Investors scramble to position for a trade war

The sudden escalation of trade tensions on Friday has raised the temperature for global markets as investors rush to position for the potential implications. In FX, the biggest movers have been Asian emerging market currencies leveraged to Chinese demand.

President Trump’s new tariffs on Chinese products announced Friday saw an immediate response from Beijing, which threatened a menu of US products in equal measure. The US announcement also touted a further set of measures should China choose to respond in kind, though we don’t know the shape of this follow-on threat. We’ll likely know very quickly this week.

In an eventual trade war, both countries have much to lose and China has more leverage than is immediately apparent from the tallies of total US exports into China versus Chinese exports to the US (China exports more than three times to the US versus what it imports). 

In response to Trump’s move and China’s response, commodities markets were shaken, risk appetite softened into the weekly close, and FX traders scrambled to consider the implications after having already being buffeted by the Federal Open Market Committee and European Central Bank meetings last week. As we point out below in today’s chart focus, the Asian EMs have moved the most.

The euro was administered a double whammy late last week. First, after the market positioned for a slightly hawkish meeting, the euro suffered an ugly downdraft as Draghi delivered maximum dovishness (talking taper but also pushing current rate guidance deep into 2019 with conditionality). But a significant driver of euro weakness has also been down to the unanticipated German political developments over the last week. Chancellor Angela Merkel faces a mutiny from her CSU coalition partner, whose leader, Horst Seehofer, has given her two weeks to come up with a deal with other EU countries on dealing with asylum seekers at Germany’s southern border. This is coming to a head even amidst an already intense focus on next week’s EU Council summit.

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It’s a busy week for ad hoc developments on the trade war and EU political fronts. On the economic calendar, we have a Norges Bank meeting and Swiss National Bank meeting on Thursday, and the major central bank heads are in Sintra, Portugal for a conference mid-week. At the end of the week, an Opec meeting on Friday is guaranteed to be contentious given Saudi and Iranian sending opposing signals on production increases. Saturday sees a follow-on “Nopec” meeting with other major oil exporters, chiefly Russia.

Chart: USDTHB

The Thai baht saw a huge acceleration to the downside on Friday, as the market considers the implications for Asian EM economies that are leveraged to demand from China, while the previous focus was perhaps on China’s strong yuan policy. There may be an element of speculation as well in these currencies that China could abandon its strong FX policy if trade tensions worsen materially.