The stock markets were unhappy Friday when President Donald Trump moved to impose tariffs onsteel and aluminum imports. Trump even tweeted “trade wars are good, and easy to win.”

Not so fast, says Ben Inker, head of asset allocation forGrantham Mayo Van Otterloo & Co. (GMO).

“He is wrong, and beyond the simple fact of his wrongness, atrade war is probably more dangerous for investors at this timethan at any other time in recent history given the implications itwould have for inflation, monetary policy, and economic growth,”said the GMO board member in a note to investors on Friday.

“The only positive from the tariffs is that it is a windfallprofit increase for U.S. producers of steel and aluminum, which isat least positive for them,” he explained.

“It is unlikely to cause any material increase in U.S. capacityto produce steel and aluminum, and therefore unlikely to lead tomany additional jobs even in those sectors,” Inker said.

How bad could the consequences be?

“The negatives are much more significant,” the asset specialistwrote. “I believe these tariffs on their own will push inflationhigher, and higher inflation is a threat to the valuations of moreor less all financial assets today.”

Other consequences of Trump's moves are that a trade war wouldboost prices on a broad swath of goods and services, while loweringaggregate global demand.

“This pushes us in the direction of not just inflation butstagflation, where both valuations and corporate cash flow would beunder pressure,” Inker explained.

While a significant inflation problem could be the worst thingto happen to a balanced portfolio, producing losses on the order of40 percent, he adds, a global trade war would “be exactly the kindof economic event that could foreseeably lead to losses of thatmagnitude.”

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Job Losses

How are jobs lost in a trade war?

“There are hugely more U.S. workers involved in making theproducts that use steel and aluminum than there are U.S. workersdirectly in those sectors,” according to the GMO board member, “andthese tariffs, and the resulting higher domestic prices for steeland aluminum relative to prices in the rest of the world, suddenlymake the U.S. a less attractive place to manufacture anything whichuses those inputs.”

While it's true that that the manufacturing sector does notrepresent a large percentage of total U.S. jobs, tariffs likelywould “increase U.S. inflation, decrease growth, and decrease ourexport competitiveness,” he adds. “And this ignores the impact of(what is extremely likely to be) retaliatory measures by U.S. tradepartners.”

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Big Fear

The real danger of Trump's tariffs is if they create afull-blown trade war. “It can take years for companies to build outtheir global supply chains. With the stroke of a pen, politicalleaders can make those supply chains instantly far more expensive,”Inker said.

Without an easily available replacement for foreign supplies,tariffs lead to large price hikes. That then would “force the handof the Federal Reserve to raise rates more aggressively than iscurrently planned, without any corresponding positive such as wouldcome from an unexpectedly strong economy,” he explained.

A trade war might prompt investors to shorten their timehorizons, “which is a negative for long-duration risky assets suchas equities,” Inker wrote.

“If one wanted to imagine a scenario in which valuations fallnot merely to long-term historical averages but right through ontothe other side, a global trade war is a strong candidate,” hesaid.

Despite the risks mentioned above, GMO is not adjusting itsportfolios, as it has already positioned them for otherfactors—such as the inflation threat.

“In our multi-asset strategies generally, we have lower thannormal weights in risky assets, less than normal duration, and ownsignificant amounts of [Treasury inflation-protected securities],which provide at least some inflation protection. While we by nomeans welcome these tariffs, we are comfortable with our currentpositioning given them,” Inker said.

He sees the unilateral tariffs as being worse for U.S. companiesthan for the rest of the world.

“A full-blown global trade war would be a different matter, andwe would expect emerging companies as the suppliers to thedeveloped world to be particularly vulnerable,” he added.

Nobody wins a trade war. That means investors “would lose alongwith everyone else” if one were to take place, Inker says.

From: ThinkAdvisor