Headline writers in the financial media are good at getting caught up in a story…

And then repeating it…

And repeating it…

And repeating it…

Until it feels like it’s the only thing anyone can talk about. But despite the dozens of articles available, most of them seem to have the exact same take on things.

#-ad_banner-#This week, the headline writers have been telling us again and again that stock market volatility is up because of a potential trade war.

“Tariff Troubles: Wall Street Seen Under Pressure As Trade War Fears Escalate”

“Wall Street Forced to Recalibrate as Trade War Gets ‘More Real'”

“VIX Daily Update: Volatility Spikes Higher as Trade-War Triggers Capital Flight”

Rather than rehash the specifics of who said what, I want to take a step back and look at where we are now in a historic context.

To do that, I pulled some data from the U.S. International Trade Commission to create the chart below. It shows how much revenue the government collected in the form of duties on imported goods as a percentage of the value of imports.

In 2017, duties represented 1.4% of the value of imports. In fact, for the past 15 years, this metric has been around 1.5%, which is a historically low level.

Between the end of World War II and 1980, the effective U.S. tariffs declined from about 10% to 3%, which is where it stayed until the middle of the 1990s. NAFTA took effect in 1994, and the World Trade Organization (WTO) started up the next year.

Duties on imports fell to about 1.5% in 2001, when China joined the WTO. Global trade expanded after that, and now imports account for about 15% of U.S. gross domestic product (GDP).

Now, getting back to the potential trade war everyone is atwitter over. Let’s assume all of the tariffs under discussion take effect. The effective tariff rate would increase to about 3.5%, the level it was in the 1980s when the stock market began the greatest bull market in history.

A tariff rate of 3.5% is only two percentage points higher than the current rate of 1.5%. When we go ahead and apply the new tariff rate to imports, it works out to a 0.3% increase to total GDP.

In other words, tariffs will have a relatively small effect on the economy. I am certain I am missing something because tariffs really aren’t going to amount to much in terms of GDP.

But here’s the takeaway: It is almost guaranteed that this small change will still have a significant (and outsized) impact on the market because many investors already believe these changes will have a significant impact on the market, in part based on the coverage in the media. It’s one of those market psychology, self-fulfilling prophecy kind of things.

If anything, this demonstrates that stock market prices are not fully rational. We need to be ready for increased volatility and selloffs.

We need to maintain a margin of safety in our investments.

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