Capital Idea: Market wrap, 13th October

• Fresh trade war risks hit a market primed for a shock

• Wall Street and oil prices plunge, gold bounces back

• Traders await release of US data, US earnings season

Nothing else matters in the markets until this fresh stand off between the US and China simmers down again. The markets have looked primed for a shock for a while. The hallmarks of a market vulnerable to a sharp drawdown were there. Low volatility, high valuations, stretched positioning, complacency. This was hardly inevitable. But when markets get this way, they don’t respond to negative surprises kindly. As a result, Wall Street plunged as risk appetite turned, with tech stocks exposed to rare earth curbs underperforming. The US Dollar retraced against G4 counterparts but growth currencies, especially those exposed to China, tumbled. Oil prices also sank more than 5%, hitting levels not seen since the last trade war flare up. Meanwhile, gold bounced back towards record highs.

(Source: Trading View)
(Past performance is not a reliable indicator of future results)

The latest flare up shows that trade risks, while often ignored or forgotten, are always present. What makes this flare up interesting though is it was basically provoked by China. A ban on rare earths, while not responded to immediately by the markets when it was announced, is a big shot across the bow from China. In fact, it was the ban on rare earth exports that all but forced the Trump administration to back off its mega tariff threats after Liberation Day. The weird thing is that China isn’t retaliating to anything obvious, or at least unusual. While it could be a misstep and a fumble, gut feel suggests China would have known the US would have responded this way. So why did they do it and for what ends?

Determining the motivation is useful but the biggest issue for the market now is whether tit for tat tariff threats start again and whether a higher rate – 100% across the board – of tariffs will be implemented on November 1 by the US. One could safely argue this is brinkmanship and we are back to the “TACO trade”, meaning the theatre will be short-lived. Even if it is, it could come with a pain that goes beyond the pullback of an overbought and expensive stock market. As we saw after the Liberation Day tariffs, while many were unwound or put on pause eventually, it did result in a material (albeit fairly short) slowdown. This fresh tit-for-tat reintroduces a level of uncertainty that could impact consumption, investment and employment decisions, slowing growth for a period – something that has to be discounted in asset prices.

As investors work through this new chapter in the US-China rivalry, there’ll be other events in the week ahead that will need to be tackled and digested. The US Government shutdown is dragging on and the markets are getting itchy for the data required to inform US Fed policy expectations. US earnings season also picks up in earnest, with the banks, as always, the first cabs off the rank. Before this new trade induced volatility, the main focuses for the markets were when and how deeply the Fed would cut rates and whether US tech stocks would continue to deliver gangbuster earnings. Although both issues may be drowned out this week by trade tensions.

Warm regards,