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This guest commentary was written on 5/21/20 by Mike O'Rourke of JonesTrading

The Geopolitical Elephant In the Room - 5 22 2020 8 45 27 AM

Today was the slowest day of the trading week (until 4pm tomorrow).

With the nation at least partially reopening, it appears many in the investment community want to take advantage of a small dose of normalcy, even if it includes facemasks.  Global equity markets were under pressure today, as some investors took advantage of the week’s strong gains to take profits. 

The geopolitical elephant in the room is the rising tensions between the US and China.  In the past 24 hours, there has been a notable chain of events. China threatened “necessary counter-measures” and “consequences” for the Secretary of State Pompeo’s tweet congratulating Taiwanese President Tsai Ing-wen on her second term. 

The Trump Administration formally released a new strategic approach to China with the purpose of “prevail against the challenges the PRC presents; and second, to compel Beijing to cease or reduce actions harmful to the United States.” 

The US Senate passed legislation to force Chinese companies to adhere to US accounting oversight laws.  China announced it was  introducing legislation to clamp down on the Democratic leaning in Hong Kong. 

In turn, the US Senate is now pursuing legislation to sanction Chinese officials in retaliation for the Hong Kong legislation.

To this point we have not even mentioned the Trump Administration’s animosity towards China over the COVID-19 outbreak.  Ironically, the last set of China headlines of the trading day were Larry Kudlow saying the Phase 1 trade deal is going well.

The Senate legislation requires Chinese companies to adhere to the same accounting disclosures by which other companies must abide.  The Sarbanes Oxley Act requires that the Public Company Accounting Oversight Board (PCAOB) have access to the audit records of any companies trading on US Exchanges. 

The PCAOB notes:

Positions taken by Chinese authorities impede our ability to oversee PCAOB-registered audit firms in mainland China and Hong Kong. Specifically, these positions currently impair our ability to conduct inspections of the audits of public companies with China-based operations.” 

The PCAOB notes that France and Belgium do the same thing.  If those are the rules, one has to wonder why this additional legislation is necessary.  The regulators should simply notify companies who are not complying that they have 90 days to do so or US trading in their shares will be halted. Obviously, much of this is politics and gamesmanship. The risk is when escalation goes too far. 

It appears President Xi is no longer content with sitting back and responding to his opponent's moves.  If both leaders choose to pursue aggressive tactics, the situation can get dangerous quickly.  One would suspect that despite the pandemic, Hong Kong protests are likely to re-emerge. 

China’s handling of the COVID-19 outbreak has only reinforced US popular support for those wanting to take a hard line on China.  If China becomes more isolated from the West, Hong Kong becomes even more important to China. 

It has Western Style financial infrastructure ready-made and the Hong Kong Stock Exchange can become the new home to Chinese companies in need.

EDITOR'S NOTE

This is a Hedgeye Guest Contributor piece written by Mike O'Rourke, Chief Market Strategist of JonesTrading, where he advises institutional investors on market developments. He publishes "The Closing Print" on a daily basis in which his primary focus is identifying short term catalysts that drive daily trading activity while addressing how they fit into the “big picture.” This piece does not necessarily reflect the opinion of Hedgeye.