Investors got a reality check today. Actually, more like a reality slap in the face.

Global markets plummeted Wednesday as the trade war between the Trump administration and China intensified. Stocks melted down across the board, with U.S. equities racking up their first loss in five sessions. The CBOE Volatility Index (VIX), aka “fear gauge,” jumped 5.30%.

Today’s rout in equities was triggered by concerns that the international system of rules that ensure global stability is coming apart. Despite Wall Street’s recent winning streak, lurking geopolitical risks resurfaced and awakened investors from their complacency.

The Trump administration late Tuesday unveiled a huge list of goods from China, worth $200 billion, that will get hit with 10% tariffs.

The goods targeted by the White House include tobacco, coal, chemicals, steel, aluminum, car tires, furniture, pet food, wood products, handbags, suitcases, baseball gloves, carpets, doors, bicycles, skis, golf bags, toilet paper, beauty products, various foodstuffs… the list goes on.

Several U.S. industry groups howled in protest Wednesday, arguing that the tariffs amount to national self-harm.

Last year, U.S. exports to China totaled $130 billion. Most of these exports will be affected by the trade conflict (see chart, compiled with data from the U.S. Census Bureau):

China reacted harshly Wednesday, accusing the U.S of “bullying.” The world’s second-largest economy vowed to respond with commensurate trade sanctions.

President Trump’s broadsides today against the North Atlantic Treaty Organization (NATO) didn’t help Wall Street’s mood.

The president is attending a summit of the 29-member NATO alliance in Brussels, July 11-12. NATO is the military pact between North American and European democracies; it helped America win the Cold War.

At the summit, Trump attacked NATO members for not paying their fair share. (This assertion mischaracterizes NATO’s funding mechanism, but I won’t delve into that arcane matter here.)

During his campaign for president in 2016, Trump decried NATO as “obsolete.” Fears are growing that Trump will actually pull the U.S. out of NATO.

Trump is scheduled to meet with Russian President Vladimir Putin in Helsinki on July 16. Trump has insisted that he meet with Putin alone, with no witnesses present. The world is in uncharted terrain.

At the crossroads…

After the carnage of World War II, an alphabet soup of Western entities arose to protect world order and free enterprise, with the U.S. as the linchpin.

These multilateral institutions include NATO, the World Trade Organization (WTO), the United Nations (UN), and the European Union (EU). In recent months, America has denounced all of them.

It’s difficult to see how any of this benefits investors.

Trump’s escalation of the trade war will set in motion a chain reaction of adverse events. Tariffs already are fueling inflation, as the cost of imported goods rises and domestic producers discover they can boost their prices amid weakening foreign competition.

China’s inexpensive goods have kept U.S. prices low. Many American consumers have been convinced that China is a bogeyman. It’s true, China plays rough on trade and should be held accountable. But consumers are in for a nasty surprise, when the inexpensive flat screen TVs they so dearly love suddenly soar in price.

Since 1945, globalization has exerted a steady dis-inflationary bias on open economies such as the U.S. because of competition from lower-cost foreign producers and lower-paid foreign workers. Now, this trend is getting thrown into reverse.

The trade war also boosts input costs for U.S. manufacturers; consumers eventually feel the pinch. Rising inflation could prompt the Federal Reserve to more aggressively hike interest rates, which would strengthen the U.S. dollar.

A stronger greenback places a disproportionate burden on developing markets. Over the past 10 years, many of these nations have taken on enormous dollar-denominated debt. In local currency terms, a rising dollar drives up the interest and capital repayments on those loans. Emerging markets suffer a double-whammy, because their economies tend to be heavily reliant on exports.

I’ve repeatedly warned you about these risks. If you’ve been following my advice for re-balancing your portfolio, your losses should be contained.

The good news is that optimistic expectations for second-quarter corporate earnings should provide a floor for stock market declines.

The consensus is that Q2 profits will post year-over-year average gains of 20%. Buoyed by rising oil and gas prices, the energy sector has recorded the largest increase in expected earnings growth since the start of the quarter.

However, for stock market gains, growing global discord provides a ceiling. If you’re looking for a winning investment strategy in the Trump era, it’s this: always expect the unexpected. Pare back your stakes in export-dependent companies with large overseas exposure. More “red days” like this one lie ahead.

Wednesday Market Wrap

• DJIA: -0.88% or -219.21 points to close at 24,700.45
• S&P 500: -0.71% or -19.82 points to close at 2,774.02
• Nasdaq: -0.55% or -42.59 points to close at 7,716.61

Wednesday’s Big Gainers

• Arbutus Biopharma (NSDQ: ABUS) +17.13%

Biotech’s lead drug looks promising in trials. 

• Fastenal (NSDQ: FAST) +10.05%

Fastener distributor’s earnings beat estimates. 

• Comstock Resources (NYSE: CRK) +7.64%

Energy producer boosted by rising oil and gas prices.

Wednesday’s Big Decliners

• Farmland Partners (NYSE: FPI) -38.96%

Farm-owning REIT accused of artificially inflating revenue. 

• AngioDynamics (NSDQ: ANGO) -16.08%

Medical device maker’s earnings disappoint.

• Dogness International (NSDQ: DOGZ) -10.76%

Pet products provider gets downbeat assessment from analysts.

Letters to the Editor

“The markets have got me spooked. What are reasonable portfolio allocations right now?” — Ron A.

A general rule of thumb that makes sense amid current conditions is 35% stocks, 35% hedges, 20% cash, and 10% bonds. Pare back your exposure to overvalued, large-cap “story stocks” and emphasize value.

Questions about portfolio protection? I’m here to help: mailbag@investingdaily.com

John Persinos is the managing editor of Investing Daily.