Finance
Retaliation or escalation? Trust between U.S. and China is fading fast
Chinese and U.S. flags flutter near The Bund, before U.S. trade delegation meet their Chinese counterparts for talks in Shanghai, China July 30, 2019.
Aly Song | Reuters
BEIJING — The flare-up in tensions between the U.S. and China over the weekend highlights the deepening mistrust dividing the world’s two biggest economies.
In the two days after Beijing ended its Golden Week holiday on Wednesday, the country announced a new framework for restricting rare earths exports, placed more U.S. companies on a blacklist and charged U.S.-linked ships with fees for docking at Chinese ports.
U.S. President Donald Trump then threatened 100% more tariffs on Chinese goods, a move which was followed by Beijing asserting its rare earths restrictions are a “legitimate” measure.
“The root cause of the tension is due to a lack of mutual trust,” Larry Hu, chief China economist at Macquarie, said in a note Monday.
“During the London talks in June, both countries agreed to a deal involving ‘rare earth for tech,'” he said. “Unsurprisingly, both feel betrayed when they perceive the other as acting in bad faith.”
The escalation in trade tensions is a result of a “misperception” on both sides, Hu said. Here’s how he and other analysts say both sides are seeing things differently.
Beijing may feel it needs to respond to a new U.S. rule released on Sept. 29 which expands the scope of export controls to majority owned subsidiaries of companies on a U.S. list — while Washington likely saw the change as a technical adjustment.
On the flip side, Beijing may see its rare earths restrictions as mimicking Washington’s wide-reaching effort to restrict China’s access to high-end tech, while the U.S. perception is that the restrictions are a negotiation strategy that aims to create leverage before a potential meeting between the two countries’ presidents.
U.S. chipmakers at risk
There’s a clear impact for businesses, reflected in part by Friday’s stock market sell-off.
“One rule in the new package requires that companies obtain a license from China’s Commerce Ministry to export products manufactured anywhere in the world if that product contains Chinese rare earths worth at least 0.1% of the product’s value,” Gabriel Wildau, managing director at Teneo, said in a note Saturday. “In theory, this rule could force companies like Nvidia, TSMC and Intel to obtain permission from Chinese regulators to sell their products inside the U.S.”
Wildau pointed out that “this Chinese rule is modeled after the U.S. Commerce Department’s own ‘foreign direct product rule,’ which imposes a license requirement on any product made with U.S. origin technology, no matter where the product is produced.”
Chinese stocks fell Monday following the U.S. stock market decline, although U.S. stock futures rebounded on hopes the tensions weren’t as bad as initially feared.
“On the specific episode the market is focused on, the two sides may still return to the table to find a short-term fix. However, it won’t be a lasting solution,” said Jianwei Xu, senior economist for Greater China at Natixis. “The trust between them is already gone.”
Trump has signaled he would meet with Chinese President Xi Jinping at the APEC meeting in South Korea at the end of October. China has yet to confirm or deny such plans.
The view from within the Asian country is that the U.S. will maintain its pressure on China, even as the two countries’ leaders are expected to meet, said Liu Weidong, research fellow at a state-affiliated think tank, the Chinese Academy of Social Sciences’ Institute of American Studies.
“History has shown that U.S. pressure is ineffective, and will only lead to a more confrontational relationship between China and the U.S.,” Liu said in comments translated by CNBC.
He cast the latest rare earths restrictions as a demonstration of China’s efforts to warn “unfriendly” foreign companies while welcoming others, and as an attempt to maintain bilateral stability through “moderate and controlled countermeasures.”
Trump and Xi spoke over the phone last month, but have yet to meet in person since the U.S. leader began his term in January. Trump previously indicated that he might visit China next year, followed by Xi traveling to the U.S.
The two countries are still negotiating since the effective dates for some of the announced measures are set for after the APEC summit in South Korea, said Nomura’s Chief China Economist Ting Lu.
“Despite mounting tensions, there remain opportunities for diplomatic resolution, as the timeline creates a strategic buffer: Trump’s tariff implementation, which is scheduled for 1 November, precedes Beijing’s 1 December deadline for rare-earth export restrictions by a full month.”
Cybersecurity and enterprise software stocks have been market dogs in 2026, with fears that AI will wipe out a wide range of companies in the enterprise space dominating the narrative. But they snapped a brutal losing streak this past week, joining in the broader market rally that saw all losses from the U.S.-Iran war regained by the Dow Jones Industrial Average and S&P 500.
Cybersecurity has been “a victim of some of the AI-related headlines,” Christian Magoon, Amplify ETFs CEO, said on this week’s “ETF Edge.”
It wasn’t just niche cybersecurity names. Take Microsoft, for example, which was recently down close to 20% for the year. Its shares surged last week by 13%.
A big driver of the pummeling in software stocks was a rotation within tech by investors to AI infrastructure and semiconductors and some other names in large-cap tech, Magoon said, and since cybersecurity stocks and ETFs are heavily weighted towards software companies, they were left behind even as those businesses continue to grow on a fundamental basis.
But Wall Street now has become more bullish with the stocks at lower levels. Brent Thill, Jefferies tech analyst, said last week that the worst may be over for software stocks. “I think that this concept that software is dead, and then Anthropic and OpenAI are going to kill the entire industry, is just over-exaggerated,” he said on CNBC’s “Money Movers” on Wednesday.
“Big Short” investor Michael Burry wrote in a Substack post on Wednesday that he is becoming bullish about software stocks after the recent selloff. “Software stocks remain interesting because of accelerated extreme declines last week arising from a reflexive positive feedback loop between falling software stocks and changes in the market for their bank debt,” he wrote.
The Global X Cybersecurity ETF (BUG), is down about 12% since the beginning of the year, with top holdings including Palo Alto Networks, Fortinet, Akamai Technologies and CrowdStrike. But BUG was up 12% last week. The First Trust NASDAQ Cybersecurity ETF (CIBR) is down 6% for the year, but up 9% in the past week.
Piper Sandler analyst Rob Owens reiterated an “overweight” rating on Palo Alto Networks which helped the stock pop 7% — it is now down roughly 6% on the year. Its peers saw similar moves, including CrowdStrike.
Performance of Global X cybersecurity ETF versus S&P 500 over past one-year period.
Magoon said expectations may have become too high in cybersecurity, and with a crowding effect among investors, solid results were not enough to to push stocks higher. But the down-and-then-back-up 2026 for the sector is also a reminder that when stocks fall sharply in a short period of time, opportunity may knock.
“Once you’re down over 10% in some of these subsectors, you start to see the contrarians start to say, ‘well, maybe I’ll take a look at this,'” Magoon said.
He said AI does add both opportunity and uncertainty to the cybersecurity equation, increasing demand but also introducing new competition. But he added, “I think the dip is good to buy in an AI-driven world,” specifically because the risks to companies may lead to more M&A in cyber names that benefits the stocks.
For now, investors may look for opportunity on the margins rather than rush back into beaten-up tech names. “I think investors are still going to remain underweight software,” Thill said.
But Magoon advises investors to at least take the reminder to keep an eye on niches in the market during pronounced downturns. “The best-performing are often the least bought and do the best over the next 12 months versus late-in-the-game piling on,” he said.
While that may have been a mindset that worked against the last investors into cybersecurity and enterprise software in mid-2025 when the negative sentiment started building, at least for now, it’s started working for the stocks in the sector again.
Meanwhile, this year’s biggest winner is also a good example of what can be an extended trade in either a bullish or bearish direction. Last year, institutional ownership of energy was at multi-year lows, Magoon said, referencing Bank of America data. “Reverse sentiment can be a great indicator,” he said.
But he cautioned that any selective buying of stocks that have dipped does have to contend with the risk that there is a potentially bigger drawdown in the market yet to come in 2026. That is because midterm election years historically have been marked by large drawdowns. “If you think it is bad right now, it could get a lot worse,” Magoon said. But he added that there’s a silver-lining in that data, too, for the patient investor. The market has posted very strong 12-month returns after midterm election drawdowns end. So, for investors with a longer-term time horizon and no need for short-term liquidity, Magoon said, “stick in there.”
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New innovation in the exchange-traded fund industry could come at a cost to investors during extreme conditions.
According to MFS Investment Management’s Jamie Harrison, ETFs involved in increasingly complex derivatives and less transparent markets may be in uncharted territory when it comes to violent downturns.
“Those would be something that you’d want to keep an eye on as volatility ramps up,” the firm’s head of ETF capital markets told CNBC’s “ETF Edge” this week. “As innovation continues to increase at a rapid pace within the ETF wrapper, [it’s] definitely something that we advise our clients to be really front-footed about… Lack of transparency could absolutely be an issue if we’re going to start seeing some deep sell-offs.”
His firm has been around since 1924 and is known for inventing the open-end mutual fund. Last year, ETF.com named MFS Investment Management as the best new ETF issuer.
“It’s important to do due diligence on the portfolio,” he said. “Having a firm that has deep partnerships, deep bench of subject matter experts that plays with the A-team in terms of the Street and liquidity providers available [are] super important.”
Liquidity as the real issue?
Harrison suggested the real issue is liquidity, particularly during a steep sell-off.
“We’ve all seen the news and the headlines around potential private credit ETFs. That picture becomes much more murky,” he added. “It’s up to advisors, to investors [and] to clients to really dig in and look under the hood and engage with their issuers.”
He noted investors will have to ask some tough questions.
“What does this look like in a 20% drawdown? How does this liquidity facility work? Am I going to be able to get in? Am I going to be able to get out? And if I’m able to get out, am I able to get out at a price that’s tight to NAV [net asset value], and what’s the infrastructure at your shop in terms of managing that consideration for me,” said Harrison.
Amplify ETFs’ Christian Magoon is also concerned about these newer ETF strategies could weather a monster drawdown. He listed private credit as a red flag.
“If your ETF owns private credit, I think it’s worth taking a look at, kind of what the standards are around liquidity and how that ETF is trading, because that should be a bit of a mismatch between the trading pace of ETFs and the underlying asset,” the firm’s CEO said in the same interview.
Magoon also highlighted potential issues surrounding equity-linked notes. The notes provide fixed income security while offering potentially higher returns linked to stocks or equity indexes.
“Those could potentially be in stress due to redemptions and the underlying credit risk. That’s another kind of unique derivative,” Magoon said. “I would very closely look at any ETF that has equity-linked notes should we get into a major drawdown or there be a contagion in private credit or something related to the banking system.”
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