Game on, Mole!

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Yesterday, US 301 tariffs (at 25%) on an estimated US$50 Billion in steel, aluminium and other products, came into force.

On top of that, the United States Trade Representative is preparing a list of goods that will attract a 10% tariff, estimated to apply to an additional $200 Billion of goods.

The game is afoot and getting hot, yet gold is down and so is the fear Index (i.e., CBOE VIX).

Low quality iron ore is also down but China's blue sky policy might be painting a different picture for higher quality ore.

The Aussie dollar is slightly up.

1. Gold

Tariffs generally have an inflationary impact, so you might expect this to be fuelling the price of gold.

On the other hand, it may be that expectations of a drawn out trade war may be driving a deflationary view.

This might rest on the knock-on effect tariffs can have on the viability of other US industries that will need to purchase far more expensive local steel, aluminium and other materials.

If another US$200 Billion (or more) in products are effected, the knock-on effect would be more spectacular.

2. Fear Index

On top of that, the market has been kept up to date with the tariff plan in excruciating detail and that may account for an easing in the VIX, i.e., it's not as though any of this comes as a surprise.

3. Iron Ore

The outlook for iron ore is a more difficult one. WA exports iron ore to China, for steelmaking. Chinese steel is now subject to US 301 tariffs.

At the same time, China's blue sky policies (seeking to clean up pollution) mean that Chinese steel mills will balance a lowering of steel production with a rising use of higher quality lump.

Lump does not require sintering before being fed to the furnace, meaning less metallurgical coal required (for reduction in the sinter) and less pollution.

As an example, BHP is betting on this thematic with its South Flank go-ahead, which will allow it to produce less volume at a higher value.

We appear to be reverting back to where we were before the infrastructure spending boom, where for 30 plus years the Japanese mills demanded high quality lump hematite ore (at 30 bucks a tonne!!) because that's how their mills were rigged.

Higher iron content hematite in lump form has always been the domain of BHP and CRA (now RIO Tinto).  

Great for BHP and RIO (and their service providers/support industries), great for the WA Government because iron ore royalties are based on value not volume, but not so good for lower quality fines pricing and the fortunes of smaller 'crack and stack' producers (and their employees/support industries).

4. Exchange Rate

Further strength to the US dollar is expected if the US economy continues gathering pace; the US Fed's balance sheet run-off continues; and short-term interest rate hikes continue as planned. 

Threats to this are a negative tariff knock-on to other US industries; lay-offs; and the potential for China to dump a serious amount of US bonds as the trade war escalates - not to mention continuing investigations into pre-election fixing.

On the other hand, the support for the AUD is more closely tied to the demand for and price of coal and iron ore over the foreseeable future.

With massive household debt and insufficient broad-based real wage growth, the RBA may lack the courage to raise interest rates.

But banks may still raise lending rates, given their continued bellyaching about the cost of borrowing in the US (where rates are going up) which would mean more pain for households.

This so called trade war is likely to go another few rounds, and if you believe that in light of the above and other portents we are in a boiling frog scenario, it just means we are far too relaxed about all of the above, and other threats to the global recovery - and the trickle down effect to the WA economy.

Well, I know the water's warm and the press is full of new project developments in our back yard, but stop being so relaxed!

WA businesses need to add a few more pages to their strategic playbook (i.e., refocus towards battery minerals, supporting downstream lithium processing, renewables, waste management, defence related sectors, etc). 

We cannot control external global thematics, but once recognised we can all acknowledge, review and plan to competitively respond to these forces, and as a result become stronger businesses and investors.

Mike


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