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Escalation

13 May 2019 by jbchevrel

Today the CDX IG widened to more than 65bp as risky assets dropped across the board (even oil after resisting until 2 PM). After Trump’s tone went more hawkish last weekend, the discussions with the Chinese delegation in Washington DC were inconclusive late last week. The US therefore raised tariffs from 10% to 25% on $200B Chinese goods, in the night of Thursday to Friday. Kudlow, who’s always been more on the trade dovish side, calmed things down on Friday, sending risk back up. Big reversal today. Trump tweeted that China should not retaliate, and shortly after that, China announced that they will raise tariffs on 2,943 / $60B US goods from June 1st to 25%. Other goods will see stamp duties of 5-20%. Those will include small aircraft, computers, textiles, chemicals, meat, wheat, wine and LNG and they will exclude oil. CDX IG single name CDS widened by 2bp, in line with the index, with not much dispersion (-1bp/+6bp) despite reports from the Global Times that China may reduce specifically Boeing (BA +1.5) orders and might stop buying US agricultural products. As far as cross-market is concerned, Main/IG traded between 3bp and 4bp, HY slightly decompressed vs IG (+1bp on a 1:4 basis), along with EM (+2bp on a 1:2 basis). As GS highlights, higher tariffs will likely drive up the Fed’s preferred measure of underlying inflation. We might then get an occasion to see whether the Fed is independent and committed to its dual mandate, or aiming at financing the US twin deficits at the lowest possible cost and avoiding equity bear markets. While the latter looks more plausible, the timing and the measures taken will be key to define where risk will rebound.