QuickHit: What happens to markets if China invades Taiwan? (Part 1)

We're not saying that China is going to invade Taiwan, but what if it is to happen? What will be the impact to markets?

Mike Green is the chief strategist and portfolio manager for an ETF firm called Simplify Asset Management. They specialize in derivative overlays and derivative structures that modify the traditional market exposures. Their flagship products are things like US equities with downside protection.

Show Notes

TN: So today we hear or any day, pick a day. We hear that China is invading Taiwan. What are the first things that come to your mind as the news crosses the wires?

MG: Well, I think there’s a couple of things that are really important about the question of is China invading Taiwan, right. And so what we have seen very clearly, and this is fact, not speculation, is a dramatic escalation of China’s incursion on what would traditionally be thought of as Taiwan sovereignty or independence. Right.

We’ve seen a dramatic increase in boats transitioning across the international marine borders. We have seen a dramatic increase in incursion of both fighter jets and bombers into Taiwanese airspace. And in general, the strategy that you see China engaged in is what is typically thought of as a precursor to an invasion. They’re effectively forcing Taiwan to maintain alertness and readiness, which slowly degrades the quality of defenses.

If you have to constantly scramble jets, there’s only so many hours that you can actually have them in the air. There’s only so many hours you can have pilots operating before their capability deteriorates. That is very clearly what is in play here.

Now, it’s an unknown question whether they go to the next step, whether they take what is currently a largely psychological and relative resource advantage to degrade Taiwan’s capabilities, whether they turn that kinetic as compared to hoping for a psychological collapse where Taiwan effectively decides to sue for the best possible deal they can get is unclear.

And I think that’s really what we’re all debating. I mean, China has come out very clearly. Others have made this observation, and it’s not dissimilar to my former employer, Peter Thiel’s observation about Donald Trump, right. That everyone takes him literally, but not seriously. I would flip that on its head. And everyone say everyone takes Xi seriously, but not literally when he says we will reunify with Taiwan in one form or another within the next five years.

And that’s the core of the question. Are they going to do this in a peaceful fashion? Are they going to do it in a kinetic military fashion? What are the ramifications of each of those two strategies and what’s the state of gameplay that is in place right now, as each side including the allies of Taiwan in the form of Japan, the United States, et cetera, evaluates how they want to respond to it.

TN: Right. What is that? What are those initial responses that you think happen, setting aside battle plans, of course. Honestly, I don’t believe that Min Def or DoD know 100% of whether this will happen or not. I think everything is a potential.

What do you think those reactions are initially in terms of, say, markets, investments, even things like trade? Those are like, what do you think happens right away?

MG: Well, I think there’s a couple of things that are worth hitting on. Right. So the first is why does China want Taiwan or why does it matter? Right. So one component is just the psychological final victory over the Republic, the Taiwanese Republic, what is known as the Republic of China outside of the area.

When you think about that dynamic, this is a final victory that would allow Xi to place himself permanently on par with the founders of the Chinese Communist state. Right. The Mao’s, et cetera, of the world. So this is a huge accomplishment.

I think there’s a huge misunderstanding that the objective is to obtain the semiconductor resources, right. To me that feels, one, extremely unlikely to expect that they could do that successfully, and two, I’m not sure it’s actually entirely relevant. Right. But that does then speak to the indications that the game is being taken much more seriously.

[steveholloway]

Fascinating interview. I rarely watch CI videos because of the hyper-annoying interruptions, but glad I persevered with this one.

[tradingforbeginners]

I must have an emergency plan in case this happens

[dwaynehunt]

Just what I needed for my monday morning macro fix.

[william]

Great interview but 2 ads within the first 12 minutes?

[cjfinance]

I lived 4 great years in China, 2014 to 2018.

Before arriving I was pretty sure an HK brutal takeover would happen, and then there would be disruption and possibly an invasion of Taiwan and then probably South Korea via the North...

The South China sea artificial Islands (long ignored by the US for corporate reasons) were completed.

At that point it would have been naive to ignore the giant flexing its muscles. A few like General Spalding raised alarms, but were ignored by politicians, the corporate and most of the financial world.

Arriving in BJ in 2014 I realised after just a few weeks that my predictions were not only accute but they would probably happen way sooner than I initially thought. I watched the 2017 PLA troups crossing proudly Beijing as I would have watch the German army in Berlin in 1938...

The election of Trump was a relief compared to the laissez faire of previous administrations. And it destabilised the CCP.

China's objectives hasn't change at all since Mao, and the Emperor Xi can be quite stubborn itself.

Taiwan will fall into the CCP's hands unless we either:
- strike first, which we'll never do, and the CCP knows it.
- open the quad alliance to Europe and we start treating Russia as a necessary allied in this loser game.

Regarding Russia, I don't think Russia situation is clearly understood here. China clearly claims Vladivistok and other parts of Siberia. The west ignoring this, and China's huge needs for natural resources, is not helping Russia nor ourselves. When China will have invaded Taiwan, it will turn its attention towards the North.

This is were lies the only opportunity for the west: make an alliance with Russia on the count that the west would help Russia if invaded/bullied by China, which I am sure they know perfectly well can and will happen.

It would create a new equilibrium were China would understand that it is better to wait (bid their time) again... Until they succesfully divide the rest of the world and controle our medias, unis, youth politics etc... all over again 🤷

China will NEVER back-off or be tamed unless divided into 5 or more competing countries. This is what should be our strategic objective for the next 50 years.

Here are my personal views.

[vinylrebellion]

China invasion. 1. 10000 cheap drones similar to Iranian shaheed, expends all Sam munitions, drones target Sam and other coastal defences. 2. Fishing boats disguised launch invasion force of 5000 jetskis, to rush Coast in darkeness. 3. Force of 10000 undercover operatives surround chip manufacturing plants, and government centers. 4. subs pop up start slamming coastal defence. The main objective to expend expensive Taiwanese munitions with cheap targets like drones and jetskis on day one. I believe Xi already in talks with Russia, as US EU forces partially occupied there, and steadily burning nato munitions. Can nato really afford war on 2 fronts?

[milhousevanhouten]

Where can I read that TSMC's Arizona plant could have 5x of what it manufactures in Taiwan ? I've read only 20%

[longjiangzhao]

This man is good, a lot he talk make sense. Just he think take taiwan will like take afghanistan is laughable. He do not understand the mindset of Chinese. People in Taiwan admit or not are Chinese. Chinese will not fight unless it is about live or die. Once PLA defeat Taiwan military on ground, Taiwan will not fight any more. There is no point fighting a losing war against your same race. For what? For those who is on top? Why losing your life for someone on top and none of my business, either Tsai or Xi make no big difference. They will not die for that. It's so not Chinese.