A lingering threat in Trump's trade war could spell trouble for US stocks

Thomas Peter-Pool/Getty ImagesDonald Trump with Chinese President Xi Jinping.
  • Capital Economics says there are signs China is beginning to target US multinationals in retaliation to US tariffs.
  • Such a move may take a toll on US stocks, which have so far shrugged off escalating trade tensions between the two countries.
  • US multinationals in China derive more than $US300 billion in sales from their Chinese subsidiaries.

There’s increasing evidence that China is beginning to target US multinationals operating within its jurisdiction as trade tensions mount, Capital Economics (CE) says.

And such a strategy “might well take a much greater toll on the S&P500,” according to economist Oliver Jones from CE.

US stocks have so far been relatively immune to escalating trade tensions between the two countries.

As Jones points out, that stands in contrast to Chinese markets — which have declined by around 10% since the Trump administration approved the first round of import tariffs in mid-June.

Those falls haven’t been driven solely by tariffs — property restrictions amid a Chinese leverage crackdown were also cited as a catalyst.

Conversely, US markets have benefited from another round of strong earnings reports, with around three quarters of S&P500 companies beating earnings expectations in the latest reporting season.

However, Jones said there’s been a material difference in the way markets have reacted since Trump’s opening trade salvo.

He based his analysis on market pricing for expected levels of volatility at a future date:

Source: Capital Economics

“Expected volatility in China‚Äôs stock market jumped in mid-June, as President Trump approved tariffs on $US50 billion of Chinese imports. Unlike in the US, it remains well above its average level last year,” Jones said.

And he attributed the divergence to a belief in the market that Chinese companies will be hit harder than their US counterparts in the event of an all-out trade war, but “we suspect that this belief is misplaced”.

“While China has so far responded to US tariffs primarily with duties of its own, it is reaching the limit of its ability to respond in this way,” Jones said.

Indeed, one of the prevailing narratives amid the tit-for-tat trade threats between the two countries is that China has more to lose because its exports to the US dwarf what it buys in return.

Instead, “there are already signs” China is starting to place restrictions on US multinationals operating there.

“We think that its response will increasingly take this form if the US imposes tariffs beyond those already in the pipeline,” Jones said.

This latest research provides an update to views Jones expressed in July, where he noted that targeting foreign subsidiary companies is one area where China has the upper hand.

This chart shows the discrepancy between sales derived from US companies operating in China, compared to their Chinese counterparts in the US:

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