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The Apple Recession

Written by Briton Ryle
Posted November 27, 2018 at 7:00PM

This is the moment I've been worried about. The U.S.–China trade dispute might be escalating soon. And the tariffs President Trump is considering right now could be the straw that breaks the U.S. economy's back. 

Trump doesn't like the fact that some U.S. companies have manufacturing operations in China. In addition to forcing China to trade fairly, Trump is trying to use tariffs to, um, encourage American companies to bring their manufacturing back to the U.S.

If you don't think about it too much, getting companies to reshore sounds pretty good. More jobs, more local investment...

Of course, if you really dig in, there are problems with this simplistic plan. Paying workers is usually a company's biggest expense. And U.S. workers make more than Chinese workers. So if a company has to pay more for labor, you'd expect to see profits take a hit. I admit, I'd love to hear a company get on its quarterly earnings conference call and say, “Yeah, we made less money, and we're not raising our dividend. But we are helping American workers take care of their families and live a better life.”

But you and I both know that the minute analysts hear the “made less money” part, the sell ratings will come flying. Obviously, companies have a duty to look after their shareholders first. So they do whatever it takes to keep the profits coming. So they will either raise prices or not hire as many people.

On Monday, GM announced it was closing plants, discontinuing several cars, and laying off as many as 14,000 people. And the stock rallied 5% as analysts raised profit estimates and price targets. 

Automakers are facing huge challenges right now. Car sales are falling in the U.S. and China, electric vehicle sales show promise but aren't a significant revenue center yet, and autonomous vehicle ride-share is coming. The market is always forward-looking, and so the fact that GM is articulating a plan to deal with these challenges is being seen as a good thing.

The China Problem

And look, I get it about China. They steal intellectual property. They absolutely manipulate their currency. And government support of business means they can undercut global market prices for things like steel and solar panels and take market share. I'm glad the president wants to take a hard-line approach about unfair trade practices. 

At the same time, China is a massive consumer market. Did you know that GM (NYSE: GM) sold more cars in China last year than it did in the U.S.? If you're a GM shareholder, you damn well like the fact that GM has plants in China. And if you're not a GM shareholder, well, you really shouldn't be telling the company how to run its business. 

Seems to me if U.S. companies want to do business there, the president should support that choice, not vilify them (which honestly sounds more like something Bernie Sanders would do).

Now, I gotta make a distinction here. Because there are actually two distinct policies being pursued about China:

  1. The “fair trade” policy, which seeks to get China to level the playing field, is fine. 
  2. The “punish U.S. companies that manufacture in China” policy is not fine. 

As I see it, Donald Trump and Bernie Sanders had the same campaign message: You've been screwed; I can fix it. For Sanders, the problem was student debt, and his solution was free college. For Trump, the problem was U.S. companies moving manufacturing to China, and his solution was to bring it all back.  

Neither of these solutions is in any way realistic. It's just pandering. How about we tell Americans the truth? Be honest about the changes that come with technological advances and transitioning economies and encourage people to take responsibility for their circumstances, rather than blaming the Mexicans or the billionaires. 

The whole notion of making your way in the world, picking yourself up by your bootstraps, is what made America great in the first place...

Hmm, I see I'm ranting a little. OK, fine, a lot. Sorry, this stuff gets me fired up. I'll move on — I really do want to talk about the Apple Recession...

The Apple Recession (copyrighted, all rights reserved, use prohibited without permission) 

Up until now, Trump's focused his sharpest criticism on companies like GM and Harley-Davidson. But over the weekend, he fired a warning shot over the bow of the biggest company in the world: Apple (NASDAQ: AAPL). 

In an interview with the Wall Street Journal, Trump said he wouldn't rule out putting tariffs on Apple's iPhones. 

“Depends on what the rate is,” Trump said. “I mean, I can make it 10% and people could stand that very easily.”

Now, he's not talking about making the Chinese pay more for an iPhone. This tariff would go on U.S. sales. He wants to charge you and me $100 more in order to punish Apple for assembling its $1,000 iPhone in China.

Not only does this comment show an amazing lack of understanding of Apple's supply chain, but it also would be really bad for the stock market, and probably the economy, too.

iPhone components come from all over the world. Plenty are American, like Corning's Gorilla Glass or the Qualcomm processors. It also gets chips from Switzerland and South Korea. Companies on the list of suppliers come from Holland, Japan, South Korea, Philippines, Malaysia, Belgium, Singapore, Germany...

If there was ever a global product, the iPhone is it. Seems pretty silly to try and take on Apple for having all the components snapped into place by Foxconn in China...

But that's not the worst part. Smartphone sales have already plateaued in the U.S. Add $100 to the price of an iPhone, and sales will likely fall. We've already seen how hard Apple's suppliers get hit when iPhone sales are weak. Sprint and Verizon suffer. The semiconductors sell off. Maybe Foxconn has to lay people off...

Apple depends on Asian markets for growth. Mainly China. So far, China has avoided targeting U.S. companies/products in this trade war. That could change. And if the Chinese government tells its people to stop buying iPhones, sales will plummet. No dividend hikes, no share buybacks. 

Apple makes up almost 5% of the Dow Industrials and 11% of the Nasdaq 100. It's the top holding in a bunch of ETFs and mutual funds. If funds and ETFs start selling Apple, it could snowball. Like a really, really big snowball. 

Maybe I'm a little paranoid. Maybe this trade stuff gets resolved without any lasting damage. The last thing the U.S. economy and stock market need are more hurdles to jump.

Until next time,

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Briton Ryle

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A 21-year veteran of the newsletter business, Briton Ryle is the editor of The Wealth Advisory income stock newsletter, with a focus on top-quality dividend growth stocks and REITs. Briton also manages the Real Income Trader advisory service, where his readers take regular cash payouts using a low-risk covered call option strategy. He also contributes a weekly column to the Wealth Daily e-letter. To learn more about Briton, click here.

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