U.S. Markets open in 4 hrs 5 mins

China could unleash this weapon on the financial markets to wallop the US

Brian Sozzi
Editor-at-Large

China best keep from adding one weapon to its arsenal in its escalating trade war with President Donald Trump. Because if it doesn’t, the blowback on its own financial markets — and the globe more broadly — could be severe and painful.

“They [China] could start selling Treasuries which is what they use to benchmark the yuan to the dollar and that would be the doomsday scenario. That would be the ultimate weaponization — that would be a weapon of mass destruction,” Javier David, an editor at Yahoo Finance, explained on Yahoo Finance’s The First Trade, moments after China rocked financial markets on Monday by devaluing its currency the yuan.

In some circles on Wall Street, China’s currency move was labeled a “weaponization” of its currency. As far as team Trump’s labeling of it, it was more a manipulation.

At $1.1 trillion, China is the largest holder of U.S. Treasury debt — just narrowly ahead of Japan. While China has reduced its holdings of Treasuries in recent years, any amount of pronounced dumping could send U.S. interest rates skyrocketing. More supply of Treasuries on the market, prices down, yields up is the good ole’ equation.

In turn, those much higher rates would materially raise borrowing costs for the heavily indebted U.S. and put its investment grade credit rating at risk.

And while that’s happening, China could easily see a flight of capital out of its own country, higher borrowing costs and a credit rating downgrade of its own. Again, not welcome scenarios for any party involved.

An unlikely move

“Don't be surprised if the topic of China's U.S. Treasury pile makes headlines,” points out Societe Generale strategist Kit Juckes. “Mutterings of Chinese Treasury selling would be a good catalyst for a bond market correction.”

But most of the financial market pros Yahoo Finance has talked with on the matter say China is likely to stand pat with its Treasury holdings. For one, they argue China would have nowhere to put all the cash it raises by selling U.S. debt. And two, China is not inclined to create global market instability at a time in which it seeks to be taken more seriously by the developed world.

“I don’t think that’s really a concern [China dumping Treasuries] for us, we are still the best house on the block. I think it’s in the Chinese interest to continue to hold our investments for sure,” Van Leeuwen & Company founder Ken Van Leeuwen said on The First Trade.

Riverfront Chief Investment Strategist Chris Konstantinos also downplayed the risk from China selling U.S. Treasuries.

Brian Sozzi is an editor-at-large and co-host of The First Trade at Yahoo Finance. Follow him on Twitter @BrianSozzi

Yahoo Finance's live morning show.

Read the latest financial and business news from Yahoo Finance

Follow Yahoo Finance on Twitter, Facebook, Instagram, Flipboard, SmartNews, LinkedIn, YouTube, and reddit.