Trump plays the "Thanos" card, will global assets be crushed and start over?

Hello everyone, I am Dolphin Research!

On April 3rd, the upgraded tariffs from Trump arrived, and even though Trump explained and laid the groundwork long ago, the tax rates pulled out from Excel still significantly exceeded expectations. With such high tariffs, Trump has offended all trade partners; what exactly is he trying to do? Can the U.S. economy still hold up this year? Is there still hope for investment?

Dolphin Research attempts to understand the source of this issue through a story.

1. The Lazy Country vs. The Working Country

In 2003, Buffett wrote a story-like essay for Fortune magazine, which still holds relevance today. Here, Dolphin Research will summarize and further interpret it:

There are two countries in the world—one is the Working Country, and the other is the Lazy Country. These two countries only have land, rely on agriculture for survival, work eight hours a day, and each has its currency, both are essentially self-sufficient.

However, after some time, the Working Country felt too insecure and wanted to save more for natural disasters and emergencies. The people of the Working Country began to work 16 hours a day, willing to sell their surplus goods at relatively low prices to their only neighbor, the Lazy Country and were willing to accept the Lazy Country's currency for settlement.

The people of the Lazy Country were very happy—by just "printing a bit more paper," they could avoid working, and their living standards would not be affected. This "paper currency" would later serve as an option to buy from the Lazy Country.

Of course, a very small number of people in the Lazy Country felt that this was unfair to the descendants of the Lazy Country—because they would have to produce and repay, meaning they would have to work more than eight hours a day. However, life was too comfortable for the Lazy Country, and no one wanted to listen to these doomsday predictions.

Thus, essentially, these two countries transformed into a production country and a consumption country in terms of social structure.

Life went on day by day, and the possible outcomes were:

1) The Lazy Country collapses, living off its reserves

Gradually, the people of the Working Country began to feel uneasy, "Will these Lazy people turn rogue and not pay me back in the future? Will they print too much currency and make my IOUs worthless?"

The Working Country could only use a pile of IOUs from the Lazy Country (which do not circulate in their own country and essentially become sovereign wealth funds) to buy assets from the Lazy Country—land.

So before the Lazy Country defaults, they exchanged the accumulated currency (IOUs) for land from the Lazy Country until there was no land left to sell.

At this point, the Lazy Country had only one choice—start working eight hours a day to make a living again, while their original land had now become rented land, requiring them to work even longer hours to pay the rent.

Thus, the entire trade process effectively became a "commercial colonization" of the Lazy Country, where the cost of free food for one generation was the working life of several future generations of the Lazy Country.

2) The Lazy Country changes its situation

Some high-level officials in the Lazy Country realized that the national debt was too high, and there was no future if this continued. How to change it?

a. Increase taxes

A simple and crude solution is to impose taxes on the goods of the Working Country, raising the prices of the goods produced by the Lazy Country to be the same as those produced by the Working Country, pulling the Lazy people back from their lazy state to work in the fields. Playing the Rogue

Those who owe money are the fathers, while those who borrow money become the grandsons. A group of people in the "lying flat" country has labeled the "cow and horse" country as "malicious": claiming that the cow and horse country does not treat people as people, treats labor as hard labor slaves, and uses the money earned by the cow and horse people to subsidize the production of food's water and electricity, deliberately distorting the cost of production factors, resulting in the goods from the cow and horse country being "artificially" cheap, leading to the outflow of wealth from the lying flat country. The lying flat country demands that the cow and horse country not only cancel the import tax on food from the lying flat country but also stop this price distortion behavior and compensate the lying flat country for past actions, threatening to initiate a century-long "great reckoning."

c. Debt Devaluation

With no other options, the lying flat country, burdened by historical debt, resorts to devaluing its currency. Originally, 100 yuan could buy a house, but now it can only buy a toilet. This essentially amounts to a substantive default.

After reading this story, everyone will likely naturally associate it with a corresponding country—the United States is the lying flat country, and the greater the trade surplus with the U.S., the higher the "gold content" of the cow and horse country.

II. What is Trump's Underlying Thinking on Tariffs?

Before the tariffs on April 3, many believed that if Trump used value-added tax as a means of tariffs, China would not be significantly affected; after the new tariff policy on April 3, many mocked Trump for his chaotic approach, exporting tariff rates with a single click in Excel, lacking any method.

However, Dolphin Research realized from some interviews with Trump's team that the situation is not that simple. The new tax rates indicate that Trump is indeed addressing the "elephant in the room" of the U.S. economy because although Trump's policies are simple and crude, the signals conveyed are clear and loud—he wants to solve the massive fiscal deficit, and accumulated national debt of the U.S. federal government, as well as the persistent trade deficit, and reshape American manufacturing.

Let’s reasonably interpret Trump's approach to solving this issue:

a. Reducing the Accumulation of New Debt

If the 2018 Trade War 1.0 was aimed at curbing China's rise and repositioning China as a competitor, then Trump's Trade War 2.0 in 2025 is no longer focused on targeting the "head bird." This time, the main demand is to eliminate the U.S. trade deficit and encourage Americans to buy products made by Americans.

The means used include a. tariffs; b. fines: imposing fines on countries that implement industrial support and subsidy policies, labeling them as "distorting production factors"; until the trade deficit can fall back to a range deemed reasonable by the U.S. government; c. intimidating other countries to cancel their industrial subsidies and other encouraging policies; and various other PUA behaviors.

b. Historical Debt: Extension, Reduction of Interest Payments?

With the excessive tariff stick (and this time the stick is so high that trade partners cannot devalue their currencies or circumvent tariffs by transferring production capacity), the yielding creditor countries may come to plead for mercy, but at what cost?

In addition to the aforementioned, will they also demand to cancel their import tariffs on U.S. goods, cancel their own encouraging production industrial policies, and pay annual "hat-trick" fines?① Should these creditor countries with abundant foreign exchange reserves extend the duration of their U.S. Treasury holdings and buy a zero-coupon 100-year U.S. bond?

② Or should they buy new U.S. Treasuries at very low interest rates to help the U.S. get through this "transition period"?

So what is the nature of tariffs from an internal policy perspective? Dolphin Research has mentioned this before (see “Elected” Trump? The American public is the pawn in this wave — initially seen in the Longbridge community):

No matter how Trump promotes tariffs as taxes on trading partner countries, if the amount is small, the partner country can offset it by depreciating its currency. Such high and blanket tariffs cannot be fully offset just through depreciation; they can only be borne by producers, traders, and consumers, ultimately reflecting in the sales prices of goods.

The U.S. government takes these tariffs and ultimately reduces taxes for domestic companies, combined with the lower interest rates after some adjustments, encouraging foreign and multinational companies to invest in or return to the U.S. to build factories.

In other words, high tariffs essentially force consumers to bleed to support domestic producers, using consumer taxes to subsidize domestic producers, and balancing the U.S. from a "consumer society" to a "production society."

Moreover, from the perspective of some policymakers in the U.S., long-term reliance on services to create jobs in a "gig economy" is akin to a "Sanhe Dasha" lifestyle, living for today without thinking about tomorrow. Employment in manufacturing is what allows Americans to live a stable and decent "middle-class life."

The return of manufacturing is a consensus between the two parties, but the means to achieve the goal differ — Biden's economic policies, through three major acts, are essentially industry subsidies, where the government subsidizes industries to compete in the international market. However, the consequence of subsidies is persistently high interest rates and unsustainable fiscal deficits.

Trump's method, as mentioned by Dolphin Research above, is to leverage overseas trading partners along with American consumers to subsidize U.S. producers. The process of rebalancing trade is, to some extent, also about raising the Americans who enjoy it back to a more labor-intensive lifestyle.

Three, should the asset logic be completely rethought?

Powell previously commented on U.S. Treasuries, saying: "U.S. Treasuries are not unsustainable at current levels, but if this continues, the future path is unsustainable." The implied meaning is that someone must come out to adjust the debt previously when Bridgewater evaluated U.S. Treasury bonds and faced the question of when the elephant in the room would explode, they stated that from an investment perspective, it is impossible to predict when it will explode, but when problems are certain to arise, it is when the yield on the 10-year U.S. Treasury bond rises higher than that of corporate bonds.

It seems that Trump, who has returned to power, has chosen this elephant to tackle. Perhaps for him, if he does not succeed, he will become a martyr; success would be a script like Reagan's. Even if he does not succeed, for Trump's team, it is a large-scale social experiment that involves the global community working with American consumers to rejuvenate American manufacturing.

Or, to express it in the words of former U.S. Trade Representative Robert Lighthizer: "If this situation continues, it will have to change in ten years anyway, so it might as well change now; essentially, there is nothing to lose."

In the face of a paradigm shift in global trade, from the current valuation levels of major markets, Dolphin Research believes that most assets are not fully priced, and it is likely that we will have to wait for Trump’s negotiations, where various "bullying" compensation methods will be discussed beyond tariffs. It is also possible that trade partners will escalate trade confrontations, further suppressing market risk appetite.

As for Chinese assets, although the repaired valuations are still not high, the impact of tariffs on China's export chain, especially domestically, means that not only companies exporting to the U.S. will be affected, but also some companies that have set up factories in Southeast Asia. The contraction of foreign trade, which is a means of generating revenue for the domestic economy, may affect the purchasing power of domestic demand.

Therefore, under this trend of international trade, domestic demand may need to be stimulated more than ever, especially the increasingly significant service-oriented domestic demand. However, after a year of continuous valuation cuts and economic deleveraging, the future is more about whether it will hover at the bottom or gradually rise. Coupled with the current policy tilt towards domestic demand, the risk of further deterioration is becoming smaller.

Thus, as mentioned in last week's Dolphin Research weekly report, short-term Chinese concept assets also face a correction, but if the cycle is slightly extended, Dolphin Research still has confidence in Chinese assets.

IV. Portfolio Adjustment and Returns

Based on Trump's tariff policy announced on April 3 and the potential risk of correction, Dolphin Research made significant adjustments to the portfolio last week after a long period of inactivity since the beginning of the year to avoid correction risks. The specific adjustments are as follows:

The Alpha Dolphin portfolio had a return of -1.6% last week, underperforming the CSI 300 (-1.4%), but outperforming MSCI China (-3%), S&P 500 (-9.1%), and Hang Seng Tech (-3.5%).

Since the start of the portfolio testing (March 25, 2022) until last weekend, the absolute return of the portfolio is 77%, with an excess return of 77% compared to MSCI China. From the perspective of net asset value, Dolphin Research's initial virtual asset of 100 million USD has exceeded 178 million USD as of last weekend.

V. Contribution of Individual Stocks to Profit and Loss

In the Alpha Dolphin portfolio last week, only China Mobile showed a counter-cyclical hedging property, while most other assets only differed in the extent of their declines. Observing several consumer stocks in the portfolio, many performed better than expected, with results not being worse, and were also accompanied by consumer policies to support market expectations during this special period.

The specific stocks with significant price fluctuations are explained by Dolphin Research as follows:

VI. Asset Allocation Distribution

The Alpha Dolphin virtual portfolio holds a total of 17 individual stocks and equity ETFs, including 8 standard allocations, 1 overweight, and the rest underweight. Assets outside of equities are mainly distributed in gold, U.S. Treasury bonds, and USD cash.

As of last weekend, the asset allocation and equity asset holding weights of Alpha Dolphin are as follows: