Volatility has come back in force, witnessed by the continued slide in the major U.S. equity indexes. The iconic Dow Jones Industrial Average (down 6.3% in May) has slid for six weeks in a row now, its longest losing streak in nearly 10 years. The culprits seem obvious, as President Trump wields the tariffs weapon with abandon. His latest threat is to place tariffs on imports from Mexico if it doesn’t tighten its southern border against immigrants.

This is a new tactic, and we wonder where else the administration will use tariffs to achieve its policy ends. We wouldn’t be surprised if tariffs are used to bend NATO countries to President Trump’s will to see greater monetary commitment to the old alliance. Tariffs are clearly having an impact on the business plans of your typical business in the U.S..

A recent stop at my local bike shop brought the trade sparring down to the consumer level. Most bikes today are imported from China, where labor costs are much lower than the average in the U.S. The bike shop manager had to inform customers that prices were trending up in response to the new, but hopefully short-term, tariffs.

From a broader sense, the uncertainty surrounding the future trade relationship with China is causing delays in new capital deployment. The ISM, a measure of business investment, fell slightly last month, although remains in positive territory. Overall, factories are on track for their weakest showing this year since 2016.

Sectors most impacted during the month were, not surprisingly, perceived to be on the losing end of the trade war. Technology companies that either manufacture in China or sell products there were hit hard during the month. No surprise, big tech names like Apple and its suppliers lost significant value. Energy shares were also heavily sold during May, as investors feared slowing growth in China would lead to slack demand for oil and related products. On the positive side, shares of more defensive companies in areas such as electric utilities and real estate investment trusts (no tariff exposure) performed relatively better.

This year is likely to be dominated by the trade negotiations and their impact on economic output. In our opinion, these challenges are here to stay for now. Looking forward, the administration is likely to consider the impact these actions will have on President Trump’s election hopes, a strong incentive to resolve the disputes. China for its part is fearful the trade battle will lead to slower growth, an unacceptable state of affairs for its highly leveraged institutions.

So, the stakes are high, leaving us still hopeful for a late-year resolution. Notably, the consumer still rules economic growth in the U.S. Historically low unemployment and healthy wage growth are keeping the domestic growth engine purring along for now. So, while volatility is likely to be the constant in the market today, there are reasons to feel positive that healthy gains are still likely for 2019. As active managers, we see more dislocations taking place, creating more opportunities to continue our recent index-beating performance.

 

Christopher O’Keefe
CFA Lead Manager, Logan Dividend Performers,
Dividend Performers Balanced