Some Possible Winners If The Trade War Worsens

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Includes: AAPL, AMZN, CHAD, EADSY, EWG, EWQ, EWT, EWU, FB, FM, FXP, GDX, GLD, GOOG, GOOGL, IAU, IDU, IEV, INTC, IYH, IYJ, IYK, LYSCF, MSFT, NFLX, RING, SH, VDC, VNM, YANG, YXI
by: Matt Bohlsen
Summary

The US-China trade war has been getting worse since it began in mid 2018.

The US-China trade war is approaching a critical turning point - Will it get better or worse?

Possible winners if the trade war worsens.

This article first appeared on Trend Investing on June 19, 2019; therefore, all data is as of this date.

For a background, investors can read my previous articles:

My first article linked above had the following "possible winners" from a prolonged trade war. Or at least some sectors least likely to be negatively impacted. Most have done very well the past year as the trade war worsened.

Note: All of the above are not cheaply valued right now with PE ratios at ~20 or above. If the trade war resolves, some of these past years' gains may reverse.

The US-China trade war has been getting worse since it began in mid 2018

Source: Statista

The US-China trade war is approaching a critical turning point - Will it get better or worse?

Despite all the rhetoric and the logic that a trade war hurts both sides, the US and China still continue to disagree and cannot yet manage a deal after more than 1 year of the trade war.

The optimists would say a trade war deal is imminent, and the pessimists would say the trade war will only worsen.

My view initially was that the trade war should resolve as it was in both sides' interests. However, after 1 year of broken promises of a deal, I am now more in the pessimistic camp than the optimistic camp. Both sides to date have been unable to agree on a deal. My view is we have about a 40% chance of a near-term deal, and a 60% chance things will get much worse. I hope I am wrong. Others rate it a 50/50 chance of a deal, but ultimately, only Trump and Xi have a reasonable idea if a deal will soon come.

Possible winners if the trade war worsens

1) Countries where US and other companies relocate to (away from China to avoid paying US tariffs)

According to Nomura, Vietnam is the big winner from the trade war

Source

Source

Vietnam

Naturally, Vietnam is doing well as companies relocate from China to the cheaper labor of Vietnam. Foxconn (who makes Apple (AAPL) iPhones in china) recently made moves to start producing in Vietnam. Samsung (OTC:SSNLF) already set up in Vietnam in 2017. Microsoft (MSFT) has shifted production to Vietnam, and Intel (INTC) has a major microprocessor testing and assembly plant in Vietnam.

Of course, a weaker China may also result in some losses for Vietnam (E.g.: weaker Chinese tourism and imports) but is not showing this to date.

The most popular ETF to invest in Vietnam is:

  • VanEck Vectors Vietnam ETF (VNM). It’s based on the MVIS Vietnam Index, and offers exposure to Vietnamese equities, including both companies that are domiciled in the country as well as those that generate at least 50% of their revenues from the country. The focus is on larger cap Vietnamese stocks.

Taiwan

Taiwan has also been a beneficiary of the trade war to date with companies relocating there. The Taiwan index is quite sensitive to semiconductors so any slowdown in the global supply chain and/or electronics sales does pose risks to Taiwan. For now, I would favor Vietnam.

Investors can access via the iShares MSCI Taiwan ETF (EWT) - Currently, the PE is 14.1.

  • Chile
  • Malaysia
  • Argentina
  • Mexico
  • Bangladesh

Bangladesh is picking up a significant amount of extra business as US firms look to avoid tariffs on Chinese goods, particularly in the garment industry, which comprises 80% of Bangladesh's exports. The Asian Development Bank’s Chief Economist Yasuyuki Sawada stated, “Trade war to generate additional $400 million exports for Bangladesh.”

Investors can access via the db x-trackers MSCI Bangladesh IM TRN Ind (XBAN.F) via the Frankfurt Stock Exchange.

India (at risk from US tariffs, but benefits from a shift to made in India)

Foxconn, which supplies Apple, is now gearing up iPhone X production in India. Note that, on June 1, the BBC reported: "US ends special trade treatment for India amid tariff dispute." So, probably not ideal just yet to enter India. The PE is not cheap at 21.1 due to India's high GDP of ~7.3% forecast in 2019.

Source: CNBC and The Economist Intelligence Unit

Another option to gain broad frontier markets exposure is the iShares MSCI Frontier 100 ETF (FM). It currently has exposure to Kuwait (26%), Vietnam (15%), Argentina (10%), Morocco (8%), Kenya (8%), Romania (6.5%), Bahrain (6.4%), Bangladesh (6.2%) etc., and trades on a PE of 11.7.

2) Countries and goods where China may use to replace goods sourced from the US

Europe - France, Germany, and UK - CNBC reported that a recent Barclays report stated France, Germany, and the UK could be beneficiaries of the trade war worsening, as both US and China turn to other large trading partners instead.

Investors can access via the iShares MSCI Germany ETF (EWG) (PE 13.9), iShares MSCI France ETF (EWQ) (PE - 17.6), iShares MSCI United Kingdom ETF (EWU) (PE - 15.4), and iShares Europe ETF (IEV) (PE - 15.8).

My only small concern is President Trump is considering hitting European auto makers with tariffs next. Also, the UK is still being impacted by the Brexit debate. So, I would hold off on the above European ETFs for now.

The top seven tariffed imports from the U.S. to China are soybeans, gold, copper waste, paper waste, liquefied natural gas, cotton and liquefied propane.

  • Brazil and Argentina soybeans companies.
  • Germany, Spain, Denmark, and Russian pork companies.
  • Airbus [FR: AIR](OTCPK:EADSY) (if China stops buying from Boeing (NYSE:BA)) - Airbus looks attractive right now on a 2019 PE of 21.6 (2020 PE of 16.6). China has a new aircraft maker (COMAC) that it hopes can replace their reliance of foreigner manufacturers.

3) Non-Chinese rare earth exporters - Assumes China bans rare earth exports to the US

  • Lynas Corporation [ASX:LYC] (OTCPK:LYSCF) is the only non-Chinese complete rare earth exporter. If China bans rare earths exports to the US Lynas could be a big winner.

4) Short China ETFs

Four short (inverse) China ETFs are:

  • Direxion Daily CSI 300 China A Share Bear 1X Shares (CHAD).
  • Direxion Daily China 3x Bear Shares (YANG).
  • ProShares UltraShort China 50 (FXP).
  • ProShares Short FTSE China 50 (YXI)

Investors who don't mind trying a short-term high risk play could bet on the Direxion Daily China 3x Bear Shares.

Note: A short US ETF is ProShares Short S&P 500 (SH).

5) Cash and gold or maybe safe haven currencies (JPY or CHF)

Cash is usually the safest asset, and gold can perform well in bad times but does not always do that. The physical gold ETFs will fluctuate based on the gold price movements, and the gold miner ETFs on the gold miners' performance, the latter being more risky.

  • Physical gold ETFs - SPDR Gold Trust ETF (GLD) or iShares Gold Trust ETF (IAU).
  • Gold miner ETFs - iShares MSCI Global Gold Miners ETF (RING) or VanEck Vectors Gold Miners ETF (GDX).

Currencies that can do well in bad times are the Japanese Yen (JPY) and the Swiss Franc (CHF).

Risks

  • The trade war may be resolved. The stocks/funds in this article are selected to do well if the trade war worsens.
  • If global growth deteriorates badly from a worsening trade war, there will be very few winners and many losers. A global recession may hurt all stocks and funds. The exceptions being short/inverse funds (noting however that they usually lose value over time if nothing happens).
  • Fraud - "Chinese goods fraudulently labeled “Made in Vietnam”. China may find ways to still export goods to the US and avoid tariffs.
  • "Knocking down” a product into its component parts and reassembling them outside China. A similar strategy to the above dot point.
  • Liquidity risk - Be sure to check the liquidity as some smaller country ETFs can have low trading volumes.
  • Sovereign risk and currency risks.
  • The usual stock market risks.

Further reading

Conclusion

I currently rate the chances of the trade war worsening at 60% and of a short-term deal at 40%.

Should the trade war worsen, I favor investments in cash, gold, some US domestic sectors (utilities, health and aged care, consumer staples, manufacturing), countries likely to benefit from companies leaving China (Vietnam, Bangladesh, frontiers index), Airbus (as China snubs Boeing), Lynas Corporation (if China bans rare earth exports to the US), non-US soybean and pork companies, short/inverse China ETFs, gold, cash and flight to safety currencies (JPY, CHF).

As usual, I am happy to get ideas from readers, and all comments are welcome.

Disclosure: I am/we are long GOOG, FB, LYNAS CORPORATION [ASX:LYC]. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: The information in this article is general in nature and should not be relied upon as personal financial advice.