Billions of dollars in GDP are on the line as the U.S. and China battle for 5G supremacy — and how Huawei may affect the outcome

On October 4th, 1957, the Soviet Union launched the first satellite into space, resulting in U.S. fears of Soviet nuclear capabilities. With this began the great Space Race.

Our older readers may remember it as a dramatic battle that took on a “good versus evil” tone, as the Americans and Soviets sought to prove their technological and military superiority.

Today, the U.S. finds itself in another innovation race — the battle for 5G supremacy against China. Yet its outcome will likely have vastly-greater significance than that of our race to the moon.

That’s because the winner will see billions added in GDP. Beyond that, how this drama unfolds will affect how quickly you and I are able to enjoy the technologic advancements of tomorrow, as well as the degree to which our portfolios are able to benefit.

Whether you realize it or not, you’re seeing this battle play out in the news right now with embattled Chinese telecom company, Huawei. How it resolves will likely have an immediate impact on the U.S./China trade talks — and therefore the stock market — as well as a permanent impact on the technological supremacy of tomorrow — and by extension, the U.S. economy.

Today, let’s dig deeper into the 5G race and look at exactly what’s at stake.

***What exactly is 5G and why does it matter?

“5G” refers to internet connectivity and the scope and speeds at which we can upload and download data. Matt McCall, editor of Investment Opportunities, wrote the following to his subscribers about 5G back in the fall:

5G will in theory increase the level of speed to match that of human reflexes, so we’re talking the blink of an eye, perhaps literally.

The current 4G network clocks in at around 100 megabits per second, which is extremely fast compared to 3G. But once 5G rolls out, that number jumps to 10,000 megabits per second — or 100 times faster than the current speed!

The big breakthrough will be the ability to connect a lot more devices that share large amounts of data in real-time.

5G will connect cars, ships, homes, offices, and countless other items with software, sensors and the Cloud. This will enable the exchange of information and result in computer-based applications operating in the physical world. With no exaggeration, it will completely change how you and I live.

***To understand why the U.S. and China care so much about who wins, we need to look backward

Over the last three years, the U.S. won the battle of 4G. And the prize? In 2016 alone, the win increased U.S. GDP by $100 billion, created additional jobs, reduced consumer costs, and helped lead to the development of more advanced applications.

Yet that’s nothing compared to the prize for 5G supremacy …

From The Hill:

5G promises to have an even larger economic impact, as the technology is projected to enable more than $12 trillion in global economic output by 2035. Here at home, when the entire 5G value chain is considered, some expect the benefits to top $3.5 trillion, support 22 million jobs, and contribute the equivalent of the entire economy of India to real American global GDP.

With speeds up to 100 times faster than 4G, lag-time lowered by a factor of five, mobile data volumes 1,000 times greater than today, and lower drain on batteries for remote cellular devices, 5G will enable new capabilities and unlock innovation across the economy.

The U.S. government is all too aware of what’s on the line with 5G. From The Wall Street Journal:

President Trump is preparing an ambitious plan to ramp up the government’s role in speeding next-generation technologies such as 5G wireless and artificial intelligence, two key areas of competition with China.

In his State of the Union speech, Mr. Trump said he would work with lawmakers on an infrastructure package, one that would include “investments in the cutting-edge industries of the future.”

“This is not an option. This is a necessity,” the president said.

The U.S. doesn’t just fear falling behind technologically. There’s also the concern that if China wins the 5G race, it could use the equipment for espionage. You see, under China’s national intelligence law, any Chinese company could be compelled by Chinese intelligence agencies to install back doors in various devices. Think of this as eavesdropping or spyware software. The fear is this would enable the Chinese government to look over the shoulder of the U.S. government.

***What you’re not hearing is that the U.S. is behind right now

Again, from The Hill:

5G — the wireless industry’s version of the moon shot — won’t need rocket scientists or taxpayers’ dollars as the nation’s wireless providers are expected to invest $275 billion to build out 5G networks across the country.

That’s a lot of investment, but China and South Korea, the other top contestants, aren’t sitting still. China plans $400 billion in 5G-related investment over five years, and Beijing’s infrastructure spending and cell-tower building spree shows how China is outpacing the U.S. during 5G’s early stages.

China has invested $17.7 billion in capital so far and added more than 350,000 wireless facilities since 2015, giving the country about 1.9 million wireless sites. By comparison, there are approximately 200,000 sites in the United States. This means the United States has 0.4 sites compared to China’s 5.3 sites for every 10 square miles.

***With so much at stake, and with China’s spending outpacing that of the U.S., do you think the latest issues with Chinese telecom company, Huawei, are a coincidence?

For any readers unaware, Huawei is the largest telecom company in the world, with annual sales of more than $100 billion.

In recent weeks, the U.S. Department of Justice brought charges against Huawei and Meng Wanzhou, who is the company’s CFO and the daughter of its founder. The charges include bank and wire fraud, stealing trade secrets, and obstructing justice.

In addition to these charges, the U.S. has been pressuring allies not to buy Huawei equipment.

According to Reuters, one U.S. official said: “Going with an untrusted supplier like Huawei or ZTE will have all sorts of ramifications for your national security and … since we are military allies with almost all members of the European Union, on our national security as well … Huawei and ZTE … are ensconced in a one-party state where they are simply not equipped to resist directions from Beijing.”

***Looking broadly, how could a Huawei ban affect 5G and the technologies of tomorrow?

Huawei is a market leader. Therefore, if it’s banned, it will affect the global 5G rollout.

According to FT.com, a blanket ban on Huawei’s equipment would likely push back the launch of 5G by years. It would also add substantial costs for operators as they replace equipment, rather than upgrade current 4G equipment.

For example, Deutsche Telekom is Europe’s largest telecom company. It has reported that, if required to replace old Huawei equipment with new 3rd party equipment, it could delay plans to roll out new services by two to three years.

On the other hand, in our February 1st Digest, we noted how a Huawei ban might open the door for windfall profits for one of Matt McCall’s recommendations — Ericsson. From that Digest:

In the first three quarters of 2018, Huawei dominated the global telecom-equipment market. It took in 28% of all revenues. Nokia came in second at 17%, with Ericsson at third with 13.4%. Pulling back more broadly, according to IHS Markit, Huawei accounted for 28% of the mobile infrastructure market last year. Ericsson and Nokia were at 27% and 23%, respectively.

With Huawei claiming so much market share, if multiple governments around the globe ban the use of its telecom equipment, that could create a significant space in the market for other 5G players to fill.

By the way, if you’re curious how the 5G race might be affecting certain stocks in your portfolio, here’s a list of the current 5G leaders, relative to how many 5G-related patents they have (patents will play a huge role in market leadership … in a future Digest, we’ll dig deeper into these market participants):

It’s not yet clear how this Huawei situation will play out. But the GSMA (the mobile phone industry’s trade body) will discuss a collective industry response to the pressure to ban Huawei at the Mobile World Congress at the end of February.

***In the immediate short-term, the Huawei situation is adding pressure to U.S./China trade talks

Yesterday, the Dow gave up more than 220 points after Larry Kudlow, the director of the White House’s National Economic Council, said “The president has indicated that he’s optimistic with respect to a potential trade deal, but we’ve got a pretty sizable distance to go here.”

As I write on Friday, it’s down another 215 points after news has come out there President Trump will likely sign an executive order banning Chinese telecom equipment from U.S. wireless networks next week.

How big of a role is the Huawei arrest playing in these labored trade talks?

From Global News:

“It would be ‘naive in the extreme’ to think that the Huawei controversy can be divorced from the U.S.-China trade discussion,” said Wesley Wark, a University of Ottawa professor who specializes in matters of national security and foreign relations.

“Huawei has been made exhibit No. 1 in a China-U.S. trade war and struggle for technological supremacy, and the criminal indictments are just kind of on the ground floor,” he said.

If this round of talks fails, it’s expected the U.S. will increase the levy on $200 billion worth of Chinese goods from 10% to 25% on March 2. If that happens, expect volatility in the U.S. stock market. Just how much is unclear.

But whatever happens in that situation, it will be nothing compared to the opportunity cost on the U.S. GDP if we lose the overall 5G race.

We’ll continue keeping you up to date. You can also subscribe to Matt McCall’s Investment Opportunities for his ideas on how to play 5G.

Have a good evening,

Jeff Remsburg