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Over the past few months, tensions have risen in a fierce standoff involving the US, Europe and China as a global trade war has edged closer amidst a global trend towards protectionism.
Donald Trump, the US President and chief driver of ‘America First!’ famously said that ‘Trade Wars are good and easy to win’. The US then followed up the tough rhetoric by surprising the world and announcing its own tariffs on steel and aluminium imports, hurting both China and Germany.
So what are trade wars, how can traders and investors prepare themselves for the road ahead and what opportunities might exist?
First, lets deal with the basics.
What is a trade war?
A trade war refers to a situation when one or more countries begin to create either fiscal or physical barriers for trade against one another, resulting in a move towards self-sufficiency within one’s country – this is most aptly characterised as protectionism.
For example, let’s say the US imposes expensive tariffs on copper imports from Australia. This makes it more expensive for US firms to import copper from Australia, forcing US firms to look more locally for its copper needs and reducing demand for Australian copper. The alternative to this would be for Australian firms to lower their own copper prices for US consumers to consume some of the extra tariff costs, which hurts their own profit margins. So as you can see, raising tariffs is generally bad news for the country where the tariffs are imposed. That’s why they would normally retaliate by raising tariffs on products that are in high demand for US consumers. This is how trade wars are born.
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How can trade wars impact the financial markets?
Trade Wars can have a huge impact on financial markets. For example, when the US announced tariffs on aluminium and steel imports, this triggered a sharp 2% fall in the DAX – Germany’s benchmark stock index and home to many of the country’s car exporters. Similar sharp falls were seen in Asia trade, where several of the world’s largest steel exporters are listed.
How can traders take advantage of the market moves?
Trade Wars can have an impact on the markets not just by the imposition of tariffs, but by the mere speculation of them as well. Investors hate uncertainty and so if there’s a fear that trade wars could escalate, it’s more than likely to have a negative impact on the markets. If these fears prove unfounded, then there could also be a relief rally. The important thing to note is that trade wars tend to trigger both upside and downside market volatility.
You can take advantage of these falls by trading CFDs, which enable you to go short and take advantage of falling market prices by speculating that prices will go down. Equally, you can go long or trade prices on the belief that they will rise in value.
For example, if you believe that China will respond to Trump’s tariffs on steel by raising their own tariffs on agricultural products, such as soybean, which is a key US export, then you could look to take advantage of this belief with a CFD trade. If you are correct, hiking tariffs on soybean could result in a price fall in soybean as demand is sapped by the increased costs of purchase. So you could look to sell a soybean CFD and profit if prices were to fall below your open price. However, if you are wrong and prices rise, you would lose money for every price move above your opening level.
CFDs are a leveraged product and are therefore high risk, with the potential to lose all your invested funds. Please understand the risks first before trading.
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Richard started the Good Broker Guide in 2015 and has been a broker for 20 years most recently at Investors Intelligence and previously acting as multi asset derivatives broker at MF Global (Man Financial). Richard started his career working as a private client stockbroker at Walker Crips and Phillip Securities (now King and Shaxson) after interning on the NYMEX oil trading floor in New York and London IPE in 2000.