U.S. stocks fell sharply in May, which was primarily driven by an unexpected reversal in the trade talks with China. After markets closed on Friday May 10th, President Trump announced that he would be increasing tariffs on certain Chinese goods to as much as 25%. With the belief that a trade deal was imminent, this turn of events surprised markets. Soon after, reports surfaced that the Chinese delegation was backtracking on many of the key points of the trade deal, thus prompting action by the President.
Despite this setback, we are still about 80% confident that a trade deal will get done for two primary reasons. First, China has far more to lose in a trade war than does the U.S. This is evidenced by trade figures from 2017 wherein China exported $505 billion worth of goods to the U.S. and only imported $130 billion worth of goods. This approximately $375 billion negative trade balance for China represents a very weakened bargaining position. Second, President Trump will need the economy to be strong in order to cement a reelection in 2020.
From an economic perspective, tariffs are incredibly inefficient and end up hurting all parties involved. In any case, a trade deal may come about abruptly and surprise markets just as the new rounds of tariffs have done. Additionally, support from the Federal Reserve in the form of increasingly likely interest rate cuts would be welcomed by markets.