EQUITIES UPDATE: Tension in the South China Sea means opportunity for investors

Paul Krake

BY: Cindy Ponder-Budd

This week, China will hold live-fire naval exercises in the Taiwan Straits amid heightened tensions with the US over trade, the South China Seas, and the White House’s recent policies to support the Taiwanese government. Since President Trump took office, there has been a quiet escalation of military activities in the region by both China and the US and an uptick in rhetoric by the two powers concerning Taiwan

Last week, the Chinese held the largest naval parade in the South China Sea since the founding of the People’s Republic displaying the capabilities of 10,000 personnel, 48 ships and submarines, 76 fighter jets and its first aircraft carrier. This display follows an increase in activity this year with the US sailing two aircraft carriers through the disputed waters in the past two months, China holding its largest exercises ever in late March and the PLA installing communications-jamming equipment on one of its artificial islands last week.

Tensions have also increased over Taiwan. In 2013, President Xi announced that the separation of China and Taiwan, “cannot be passed from generation to generation.” This led many Beijing political watchers to believe that reunification will be a foreign policy priority for Mr. Xi, either peacefully or by force.

Complicating Mr. Xi’s goal was the 2016 election of President Tsai Ing-wen, who represents Taiwan’s pro-independence Democratic Progressive Party (DPP). Beijing fears that Mrs. Tsai wants formal independence for the island as she refuses to support the “One China” Policy.

Since then, China’s hostility towards Taiwan, both on the diplomatic and military front, have heightened. Naval exercises around Taiwan in the past year have increased dramatically with the one scheduled for this week the first time they will enter the Taiwan Straits since 2015. Chinese rhetoric against Taiwan has also sharpened with President Xi in March warning that the island would face the “punishment of history” if it attempted to declare independence.

Beijing is also reacting to an increase in support for Taiwan from the Trump White House. In March, the President signed the “Taiwan Travel Act” after it passed unanimously in both the Senate and House. This law is promoting the interaction of US and Taiwanese government officials, of all ranks. Also, military procurement is increasing between the two countries. Last year, President Trump approving a $1.4bn arms package and on April 9, President Tsai announced that the US will allow the country to buy sensitive technology for its domestic submarine program. Finally, the verbal posturing from the US has risen with the appointment of ultra-hawk John Bolton as National Security Adviser. In an article he contributed to the Wall Street Journal, he suggested that the US could deploy troops to Taiwan, or fully recognize the country, if China didn’t cease its activities in the South China Sea.

After years of relative stability, it appears as if the Taiwan Straits might become a diplomatic issue again. With China also increasing its activities in the South China Sea and its military capabilities, there are reasons for other Asian countries to be concerned. Last month, China’s Finance Ministry said that the defense budget will increase by 8% with analysts expecting that a good portion will be used to upgrade its naval capabilities across the board.

The VFTP Global Thematic Portfolio holds a basket of global defense stocks expecting that worldwide defense spending will increase in the coming years as China’s military capabilities grow; and other powers try to decrease their reliance on the US.


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