Written by Jim Cramer

Tens, twos and tariffs. Those are the three Ts, the T’s that are trouble with a capital T. And here T rhymes with P and it stands for a deep dark pool that perennially threatens any rally as we start the second half of the year.

Now the cognoscenti, those who live and breathe the market, are more than aware of the three Ts but I want to put them in a context that will make you understand why we are drowning in them and why perhaps we shouldn’t or at least we can be thrown a life raft that will make the pool more palatable if not actually buoyant.

First let’s deal with the tens and twos, something you may have heard about, something you may recognize as being nefarious, but I think might be less frightening than most.

 Right now, you get 2.5% if you buy two-year paper as they call it, or two-year notes, the more retail way of saying it. If you buy ten-year Treasurys you get 2.85%. That’s not a very big difference. In fact it is highly unusual. It would be more like it to see the two year to be at 2.5% and the ten year at 3.5%. But that would be odd given that the 30 year Treasury is currently at 2.9% and you shouldn’t be rewarded more for going out ten years than thirty years as there is far more risk that occurs over 30 years’ time.

Why is this arcane stuff so important? First of all, it’s my job to make the arcane come alive, not yours, so here goes.

The U.S. Treasury market is the biggest in the world. It is far bigger than the stock market. When I got to Goldman Sachs in 1983 I was chiefly interested in stocks. But the firm was chiefly interested in bonds, so I went with the chiefs. I didn’t understand the obsession with bonds initially, but I was working with rich people and institutions and the institutions always bought tons of bonds because they were conservative and rich people bought bonds because you only need to get rich once. Both groups liked Treasurys because they are considered risk-free and are backed by the full faith and credit of the U.S. government. Stop being cynical. That’s a heck of a lot better, say, than bonds backed by the government of Italy where I just came from.

Bonds talk. They say things and not in tongues. I learned to speak this language at Goldman Sachs. They had fabulous translators. Trust me on this.

Here’s what bonds are saying right now. They are saying that with the two year Treasury so close to the ten year Treasury we are almost experiencing a flat yield curve. Further, when you have a flat yield curve that usually presages a recession. I know, big leap of faith. It’s historically true.

What would send us over the edge? If the Federal Reserve were to raise rates again soon it is possible that the two year Treasury would indeed yield the same return at the ten year. Further, as you can imagine, banks can make a lot of money off your deposits but they can’t loan longer-term at rates that make a lot of sense economically.

So, let’s go full circle. Bonds are screaming “we are about to go into a recession if the Fed keeps raising rates and banks, about a fifth of the S&P 500, can’t make much money on their core business: lending.

Now before you say this has to be a fantasy consider that the banks and the homebuilders have been horrendous investments of late. Many are down huge off their highs. Does it make sense? Not right now. Banks are making tons of money off investing your deposits and paying you very little. Homebuilders are crushing it with a shortage of houses and lots of pricing flexibility and cheap mortgage money.

Nevertheless, the playbook, the universal understanding of history, tells big time money managers they must sell these stocks. Housing punches well above its weight, so even though it’s about 10% of the U.S. economy there are so many companies involved with housing that they are all feeling it. Despite the fact that the banks almost universally got a clean bill of health from the Feds just last week, the playbook says sell, sell, sell.

And so they do.

I have long preached that the financials are the most important group in the market because banks are the lifeblood of the system. When they go down I expect the rest of the market to follow.

That’s been happening, too, with exceptions like today, being a total rarity. I don’t expect this positive environment to continue and I think this is just a relief rally. Only big selling of ten year Treasurys, something I don’t anticipate by anyone in size, or a pause from the Fed on interest rate hikes would change the picture positively. I wish the Chinese and the Fed would sell their trillions of dollars in bonds but neither has shown any inclination to do so.

Now how about the third T, tariffs. Tomorrow the first of the tariffs against the Chinese go through and you can expect the Chinese immediately to retaliate. Initially the Chinese are going to retaliate against farmers. But I figure we will just write the farmers a check for lost sales and there may not be much loss, if at all, because the world is chronically short of foodstuffs like our farmers grow.

Still, the real issue is hostility and we see that all over the map with the Chinese. The Chinese have held up Qualcomm’s (QCOM) purchase of NXP (NXPI) . They have just apparently banned sales of Micron’s (MU) DRAM semiconductors, hence the dramatic decline in that stock. They have the ability to start boycotts of pretty much anything, Starbucks (SBUX) coffee, Yum China’s Kentucky Fried Chicken (YUMC) , even Apple (AAPL) despite the fact that Apple’s one of their largest employers.

We import about five times what they take from us. So they have a lot more risk than we do, especially with their stock market looking like it is failing apart. But we have stock market risk ourselves and the industrials have been acting horrendously because of China.

It gets worse. The real trouble now may be tariffs on cars, something that would be aimed at the export happy Germans. Right now they have much larger tariffs on our cars in Europe than we have on theirs. This rally today is in large part because of talk of a deal to lower tariffs for everyone, the so-called zero-tariff approach that President Trump wants. We have no idea if there’s even a chance of a deal with the Europeans. Our so-called trading partners, especially Germany, have shown a real reluctance to level the playing field with us. They, again, have much more to lose than we do. However, the playbook for the big institutions that run money in this country is quite clear: in a trade war sell all industrials particularly anything related to autos which are the chief trade battleground. So that group and all of its myriad suppliers have been totally hapless and have become millstone’s around the market’s neck.

Now let’s put all of the T’s together and surmise what they are saying. Because of the twos and the tens you can’t own anything connected with housing or the banks. Because of the trade war you can’t own anything connected with industrials, including techs, and the autos.

What does that leave us with? How about small cap stocks that have nothing to do with international trade but thrive when employment is strong in this country, as it is now? How about companies that don’t need the economies of the world to have global growth, mainly the health care stocks. Normally I would say the consumer packaged goods companies, too, but their earnings have been terrible.

Today’s a rare reprieve from what’s working and what’s not. Because I don’t expect the Fed to stop raising rates, large sellers of bonds to materialize or President Trump to change his mind about tariffs — regardless of the collateral damage to the stock market – I have to temper my bullishness. There’s just not enough of the market that can go higher on a sustained basis right now and until things change, take days like today as reprieves, not the norm and enjoy them while you can, meaning sell something in case things go back to the way they were 48 hours ago.

Thanks for reading!

Carissa Abazia

@CarissaMortgage