Want to Trade War-Proof Stocks? Ways to Aim for Tariff Protection

As trade war fears heat up between the U.S. and some of its major trading partners, some investors may be looking for tariff protection. Here are some things to consider as you aim for a “trade-war-proof” portfolio.

https://tickertapecdn.tdameritrade.com/assets/images/pages/md/Trade war stocks: ways to tariff-proof your portfolio
5 min read
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Key Takeaways

  • E-commerce stocks tend to concentrate their business into a single geography, which can make them less susceptible to trade issues
  • Consider “going granular” with regional banks, domestic airlines, or health care stocks

  • Municipal bonds can be another way to shift a portfolio away from trade-related volatility

There are ways to batten down the hatches and possibly get some tariff protection. U.S. Treasuries are one popular option, but not the only choice. Some market experts suggest a look at stocks, sectors, and fixed income investments not as exposed to trade war impact.

“If you’re looking for trade-war proof plays, you’d have to think of areas where there is little, if any, international exposure,” said Patrick O’Hare, Chief Market Analyst at Briefing.com.

That’s what some investors are doing.

“We’re taking a look at companies that are focused on the internal portions of our country, earning most of their money in the U.S.,” said Dryden Pence, Chief Investment Officer at Pence Wealth Management.

Major companies in the U.S. e-commerce, entertainment, and payments sectors come to mind, Pence added, and are among the more “U.S.-centric” areas he’s looking at. For instance, the big U.S. e-commerce companies tend to do most of their business with U.S. consumers, so they might have a bit of an umbrella protecting them from the downpour of trade battles, he said.

This doesn’t mean, necessarily, that you can just buy these types of stocks and stay dry. They’ll likely be exposed to volatility associated with the trade issues, and many of them are popular in exchange-traded funds (ETFs), meaning they’ll probably drop with other stocks in a market shellacking.

However, that can sometimes make them seem like a bit of a bargain, Pence said. He increased his cash and short-term fixed income holdings recently to address volatility and have the dry powder to eventually make purchases if he sees a good deal.

One risk of focusing on stocks like the ones Pence has in mind could be a reduction in overall U.S. consumer demand. Some data say there can be a reduction in demand if prices go up due to tariffs. The rise in prices could be mitigated, however, if some companies facing tariffs in a certain country decide to move their operations to a country unaffected by tariffs. 

Others suggest focusing on certain sectors.

“(Tariffs) would likely bring the utilities sector into play and certain parts of the health care—for instance, hospital and managed care companies—and regional banks sectors,” O’Hare said.

O’Hare added, however, that utility stocks already seem “richly valued.” Buying utilities because they’re 100% domestic is “a tired idea,” O’Hare said, adding that “when skies clear, they can fall hard.”

Regional banks make most of their loans within the U.S., potentially shielding them from overseas turbulence, O’Hare said. They might also benefit from a steep drop in mortgage rates that could propel the housing market. O’Hare called regional banks a possible “place to hide,” but warned that if trade issues really start to hurt the economy, regional banks could suffer along with the rest of the Financial sector.

Another place that seemed to get some traction when trade issues first cropped up last year was small-caps, which include many of those regional banks. The Russell 2000 Index (RUT) of small-caps reached record highs by mid-2018 amid thoughts that smaller U.S. stocks tend to have more insulation from foreign customers.

However, when trade tensions reached a boiling point in May 2019, the RUT got beaten down with the rest of the market, falling about 6% during the month. Over the same period, the large-cap S&P 500 Index (SPX) fell about 3%.

Going Granular For Potential Tariff Protection

O’Hare believes investors looking for a trade shield might have to go granular, looking at individual companies rather than funds. A company like Southwest Airlines (LUV), for instance, could have some protection from overseas risk because its routes are overwhelmingly domestic, he noted. However, an investor who bought the company’s stock as part of a fund or ETF containing other airline names might face pressure from airlines in the fund with international exposure.

The Health Care sector could be another one where investors might want to consider granularity, O’Hare said. Yes, some of the hospital companies might be insulated from global trade, but that’s not the case for most pharmaceutical firms.

“You almost have to think stock-specific,” O’Hare said.

For an investor concerned about a company’s potential exposure to trade, buying a corporate bond might provide some defense. The risk with corporate bonds is the chance of default, though buying a bond fund instead of a single one can often provide some protection against that, depending on how broadly diversified the underlying portfolio of bonds is.

Municipal bonds issued by states, cities, counties or other governmental entities are another idea, especially with the U.S. economy still growing above 3% in Q1. These have default risk, but are exempt from federal taxes and most state and local taxes, maybe giving them an advantage over corporate bonds for some investors. That said,  interest income and capital gains on municipal securities may be subject to the Alternative Minimum Tax.

In uncertain times, gold is another investment some people start to look at. Gold surged recently, climbing to three-month highs above $1,330 an ounce as of early June 2019. One thing to consider, however, is that gold might be approaching thin air at these levels. It hasn’t hit $1,400 since 2013.

Places for Cash, Not Including Under the Mattress

That takes us back to Treasuries and cash, which aren’t necessarily exciting but often give solid protection from trade turbulence. If you’re worried about volatility in the stock market, maybe consider putting some cash into Treasuries or CDs, where volatility is pretty much a non-factor. In all likelihood, that won’t be the case for stocks anytime soon.

“Trade wars eventually end, but meanwhile there will be a lot of volatility now and throughout the summer,” Pence warned.

Treasuries are often seen as the ultimate “defensive” investment, mainly because the U.S. government isn’t likely to ever default on its debt. However, the possibility theoretically exists, and the U.S. debt ceiling expired in March.

It’s also not necessarily “safe” to buy a product like a 10-year Treasury note if the yield is near the rate of inflation. For a potentially higher yield, it might be worth checking CD rates.

O’Hare says investors interested in Treasuries should consider going short-term so their money isn’t locked up for years if the trade issues get resolved. Unusually, there’s no yield penalty now for taking the short-term approach, he added, saying “You can get more yield on a three-month bill than a 10-year.”

He added that if trade winds keep roaring, investors might want to keep things in perspective about how much return they can achieve in the near term, wherever they put their money.

In other words, maybe the idea isn’t to look for big potential gains, but instead consider stocks and sectors that would be less subject to dramatic losses in an escalating trade war, O’Hare said. Sometimes relative strength can be defined by which stocks go down the least, rather than which ones go up the most.

“Ideally you’re looking for a return on capital, but in a case like this even a return of capital can be appealing,” O’Hare said.


Key Takeaways

  • E-commerce stocks tend to concentrate their business into a single geography, which can make them less susceptible to trade issues
  • Consider “going granular” with regional banks, domestic airlines, or health care stocks

  • Municipal bonds can be another way to shift a portfolio away from trade-related volatility
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