Last Friday, a “flash crash” hit Chinese stocks trading on U.S. exchanges. China’s $440 billion equivalent to Amazon.com Inc. (AMZN), Alibaba Group Holding Ltd. (BABA), dropped 7% in just four minutes.
Those stocks tried to recover early in the week, but are now back at the levels hit last Friday.
This quick drop into despair and then modest recovery were caused by the same thing that has led to most of the quick market drops we’ve seen since early 2018: the trade dispute with China.
This time, a leak from the White House had traders running for the hills.
Except the leak, no doubt intentional, wasn’t meant for the markets. As a trader, it’s easy to get so focused on the short- term action of candlestick charts or news headlines that you forget the bigger picture.
So, let’s take a step back. This leak, that was picked up by Bloomberg News last week, has already been walked back by the White House.
It’s just another of the many give-and-take negotiating ploys that we’ll see in the coming months. And we’ll be able to use these market moves to make money.
The Negotiating Ploy That Sunk Markets
Since it started in January, 2018, the current tit-for-tat tariff dispute with China has been by far the biggest source of uncertainty in the market.
Every tweet, every announcement, even the smallest leak has sent the markets skyward with optimism, or downward in despair.
Last Friday, it happened again, when reports came out that the Trump Administration was considering forcing Chinese companies to delist from U.S. stock exchanges, and preventing U.S. government pension funds from investing in China.
As you can imagine, Chinese stocks trading here in America plunged when this news came out. For example, the orange line in this chart is Alibaba:
As you can see, BABA dropped like a stone just after 11am. The broader market, represented by the Dow in blue, also dipped, but by an order of magnitude less.
America is the largest market of invested capital in the world – about five times larger than China’s. So the consequences of losing access to these resources would be huge for Chinese companies. It would mean losing access to the American capital market, worth more than $30 trillion.
More than 200 Chinese companies are listed on American exchanges, and they have raised hundreds of billions of dollars (Alibaba alone raised $25 billion). Cutting off access to all that money would be catastrophic for those companies.
And that’s without considering smaller Chinese companies looking to finance their growth through IPOs, who would have to list elsewhere, at lower prices.
Which is exactly why I have no doubt that this leak from the White House was intentional…
And aimed not at traders, but at China’s trade negotiators.
The Financial Arsenals of These Adversries are Devastating
Friday’s “flash crash” in Chinese stocks was just a taste of what China would see if President Trump cut off China’s access to U.S. capital markets.
And that’s exactly why these ideas were leaked. It’s a warning shot to China to keep these negotiations going.
But let’s be clear, it’s very unlikely that America would ever do anything like what the leaks suggest. It’s a last resort, a “nuclear option” – something with consequences so devastating for the adversary, it would leave them with no option but to respond in kind.
It’s a bit similar to the Cold War military doctrine known as “mutually assured destruction.” This was the idea that the U.S., the Soviet Union, and China would never use nuclear weapons against each other, because the others would use theirs against the attacker. Everyone would be destroyed, and no one would win.
So using nuclear weapons would not achieve victory, the thinking went. But having them made sure you had a seat at the table, and respect from the other nuclear powers.
Something similar is going on here. See, for years now, there’s been talk about China’s “nuclear option” against America’s economy: the more than $1.11 trillion of U.S. government debt owned by China.
That’s more than a quarter of all Treasury bills, bonds, and notes.
If China were to sell these Treasurys on the open market, the consequences for the U.S. would be catastrophic. As bond prices plummeted toward zero, yields would skyrocket (because they move inversely to price).
And consumer interest rates are closely tied to Treasury yield, so interest rates would also skyrocket. A deep recession (or worse) wouldn’t be far behind.
But the Chinese government won’t do that unless it’s desperate. Selling $1.11 trillion worth of Treasurys – more than a quarter of all of them – would flood the market, dropping the price and ensuring that China got far, far less $1.11 trillion for them.
And of course, as is always the case, if China used it’s “nuclear option,” America would use ours.
Which is precisely why Trump’s trade negotiators leaked these reports to the press in the first place. It’s a reminder to the Chinese government that America has a “nuclear option” too.
It’s a regular negotiating tactic, nothing more.
For us traders, it shows that the markets continue to be extremely sensitive to anything relating to tariffs. The “trade can” may have been kicked down the road when China and the U.S. began negotiating behind closed doors, but the uncertainty surrounding trade continues to be the biggest storm cloud hanging over markets.
Expect more leaks, and more over-reactions from the market. Keep your trades on a short leash, get in and get out quickly, and always set your goals and acceptable risks ahead of time.
The market volatility will continue. As long as you play it right, that could mean more profits for you. And to help Stealth Profits Trader subscribers play the market right, I provide my expert analysis and guided trade recommendations – in which I provided subscribers specific trade instructions, including limit prices, protective stops, and profit targets – every single week! With my help, subscribers have amassed incredible profits faster than they ever thought possible. Click here to see their stories, and how you could soon follow in their footsteps.
Great trading and God bless you,
D.R. Barton, Jr.