25% tariff on $250 billion Chinese exports while China has reciprocated with 25% tariff on $110 billion U.S. goods. So far, the U.S. government has imposed tariff on intermediary goods to be used by the country’s corporates to develop high-tech products.
However, 68% of the new set of $300 billion Chinese goods, which will face 10% tariff, will be either on consumer goods or auto parts. This is likely to severely dent consumer confidence besides gradually dampening business confidence. Trump further stated that tariff rate could increase to 25% later.
Meanwhile, on Aug 5, China’s state-run media Xinhua reported that The Customs Tariff Commission of the State Council may impose tariffs on U.S. agricultural products purchased after Aug 3. Consequently, Chinese companies are halting purchase of U.S. agricultural goods. Notably, one of the major issues that the United States raised during trade negotiations was that China must substantially increase imports of U.S. farm products.
Finally and most importantly, China allowed its currency yuan to fell below 7 to a U.S. dollar for the first time since 2008. Notably, the U.S. dollar – yuan exchange rate of 7 is considered as a psychological barrier. On Aug 5, offshore yuan fell to 7.10 while onshore yuan plunged to 7.05.
The People’s Bank of China has already signaled that it may reduce yuan’s price further if the U.S. government increases tariff rate. Lowering yuan’s price, China will make its goods attractive in the United States, enabling it to make up for some tariff-related revenue losses.
Following the development, the U.S. Treasury Department called China a currency manipulator. For investors' knowledge, the last time China made a similar move was in 1994 during Bill Clinton's presidency.
As a result , the U.S. government will now move to the IMF to make a formal complaint against China’s currency manipulation. However, whether IMF will impose a penalty on China is not clear.
Will Fed Adopt a More Dovish Stance?
On Jul 31, the Fed reduced the benchmark lending rate by a quarter basis point for the first time since September 2008. However, Fed Chair Jerome Powell’s statement that this rate cut is to “insure against downside risks,” and is no signal that this is the start of a lengthy rate cut cycle, sent shock waves through Wall Street.
Meanwhile, the situation has changed drastically over the last five days after the U.S.-China trade conflict heightened. In its last FOMC meeting, Fed cited three concerns –-- U.S.-China trade spat, global economic slowdown and muted inflation –-- for lowering interest rate.
The U.S.-China trade war is unlikely to be resolved anytime soon. Levying more tariffs, especially on consumer goods, will directly put the burden on U.S. consumers, affecting their purchasing power. The U.S. economy, though still growing for the 11th year, has slowed down. Hurting consumers’ spending power may result in economic recession later this year or early next year.
Moreover, trade conflict is also affecting the global economy, especially the European Union and Japan, which suffering from a severe manufacturing sector downturn. Across the world, investors are opting for safe haven government bonds from risky equities, resulting in falling yields to a historically low level.
As signs of deterioration emerge, the central bank may feel compelled to cut rate for the second time in September in line with its commitment to act as appropriate to sustain U.S. economic expansion. The devaluation of yuan has already strengthened the cause for a rate cut.
On Jul 31, in his lecture on the FOMC decision, the Fed Chair reiterated his earlier commitment. Powell said, “It’s not the beginning of a long series of rate cuts,” while adding, “I didn’t say it’s just one” move. Once again, an indication of more cuts is not ruled out if the central bank thinks it is genuinely needed.
Our Top Picks
Under these circumstances, rate-sensitive investments like utilities, REITs, telecom and health care, which are also powered with strong growth potential, will be prudent. We narrowed down our search to five such stocks, each carrying a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.
The chart below shows price performance of our five picks year to date.
Industrial Logistics Properties Trust (ILPT - Free Report) is focused on the ownership and leasing of industrial and logistics properties primarily in the United States. The company has expected earnings growth of 8.7% for the current year. The Zacks Consensus Estimate for the current year has improved by 2.3% over the last 30 days.
Medpace Holdings Inc. (MEDP - Free Report) is a clinical contract research organization providing scientifically, driven outsourced clinical development services to the biotechnology, pharmaceutical and medical device industries worldwide. The company has expected earnings growth of 12.4% for the current year. The Zacks Consensus Estimate for the current year has improved by 10.2% over the last 30 days.
Unitil Corp. (UTL - Free Report) is a public utility holding company, engaged in the distribution of electricity and natural gas in the United States. It operates through three segments: Utility Gas Operations, Utility Electric Operations and Non-Regulated. The company has expected earnings growth of 4% for the current year. The Zacks Consensus Estimate for the current year has improved by 0.9% over the last 30 days.
DaVita Inc. (DVA - Free Report) provides kidney dialysis services for patients suffering from chronic kidney failure or end stage renal disease. The company operates kidney dialysis centers and provides related lab services in outpatient dialysis centers. The company has expected earnings growth of 23% for the current year. The Zacks Consensus Estimate for the current year has improved by 3.8% over the last 30 days.
Telephone and Data Systems Inc. (TDS - Free Report) is a telecommunications company, providing wireless, cable and wireline broadband, TV, voice, and hosted and managed services in the United States. It operates through three segments: U.S. Cellular, Wireline and Cable. The company has expected earnings growth of 6% for the current year. The Zacks Consensus Estimate for the current year has improved by 0.8% over the last 30 days.
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