U.S. Tariff Hike: Market Impact on S&P 500 and What It Means for Investors:

Introduction

The U.S. presidential election is now just a month away. Investors are concerned as candidates make uncomfortable economic pledges, including significant corporate tax or tariff increases. Last time, we discussed the potential impact of substantial corporate tax increases on the stock market (if you'd like to review this post, please refer to the following link - U.S. Tax Hike: Market Impact on S&P 500). This time, we will examine how tariff increases could impact the stock market (S&P 500) and what it means for investors.

The past often provides important insights to help us understand the present and future. As Mark Twain once said, "History doesn’t repeat itself, but it often rhymes." With that in mind, let’s first review three major examples of tariff increase and the stock market’s responses.

(1) The Smoot-Hawley Tariff Act of 1930

• In the 1928 election, Republican candidate Herbert Hoover promised protective tariffs for the agricultural sector, which was struggling due to falling crop prices.
• Hoover was elected and took office in March 1929. As rumors spread that Congress would approve the Smoot-Hawley Tariff Act, the stock market crash began on October 28, 1929.
• The Smoot-Hawley Tariff Act was signed into law on June 17, 1930 with retroactive effect to March 13, 1930. 
• The scope of taxed goods gradually expanded to 25,000 items, with average tariffs at around 60%, and some tariffs as high as 400%.
• Countries like Canada, France, and the UK retaliated with their own tariffs.
• The Dow Jones Industrial Average dropped 89% from its 1929 peak to its 1932 low.
• Global trade declined by 66% by 1934.
• While there were multiple causes of the Great Depression, the Smoot-Hawley Tariff Act is considered one of the major contributing factors.

(2) The 2002 Steel Import Tariffs

• On March 20, 2002, President George W. Bush imposed tariffs ranging from 8% to 30% on steel imports from countries like the EU, China, Taiwan, Russia, South Korea, Japan, and Brazil for three years.
• On March 21, 2002, additional tariffs of up to 24% were imposed on Canadian lumber imports.
• The Dow Jones Industrial Average peaked at 10,635.25 on March 19, 2002, one day before the steel tariffs were announced, and then fell until December 4, 2003, when the tariffs were lifted. The Dow dropped by 7.2% over this period, with a final close of 9,873.42 on the day before the tariffs were repealed.
• The S&P 500 dropped from 1,170.29 on March 19, 2002, to 776.77 on October 9, 2002, marking a 33.6% decline in six months. Although it recovered slightly, it fell again to 800.73 by March 11, 2003, representing a 31.6% decline over roughly a year.
• Since the market was already in a downturn due to the dot-com bubble burst starting in 2000, it is difficult to determine how much of the decline was caused by the tariffs. However, it is a fact that the S&P 500, which had recovered by around 20% since September 2001, began to decline sharply again from the day before the steel tariffs were imposed.

(3) The 2018 Tariff Increases

• The Trump administration began imposing tariffs in multiple stages starting in early 2018:
• January 2018: 30-50% tariffs on solar panels and washing machines.
• March 23, 2018: 25% tariff on steel and 10% on aluminum.
• June 1, 2018: Steel and aluminum tariffs extended to Canada, Mexico, and the EU.
• July 6, 2018: 25% tariff on $34 billion worth of Chinese imports.
• August 23, 2018: Additional 25% tariff on $16 billion worth of Chinese imports.
• September 24, 2018: Additional 10% tariff on $200 billion worth of Chinese imports.
• April 24, 2017: Tariffs of up to 24% imposed on Canadian lumber.
• May~December 2019: Tariffs on steel and aluminum for Canada, Mexico, and the EU were repealed.
• The S&P 500 Index fell by 18.2% over 11 months, from 2,872.87 on January 26, 2018, to 2,351.10 on December 24, 2018.
• While the Federal Reserve's four interest rate hikes in 2018 negatively impacted the stock market, a primary driver of these hikes was rising inflation. Tariffs, among other factors, contributed significantly to this inflationary pressure.

Current Tariff Hike Proposal

Having explored historical examples, let's shift our focus to the present. First, we'll summarize the tariff hike proposals put forth by the Republican presidential candidate.

• Universal Basic Tariff: A 10% universal basic tariff on all imports including those from allied nations.
• Tariffs on China: Tariff increase on all Chinese products  to at least 60%.
• Reciprocal Tariffs: Imposition of retaliatory tariffs on imports from countries that impose tariffs on U.S. products, at the same rate.
• Others worth noting: Tariffs on products from companies that create jobs overseas (i.e., a 10% tariff on U.S. companies’ products manufactured abroad and imported back into the U.S.). Tariffs on any country that abandons the U.S. dollar.

Now, let’s examine the latest outlook from investment banks (IBs) regarding the tariff hike pledges for the upcoming election.

IB View on Tariff Hike: Barclays

• U.S. real growth rate could decrease by up to 1.4%.
• S&P 500 companies' net income for 2025 is expected to drop by 3.2%.
• If other countries impose similar retaliatory tariffs, net income may decline by an additional 1.5%.
• Assuming no retaliatory tariffs, the U.S. dollar could strengthen by 3-4%, and long-term U.S. Treasury yields are expected to fall (as the Fed is likely to cut rates more due to lower U.S. GDP growth expectations).
• In the case of China, even if retaliatory tariffs are imposed, the yuan is projected to weaken by around 3%.

IB View on Tariff Hike: Morgan Stanley

• Tariff hikes are expected to lead to increased inflation, with the effects showing up quickly. The Personal Consumption Expenditures (PCE) price index is projected to rise by 0.9% over 12 months. (Note: If PCE increases by 0.9%, the Consumer Price Index (CPI) is likely to rise by more than 1.0%.)
• The reduction in investment and consumption is expected to offset and exceed the effects of lower imports, resulting in a 1.4% reduction in GDP growth over several quarters. (This doesn't mean negative growth, but rather a 1.4% reduction from the GDP growth rate without tariff hike.)
• Monthly net employment could drop by around 50,000 to 70,000 jobs.

IB View on Tariff Hike: Bank of America

The table below may look complicated, but the key takeaway is that if companies do not pass on price increases to consumers (0%), and U.S. companies' sales in China remain unchanged (0%), the net income of S&P 500 companies would decrease by 3.9%.

Source: Bank of America Global Research

However, the actual situation will likely be much more complex. In my personal view:

• Chinese companies might lower prices to remain competitive in trade,
• U.S. companies would try to pass on at least part of the price increase to consumers,
• Higher prices might reduce consumer spending and could lead to additional declines in revenues and net profits of companies,
• Due to retaliatory tariffs from China and patriotic buying, U.S. companies' sales in China could be impacted at the upper range of the table or even more, especially if USD strengthens against RMB,
• Other countries, particularly the EU, are likely to respond to the U.S.'s broad tariffs with their own increases.

Therefore, if Trump's tariff plan is fully implemented, a 3.9% drop in the earnings per share (EPS) of S&P 500 companies  may be on the lower end of the predicted range.

Closing Remarks

Regardless of who becomes president, the likelihood of a full sweep - where one party wins the presidency along with both the House and the Senate - appears to be low according to various public opinion polls.

So, there’s a strong likelihood that Congress would act as a check, making it unlikely that the proposed tariff hikes will be implemented as promised even if the Republican candidate wins. Therefore, investors don’t need to worry  too much prematurely. However, the stock market is highly sensitive to uncertainty and tends to reflect future possibilities in current values. Thus, investors should think ahead and prepare for potential outcomes before the market moves, if possible.

The views from investment banks regarding Trump's tariff hike proposals are overall negative. They predict a drop in U.S. GDP growth, rising prices, declining corporate net income, reduced investment and consumption, and lower employment. Although the specific numbers differ, the three IBs we looked at generally predict a 1.4% drop in GDP growth, a 3-5% drop in S&P 500 earnings per share (EPS), and a 0.9% rise in the PCE price index.

We examined three major historical examples of U.S. tariff increases: the Great Depression in the late 1920s, the dot-com bubble burst in the early 2000s, and the Fed’s rate hike cycle in 2018. Since these tariff increases occurred alongside major economic downturns, it's hard to isolate how much tariffs alone affected stock prices. However, the fact that stock prices fell consistently around the time of these tariff increases suggests they had a negative impact.

So, what should we do if the Republican candidate wins? First, it would be wise to be cautious with companies involved in trade with China or those that generate significant revenues from China. There’s also a chance that broader stock indices could decline until the uncertainty around tariff hikes is resolved, so a more defensive investment portfolio may be prudent.

Thanks for reading. Wish you grow rich slowly and surely!

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