MAD: Mutual Assured Destruction

In the lexicon of warfare, what's taking place between the U.S. and China in this trade war is the economic equivalent of self obliteration. And in classic GOP tradition, Trump's trade war has absolutely NO EXIT STRATEGY.

Let's go back one week: The presumed tariff on China last Tuesday prior to "Liberation Day" was 20%. Then on Wednesday, Trump massively upped the ante with an additive 34% tariff for a combined 54%. On Friday, China swiftly retaliated with an additional 34% tariff on U.S. goods. I said last Friday that it was only a matter of time before Trump upped the ante again. But come Monday morning there was no retaliation, so stocks staged a massive rally off of the morning lows which is continuing on Tuesday. However late on Monday, Trump pulled the trigger and said that China has until COB Tuesday to capitulate and reduce their most recent tariff or he will DOUBLE their tariff on April 9th which is when all reciprocal tariffs go into effect. China wasted no time in responding on Monday night (Tuesday morning China).

“The U.S. threat to escalate tariffs on China is a mistake on top of a mistake,” the statement said, according to a CNBC translation. “China will never accept it. If the U.S. insists on its own way, China will fight to the end.”

Which means that by the end of this week, the U.S. tariff on China will have gone from 20% one week ago to a massive 104% in one week. If you had told anyone a week ago that tariffs on China were going to go from 20% to 104% in one week, they would have agreed this market is uninvestable. But here we are Tuesday morning and markets are rallying as bulls find ANY reason to buy stocks deja vu of last week.

In warfare parlance, this brinkmanship is called "Mutual Assured Destruction". Trump's team, which is LOADED with China hawks, clearly wants to implode China at all cost; however they forget that U.S. markets are the most overvalued on the planet and U.S. households are far more leveraged to the stock market than Chinese households. In addition, they forget that this tariff will massively increase costs for U.S. consumers because many of the goods being tariffed are not even made in the U.S. For their part, China believes the U.S. is a weak nation that will capitulate when the stock market collapses. In addition, China is far further along in their own recession than the U.S., so they have far more stimulus measures already in place to buffer the economic downside. Whereas the U.S. has ZERO stimulus buffer of any kind.

More importantly, there is plenty of scope for both sides to implode and take down the entire world with them.

China has been slowly and steadily moving towards the nuclear option which is a currency devaluation. It appears that most of today's bulls don't remember the August 2015 Yuan devaluation and how it imploded global markets.

"China devalued the yuan back in 2015 to respond to an economic slowdown and boost exports. That move suprised the markets and sent them into risk-off as people feared that China's economy was worse than expected. The US stock market reacted by falling more than 10% back then"

Here is where it gets interesting from a markets perspective.

Shorts are right now covering ahead of this second week in a row massive trade war escalation. Recall that shorts covered last week as well ahead of that Wednesday COB escalation so this is all deja vu. Once again, bulls are saying they don't think Trump will pull the trigger. But unfortunately, this time Trump has already boxed himself in to a specific escalation amount and timeline for escalation, which makes this even more risky than last week, when bulls had no idea what to expect.

So, deja vu of last week, this short covering can continue until Trump escalates at COB Wednesday at the same time he imposes massive reciprocal tariffs on the rest of the world. However, when this short covering ends, then bulls are facing another crash. Looking at the average U.S. stock below, I believe that the pandemic outcome (SPX -35%) is now the BEST CASE scenario. Whereas the Lehman scenario which is also shown, would indicate a further -20% decline to -55% and a final low that is months away. But don't take my word for it, Goldman Sachs just said the same thing TODAY:

"Goldman Sachs warns the equity sell-off has the potential to turn into a cyclical bear market. Cyclical bear markets typically last two years and take five years to return to their starting point"

One thing we know for certain, is that we have NOT seen capitulation from investors who universally agree that everyone is bearish therefore it's contrarian to be bullish.