Ignore Trade War Fears, US Stocks Overvalued

US stocks are overpriced and selling overpriced assets is a good discipline, says Morningstar Investment Management - regardless of macro events

Cyrique Bourbon 20 August, 2018 | 2:14PM
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With the Trump administration starting a purported trade war with China on July 5, questions have grown into fears over how tariffs may affect the global economy. However, we think US stocks are overpriced now and believe selling overpriced assets is a good discipline. But selling should not be driven by fears, macro events, and the like. In fact, over the long run, investors usually perform better when they ignore these market tremors and stay focused on their financial goals.

How Likely is a Nasty Trade War?

Investors seem spooked by the recently announced tariffs and the possibility that all of this may lead to an ugly trade war. The subject has clearly grabbed attention and headlines.

Google Searches for 'Trade War' and 'Tariffs' Have Spiked in Recent Months


Google searches in the US for "trade war" and "tariffs" spiked in recent months as the Trump administration began an effort to renegotiate terms with its trade partners, starting with tariffs on steel and aluminum announced in March. That move was aimed at China, but also impacted many other countries.

Unsurprisingly, China prepared countermeasures by proposing tariffs on imports of American soybeans, sending commodity prices tumbling. Mexico and Canada faced challenges as the US administration sought to renegotiate the North American Free Trade Agreement. European countries confronted the US over tariff threats on autos. Retaliatory measures from all sides raised the probability of an extended conflict that may hamper global economic growth.

We don't believe that the announced tariffs present a major threat to global economies. The proposed tariffs are significant and would affect 23% of US imports, primarily hitting auto imports. However, we believe the US economy, in particular, is large enough and domestically oriented enough to not feel too much pain from current measures.

Of course, trade tensions and tariffs could become more severe and, at worst, tip the global economy toward a recession. But getting too focused on a worst-case scenario ignores the possibility that tensions cool, compromise is reached, and investors go back to focusing on strong earnings. It wasn't too long ago that presumed nuclear conflict on the Korean peninsula sent tremors through global markets, but that seems to have been laid to rest for now. 

Should Investors React?

The short answer: no. We focus on long-term valuations, the true and durable value of an asset class, rather than its market price. Having a long-term perspective makes the next turn in the trade spat less concerning to us. Instead, we ask, "How might this affect fundamentals over the next several years?"

Investors who trade on emotion and market reactions are more likely to sell when markets are low and buy when they're high. We seek to do the opposite, in part by sticking to our principled approach to investing, which is designed to keep us rational in a sometimes irrational world.

Because we're defensive now, we are prepared to be buyers if this or other concerns provide an attractive buying opportunity. That point isn’t here yet. The effects of trade-war fears on US stocks have been minimal to date, with the post-crisis rally still up 15.3% on average for each of the last eight years.

This long bull run has made US stocks pricey, we believe, so we're expecting below-average returns from US stocks over the next five to 10 years. But that does not mean we would ever sell stocks—or any asset—based solely on newspaper headlines, the macro view, or fears. In fact, if anything, fear-based price declines alert us to possible buying opportunities.

What Should You Do About Macro Events?

Perhaps the easiest thing to do is to do nothing. Ignore the headlines and stay focused on the long term. But really the best investment advice is saving advice: develop a plan to reach your financial goals, then stick to it. When you get an itch to do something different, try saving more – that's probably the best move to improve the chances of an investor reaching their goals.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

Cyrique Bourbon  is multi-asset portfolio manager for Morningstar Investment Management EMEA

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