Wall Street is becoming convinced the trade war is here to stay and will only get worse

As stocks plunged Thursday, Wall Street inboxes were filled to the brim with predictions that the White House would go full throttle and slap tariffs on all Chinese goods, in an escalating and prolonged trade war that could begin to hit consumers and slow global growth.

The Dow lost more than 400 points at its lows Thursday, as both the U.S. and China appeared to dig in on their positions. No talks are now scheduled, and China’s Ministry of Commerce on Thursday warned the U.S. to act with “sincerity” and change its “wrong actions.”

A number of firms released new reports warning the trade war was getting worse including economists and strategists from Nomura, Goldman Sachs and Bank of America.

“I still think the risk is a full-blown trade war and it’s beginning to look increasingly like one,” said Ed Keon, chief investment strategist at QMA.

Energy led the market lower, but tech names were hit hard, with the S&P technology sector losing more than 3.3%. Tech names are in the crosshairs of the trade war as the U.S. also seeks to thwart Chinese acquisition of U.S. intellectual property. It has also blacklisted China telecom firm Huawei, preventing it from buying U.S. components. The VanEck Vector Semiconductor ETF SMH was down 2.5%, and has now fallen nearly 15% for the month of May.

Keon said if the trade war escalates, it could push the stock market into a correction of as much as 10% or more. He has moved more assets into cash and has a larger position in Treasury futures, as he awaits a more certain outcome.

The U.S. moved forward May 10 with raising tariffs on $200 billion in Chinese goods to 25% from 10%, and President Donald Trump has said there could be tariffs on the roughly $300 billion in Chinese exports that do not yet have tariffs. Many of those goods go directly to consumers.

“We now think it is more likely than not that the Trump administration will move ahead with the final tranche of tariffs targeting roughly $300bn in imports from China at a 25% rate. Our baseline scenario assumes that the new tariffs go into effect at some point before end-2019, most likely in Q3 after a meeting between Presidents Trump and Xi at the G-20 in late June,” wrote Lewis Alexander, Nomura’s chief U.S. economist.

Alexander said there could be a short-term truce after the G-20 meeting, talks could break down later in the year, resulting in more tariffs. “Without a clear way forward during an intensifying 2020 US presidential election, we see a rising risk that tariffs will remain in effect through end-2020,” he wrote.

Bank of America fixed income strategists, in a note, said the trade war is turning out to be worse than they expected. They sliced their forecast for the 10-year Treasury yield to 2.6% at year-end, from a previous 3% based on trade war impacts and the easier policy of global central bankers, who are responding to slower growth, low inflation and concerns about financial conditions. The U.S. 10-year yield sank to 2.30% on Thursday, the lowest level since November 2017. Yields move opposite price.

“Following the latest tariff developments, our year ahead numbers imply a best case scenario for a resolution of the US-China trade dispute, which seems unrealistic. We cut our forecasts,” the Bank of America strategists wrote.

Over at Goldman Sachs, economists late Wednesday said they are still hoping for a trade deal, but if there is no deal, the hit to the U.S. and Chinese economies would be greater and inflation would rise.

“While we still think an agreement is more likely than not, it has become a close call and without additional signs of progress over the next few weeks, implementation of the next round of tariffs on $300 billion of imports from China could easily become the base case,” wrote Goldman economists.

The economists estimate that a further trade war escalation with an across-the-board 25% tariff on all imports from China would boost U.S. core PCE inflation by 0.6 percentage point, compared with a 0.2 percentage point boost now.

“Our model says that an across-the-board 25% tariff on China with a limited amount of retaliation would hit US GDP by 0.5% and Chinese GDP by 0.8%, all over a three-year period,” the economists wrote.

The sell-off in stocks deepened Thursday, and bond prices rose as fresh PMI data showed a slowdown in services and manufacturing activity in the U.S. and Europe. The U.S. PMI data showed the softest rise in new business since the series began in October 2009.

Keon said the views on Wall Street have been becoming more gloomy about the trade war, but he still believes the consensus expects a deal.

“At some point the fears will get fully reflected in the consensus, and at that point, the selling will have run its course. I still think there’s a fair amount of complacency about the possibility that something will get worked out, and both sides will pull back from the brink,” Keon said. “If it doesn’t get worked out, the market has more downside.”

CFRA analysts warned that the market may be too complacent about the trade talks. “The standstill began three weeks ago and discussions have ceased. There is an increasing chance for the situation to last longer and possibly escalate further,” the analysts wrote. They do not see a significant impact of the higher tariffs, now at 25%, if left in place for the balance of the year.

But the firm does see downside risk to second half earnings outlooks, given the fact that the increase in tariffs to 25% from 10% on $200 billion Chinese went into affect after most companies reported first quarter earnings and gave their outlooks. They also noted that retailers like Walmart and Macy’s plan to pass along price increases to consumers, to protect their margins.

CFRA said it is cautious on the market now. “We continue to like equities but prefer exposure to defensive and more value-oriented sectors over their growth counterparts right now,” the analysts wrote.

Keon said there are collateral risks as the U.S. and China find new outlets for their battle.

“It’s morphing into a more complex multi-faceted trade war,” he said, adding China could decide to make it difficult for the U.S. to acquire the rare earth minerals it mines. Those minerals are used in electronic equipment, and China is the biggest supplier.

“Each side is looking for where they have pressure points that give them leverage. We have a complicated relationship together so both sides have pressure points,” he said.

Technology is the latest battleground with the Huawei move by the U.S., and there are rising concerns that China will take aim at Apple, either with a consumer boycott or some regulatory move.

“Given the pressure we’re putting on their tech companies, it will end up hurting ours as well, through the supply chain. It’s a complicated situation. Until we get some clarity, tech may well be negatively affected,” said Keon.

The International Monetary Fund on Thursday weighed in on the trade war, saying that U.S. importers have borne the brunt of the tariffs.

“While the impact on global growth is relatively modest at this time, the latest escalation could significantly dent business and financial market sentiment, disrupt global supply chains, and jeopardize the projected recovery in global growth in 2019,” the IMF said. Tariffs on additional goods would hurt consumers in both the U.S. and China, it said.