tariffs

• Signal from Noise

Aug 29, 2019

By Vito J. Racanelli, August 29, 2019 There’s a narrative in markets—fueled by headlines—that soybean farmers could cost President Donald Trump the 2020 election. I beg to differ. He might indeed lose the election, but it won’t be the beans. In trade wars and headlines, facts sometimes get in the way of the story. A reasonable review of the agricultural and electoral data, as we’ll see below, suggests the likelihood of Trump losing a meaningful portion of the farm state vote that he won in 2016 is a low percentage bet. Simply stated, in the most important soybean states that went for Trump in 2016, they did so in such a big way that it would have to get very bad to cause a switch of allegiances.  In 2020, the reversal necessary to cost him electoral votes—remember that’s what elects presidents—is going to be a tall order for the Democratic candidate, whoever he or she is. Trump’s average margin of victory in the soybean states he won was over 20%.   It’s true that some farmers are hurting, hit by a double whammy of reduced soybean sales to China and lower commodity prices. According to the USDA, U.S. total soybean exports this year at August 1, 2019, were 42.0 million tons, down 11.3 million from the year ago period. Much of that was due to exports to China, 10.6 million tons, down from 16.9 million in the same period of 2018. (See table.)  The second whammy is price: Outside the U.S. soybean prices are down 14%. In calendar 2018, the U.S. imported a record $539.5 billion in goods from China and sent $120.3 billion there, for a trade deficit of nearly $420 billion.  That’s why Trump is seeing red.  I’m not going to discuss the U.S long term structural deficit with China nor the likely poor efficacy of tariffs and trade wars, but suffice to say I think they are bad for the U.S., bad for China, and bad for the world. I understand the frustration with China, but given that the U.S. is a democracy and China is totalitarian, it’s more likely that China can tough it out than the President be re-elected. The 2018 U.S. exports to the Middle Kingdom ($120.3 billion) were down from about $130 billion in 2017, and almost the entire difference was soybean and corn. The U.S. is a net importer from China in most market segments such as consumer electronics, apparel, furniture and industrial supplies. The one major exception: agriculture. Soybeans made up a big chunk of the U.S.’s worsening 2018 trade deficit with China. If you want a superficial assessment, it’s that soybeans will cost Trump the 2020 election. But let’s look at the big soybean states that went for Trump and by how much. (See table below.) According to a study done last year by the Federal Reserve Bank of St. Louis, the top 10 soybean producing states (2018 data) made up nearly 80% of U.S. soybean production. Trump won 8 of them by significantly large margins, and lost one, Minnesota, by a small amount. Given those “yuge” winning margins in the eight states, it would take a rather large voter U-turn there to cost him the electoral votes. Could it happen? Sure, but how likely is that?  For example, even if he lost the two states with his smallest margins of victory, Ohio and Iowa, but repeated in the other six, that would still leave Trump with 282 electoral votes. That assumes he repeated victory in all the other states he won in 2016.  It might be a narrow victory, to be sure, and other factors could still cost him. Here’s another reason why soybeans aren’t scary for Trump. Despite the pain to farmers and consumers, Americans like his tough line in general, according to a recent story by The Wall Street Journal. Top Congressional Democrats and Republicans have applauded his aggressive line and polls show mistrust of China is growing across party lines, the newspaper reported. China takes about 7%-8% of the U.S. total of exports. The US Trade Representative Office notes the other top export categories to China last year were aircraft ($18 billion), machinery ($14 billion), electrical machinery ($13 billion), optical/medical instruments ($9.8 billion), and vehicles ($9.4 billion). Aerospace is concentrated in two states, California and Washington, which are lost causes for Trump. Remember, the states that gave Trump the electoral victory were Michigan, Wisconsin and Pennsylvania, where he had a total of only about 100,000 votes more than Hilary Clinton, out of 130 million cast. He has the status of incumbent, and short of a recession—given the Democratic opponents so far don’t seem capable of appealing to voters beyond the party’s left leaning base—the 2020 electoral college vote might be closer but the numbers still favor Trump. I’m not endorsing all his policies, just looking at the data. A more plausible path of a Trump defeat next year is a loss in the toss-up states he won. For example, Michigan (16 electoral votes, $3.6 billion to China), is a big automotive state, and Wisconsin (10, $1.7 billion), has a sizeable oilseed and aerospace exports to China. Who knew? Pennsylvania (20, $2.6 billion) exports tend to be resources. An interesting study was done recently by DataTrek about where the next recession might begin. Using data from previous recessions concerning the labor markets in states with particularly cyclical economies and with lower-than-average education attainment, DataTrek concluded that one 3-state area could be the recession vector: Michigan, Ohio and Indiana. Pennsylvania and Wisconsin are right next door. My colleague and resident D.C. expert Tom Block says if he had to pick one important state it’s Ohio, sometimes overlooked as a soybean state. In recent years, no Republican has been elected without it. Where could I be wrong? The trade wars could worsen to the point that the global economic slowdown turns into a recession. Of course, there are many political and economic unknowns that could materialize between now and November 2020. Bottom Line: Short of a recession in the next six to 12 months, which isn’t my view, don’t look for soybeans to trip up Trump. 

• Your Weekly Roadmap

Jun 8, 2019

It was the Fed. Ultimately, that’s who was responsible for last week’s 4.4% lightning quick turnaround rally in U.S. stocks. And just like that, the market is within a few percentage points of the all-time high again. Feels better, doesn’t it? June 4—when Federal Reserve Bank chairman Jerome Powell spoke—just might turn out to be the lynchpin of the year. The Monday before, the market was down nearly 7% from the all-time high set April 30. Then the Powell Put was invoked like a papal bull, the sun came out, and stocks had their best week of the year. In a speech Tuesday, Powell said the bank would “act as appropriate to sustain the expansion.” Translated into Wall Streetese, that means the Fed will cut, and probably relatively soon if the economic numbers don’t get better. Indeed, the numbers Friday were again generally soft. For example, the Labor Department said Friday that hiring activity slowed much more sharply than expected, with employers adding just 75,000 jobs. “Powell said he would do what it takes…and that’s all it took,” notes Frank Gretz, a technical analyst at Wellington Shields. When a market is as stretched as it was Monday, even a hint of good news makes this kind of rally possible. So in the battle for investors’ hearts and minds, on the one hand there is the ongoing U.S. tariff wars with Mexico and China, and the understandable fear that it will get worse. That concern feeds the idea that a global growth slowdown is a hair breath away. Data from the World Bank isn’t particularly encouraging. The same day that Powell spoke, that institution lowered its global growth forecast for 2019 to 2.6% from 2.9%, based on sluggish investment, rising trade barriers, renewed financial stress, and sharper-than-expected slowdowns in several major economies. Also weighing on sentiment is commodity action, with a move last week of crude oil into bear market territory—that is, down 20% or more. Are tariffs really as bad as they sound? Well, they generally are counterproductive, and the effects are felt mainly by consumers, but as Tom Lee points out in his piece beginning on page three, the actual damage numbers don’t add up to something that should put stock prices into a bear market. Billions of dollars worth of potential tariffs wiped out trillions of dollars in stock market capital. Doesn’t that sound a bit disproportionate? Yet, in the end, all this worry—serious as it is—cannot compete with the happier scenario envisioned by investors if the Fed cuts. In terms of its effect on stocks, it’s akin to the tax cuts enacted by Congress in 2017, after which the market began to soar. U.S. Treasuries, with the prospects of lower rates, rallied. The ten-year yield, for example fell to 2.08% from 2.13%. Ironically, the 30-year to ten-year yield curve steepened, the opposite of the classical expected bond market reaction to a slowdown (For more on this see page 3.) The CME Fed futures market was a sight to behold last week. Trading now suggests investors believe there is an 84% rate cut probability next month. A week ago, the rate cut was expected further along in 2019, in September, with a 70% probability. Now the September cut probability is 95% in the futures market. An October cut is 97% likely, the market believes. Just a few weeks ago, the first rate cut was expected in October. And a few months ago, it was January. I continue to think we will see choppy action until Q3. Quote of the Week: From Bloomberg: Texas’s Gas Glut Is So Bad Drillers Are Pumping It Down Wells. Texas drillers may have found a solution to the stubborn natural gas glut that’s forced them to either burn it off into the air, or pay others to take it away. At least five producers, led by EOG Resources Inc., are experimenting with shooting highly-pressurized natural gas into past-their-prime wells that have seen their output slip. The wells are then capped to build up pressure inside with the aim of dislodging any oil still hiding in the rock. Not wasting natural gas and getting more oil: Innovation is a beautiful thing. Questions? Contact Vito J. Racanelli at vito. racanelli@fsinsight. com or 212 293 7137. Or go to