The Effect of Protective Trade Policies on Equity Prices - A Demand System Approach

Abstract

Amid rising geopolitical tensions, the United States has adopted protective trade policies as a strategic tool. Yet, the financial costs of export controls and tariff-induced policy uncertainty are not well understood. This paper applies Koijen et al. (2024)'s asset-demand systems to study how U.S. institutional investors price firms' differential trade exposure and trade policy uncertainty (TPU). Using quarterly holdings data from 2004 to 2025, I estimate investor-level demand coefficients (preferences) on five trade-specific firm characteristics - direct and indirect export and import exposure to China, and firm-level TPU measured from earnings call transcripts. The estimated demand system reveals significant heterogeneity across investor types: small, active investors tilt away from China-exposed firms most aggressively, while large passive investors remain largely neutral. Following Liberation Day, all investors' aversion to TPU-exposed firms intensified, confirming that policy-shocks trigger a repricing of trade-risk. I apply the demand system to two counterfactual experiments. First, broad U.S.-China technological decoupling through expanded export controls would reduce affected firms' market capitalization by 6.1%, of which 5.1% is attributable to investor demand spillovers rather than direct revenue loss. Second, I decompose Liberation Day tariff-induced price changes into demand and uncertainty channels. Firms in the top quintile of TPU exposure experienced a combined 6.8% loss in market capitalization, with demand-repricing accounting for 3.6%. These findings highlight investors' portfolio rebalancing as a first-order mechanism of price movements that policy-makers must account for.