China to U.S.: “I Can’t Quit You”

Matthew Carr By Matthew Carr
Emerging Trends Strategist

Market Trends

The United States and China are tangled in a testy exchange of tariffs, retaliatory tariffs and “retaliatory-retaliatory tariffs.”

As I wrote in a recent Energy & Resources Digest article, there’s only so much China can do.

China and the U.S. need each other. And at the moment, the U.S. has the upper hand. The Chinese government can call for companies to dramatically reduce their reliance on American customers. But that’s too much business to make up elsewhere.

No other country imports as much as the U.S.

Take Zibo Hongyeshangqin Medical Science and Technology Company, for example. The surgical glove maker relies on the U.S. for 60% of its sales.

The same is true in the soybean trade, as Macro Strategist Eric Fry recently touched on. China is by far the largest market for soybeans, consuming two-thirds of the global supply.

The U.S. government is now bailing out farmers for billions of dollars lost due to new tariffs. But Chinese farmers aren’t faring much better, as prices for feed have shot higher.

Brazil could be a winner in this mess, but China’s soybean demand is 50% more than Brazil’s total exports.

So neither China nor the U.S. can really afford to lose the other.

Especially when it comes to one of America’s fastest-growing industries…

Cutting the Deficit by Meeting China’s Needs

When I started out in the oil and gas industry, the U.S. was the world’s largest net energy importer.

More than half of the crude we consumed came from overseas. And roughly 30% of all our energy needs were met by foreign sources. This was when we started chanting “energy independence.”

In 2011, America’s energy trade deficit was $321 billion. But as the shale revolution upended the industry, this dwindled to a mere $54.9 billion in 2017.

More importantly, over the next couple of years, the U.S. will emerge as a net energy exporter.

This once seemed unimaginable.

Today, the U.S. is the world’s largest exporter of fuels like diesel and gasoline. In recent years, it’s also become the largest producer of crude, rivaling Saudi Arabia and Russia.

And it’s on track to become one of the world’s largest liquefied natural gas (LNG) exporters in 2019.

That last one is all thanks to China.

In fact, U.S. LNG exports to China grew nearly 500% in 2017.

At the same time, China has become the world’s second-largest LNG importer. And since China is dumping its reliance on coal – the main reason the U.S. coal industry is dying – its imports of LNG are expected to skyrocket.

It could soon outpace Japan as the world’s largest LNG importer.

In fact, imports account for more than 40% of China’s natural gas supply. Of those imports, LNG represented more than half.

China understands that it is the future of the global LNG market and that it’s crucial for the booming U.S. LNG industry.

It represented 15% of all U.S. LNG exports last year. But with China backed into a corner on trade, we have to wonder whether that’ll continue…

It has proposed 25% tariffs on U.S. LNG and crude imports.

This is one of the more aggressive stances the country can take in the trade war with the U.S. (besides going after soybeans).

And China has already moved away from American supply.

From January through May, China welcomed 17 U.S. LNG shipments. Then in June, there was only one… and just two in July.

Now, you’d think this would spell doom for U.S. LNG companies.

But surprisingly, that’s not the case.

Not to Worry

One company that’s emerged as a winner in all of this is Cheniere Energy (NYSE: LNG).

Back in February, the company announced an LNG supply agreement with PetroChina (NYSE: PTR) for approximately 1.2 million metric tons per year. This is a coveted long-term agreement that will last until 2043.

During its second quarter, Cheniere shrugged off the news about China as revenue jumped 24%. That’s because its Asian business continues to expand.

Cheniere announced a new 25-year supply agreement with Taiwan’s national oil company, CPC Corp.

If China does implement the 25% tariff on U.S. LNG, Australia will fill the void left by U.S. suppliers. Australia’s LNG exports to China are already up 36% this year.

But now we’ll see if China actually pulls the trigger on the tariffs. Though, even if it does, companies like Cheniere have other markets in Asia to focus on (Japan and South Korea are two big ones).

Not to mention, as China and the U.S. have sparred, Taiwan has not-so-secretly become chummy with Washington. Considering China and Taiwan’s history, it’s hard to ignore those moves.

China and the U.S. are vying to show who’s stronger. But the reality is… they can’t quit each other so easily.

In some instances, the rest of the world can’t possibly pick up the slack. So someone’s going to have to give in soon.

And right now, the U.S. has more leverage.

Good investing,

Matthew