At a neighborhood barbecue last Saturday, a buddy of mine got blotto (as usual) and received a DUI while driving home. He dismissed my concerns by saying: “It was just bad luck.”

Sigmund Freud coined a term for such statements: denial. It’s a defense mechanism in which the truth is intellectually denied because it’s too painful to accept.

I thought of this incident, while writing today’s column. Financial greed is not that different from alcohol abuse. Greed is an intoxicant that can cloud your trading judgment. The most successful investors keep a sober head during market ups and downs. They look at the world the way it is, not the way they want it to be.

The biggest self-delusion on Wall Street right now is that trade disarray, as well as the mind-boggling dysfunction in Washington, DC, will somehow have a happy ending for investors.

Investors are acting as if the tax cuts signed in December supersede all worries. Problem is, most of those tax savings are going to stock buybacks, not toward long-term capital investments that lay the foundation for future economic growth. The short-term stimulus to the stock market won’t last, especially since the tax cuts add to the deficit in the 10th year of an expansion.

But to these arguments, the bulls have closed their ears. The three main stock indices ended in the green Tuesday, extending yesterday’s broad gains.

On both days, Wall Street was cheered by a U.S.-Mexico agreement to revamp the North American Free Trade Agreement (NAFTA), hoping it was a step toward defusing the global trade war.

NAFTA includes the U.S., Mexico and Canada, covering more than $1 trillion in annual trade. President Trump today was noncommittal about allowing Canada back into NAFTA, while Mexico signaled a willingness to adhere to an agreement that’s only bilateral.

The original NAFTA reduced most trade barriers between the three-nation trading bloc. The White House says the removal of these barriers encouraged U.S. manufacturers to move south of the border to exploit low-wage Mexican labor.

Supporters of NAFTA (which includes the majority of economists) assert that NAFTA boosts trade and hence prosperity. They argue that the trade pact, which came into force in 1994, facilitated America’s shift away from jobs that require less skill and toward value-added jobs that enhance a nation’s overall competitiveness.

An estimated 5 million jobs in the U.S. are supported by trade with Canada and Mexico attributable to NAFTA. California, Texas and New York benefit the most (see chart, compiled with 2017 statistics from the U.S. Chamber of Commerce):

Canada is America’s number two trading partner but the country has been shunted to the sidelines, for now.

The most significant revision agreed to this week by the U.S. and Mexico stipulates that 75% of a product must be made in the two countries to receive tax-free treatment, higher than the existing deal’s 62%.

But Congress must approve the revamped NAFTA. Trump has made an enemy of Canada (yes, mild-mannered democratic Canada) and if our neighbor to the north doesn’t join, Congress probably won’t go along.

Meanwhile, trade conflict with China hasn’t disappeared. The White House and China held two days of talks last week. As I predicted, nothing came of it.

Multilateral trade deals that took years of painstaking negotiations are unraveling into chaos. Ideological preconceptions are overpowering the facts. As they posture for the cameras, signatories are agreeing to trade terms that they either don’t understand or haven’t thought through. But investors will understand the consequences, soon enough.

The hard truth…

The current bull market is officially the longest in history. So was the bull market of 1990-2000, which ended in an 80% crash in the technology-intensive Nasdaq (see chart):

If your tech holdings suddenly fell 80%, could your retirement plans withstand the hit?

By nearly every valuation yardstick, this market is absurdly overvalued. The S&P 500 price/sales ratio currently hovers at levels seen right before the Y2K crash.

The Federal Reserve is tightening the monetary spigot and it’s expected to raise rates again next month. Interest rate hikes preceded not just the top of the U.S. stock market in 2000, but also the stock market peaks in 1928, 1987, and 2007.

Another warning sign is the mania for deal-making, funded by tax cuts. This year is on pace to be the highest for mergers and acquisitions since 2007; initial public offerings are red hot as well.

During the dot-com bubble, greedy investors poured money into tech companies that had scant prospects of ever turning a profit. Sound familiar?

A prudent rule of thumb now is to elevate your portfolio’s cash levels to at least 20%. Nations can withdraw from trade agreements, but investors can’t withdraw from reality. At least, not forever. Think of a market crash as an intervention.

Tuesday Market Wrap

• DJIA: 26,064.02 +14.38 (0.06%)
• S&P 500: 2,897.52 +0.78 (0.03%)
• Nasdaq: 8,030.04 +12.14 (0.15%)

Tuesday’s Big Gainers

• Asta Funding (NSDQ: ASFI) +36.84%

Wall Street turns bullish on financial services firm.

• Brooks Automation (NSDQ: BRKS) +30.91%

Automation equipment provider sells off cryogenic division.

• Bilibili (NSDQ: BILI) +13.44%

Video sharing website reports strong operating results.

Tuesday’s Big Decliners

• Akcea Therapeutic (NSDQ: AKCA) -25.33%

FDA rejects biotech’s major new drug.

• Phibro Animal Health (NSDQ: PAHC) -7.94%

Animal nutrition firm issues weak guidance.

•  Canopy Growth (NYSE: CGC) -6.74%

Analysts deem cannabis company overvalued.

Letters to the Editor

“How exactly do tariffs work?” — Leslie S.

Tariffs (sometimes called duties or levies) are a tax on imports. They’re usually charged as a percentage of the transaction price that a buyer pays a foreign seller. In the U.S., tariffs are collected by Customs and Border Protection agents at hundreds of ports of entry across the country. Make no mistake: governments don’t pay tariffs. Companies and ultimately consumers do.

Got a question about the trade war? Drop me a line: mailbag@investingdaily.com

John Persinos is the managing editor of Investing Daily.