Here's the only strategy you'll need if a trade war breaks out, says Barclays
Getty Images / Thomas Peter-Pool
- The derivatives strategy team at Barclays is advising traders to protect against possible downside risk resulting from a trade war.
- The firm has devised a specific trade designed to hedge risks to industrial stocks, since they're seen as most vulnerable.
Are you braced for a trade war? Well you should be, considering the catastrophic effect it could have on markets.Barclays has constructed a scenario where retaliation in response to President Donald Trump's recently instated steel and aluminum tariffs amounts to a 10% across-the-board tax on all US imports - and it's not pretty. The firm estimates such a tariff would cost the benchmark S&P 500 roughly 11% on an earnings-per-share basis.Advertisement
That sort of hit would "completely offset the positive fiscal stimulus from tax reform," Maneesh Deshpande, head of equity derivatives strategy at Barclays, wrote in a recent client note.
With those caveats in mind, Deshpande says the likelihood of a trade war has been rising in recent weeks, driving a greater need for investor protection should the situation escalate. And he has a specific trade recommendation for those looking to head off possible market negativity - one that's measured enough to fit an environment where a full-on trade war is still a long shot.Before we get into the nitty gritty of the strategy, note that Deshpande's recommendation involves the SPDR Industrial Select Sector ETF (XLI), which he says is most vulnerable in a trade war. And the trade is built around the fact that XLI is still expensive relative to the S&P 500.Here's Deshpande's full recommendation (note that put contracts are wagers the underlying asset will fall):Advertisement
- Buy XLI $76 puts expiring in June
- Sell S&P 500 June 2,715 puts expiring in June for 0.55% debit
"The market is not currently pricing in the tail risk of a trade war," he said. "Which provides us with a good entry point to hedge the asymmetric downside risks to industrials."
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