Assessing Geopolitical Risk in the Taiwan Strait: Implications for U.S.-China Relations and Global Markets

The Taiwan Strait has long been a focal point of U.S.-China strategic competition, but recent developments—particularly the re-election of Donald Trump in 2024—have intensified its geopolitical and economic significance. As the U.S. recalibrates its approach to Taiwan's security, trade, and diplomatic engagement, investors must navigate a landscape where defense, technology, and regional stability ETFs are increasingly intertwined with macroeconomic and geopolitical risks. This article examines how shifting U.S. policy under Trump's second term, coupled with China's assertive posturing, is reshaping asset allocation strategies for investors seeking to hedge against volatility while capitalizing on emerging opportunities.

Defense ETFs: A New Era of Strategic Modernization

The U.S. defense sector has emerged as a cornerstone of global capital flows, driven by escalating tensions in the Indo-Pacific and Trump's proposed $1 trillion defense budget for 2026. This represents a 13% increase from FY 2025 and signals a sustained commitment to military modernization. Defense ETFs such as the Global X Defense Tech ETF (SHLD) and iShares U.S. Aerospace & Defense ETF (ITA) have surged by over 60% year-to-date, reflecting investor confidence in the sector's resilience.

The rationale for this outperformance is twofold. First, Trump's emphasis on burden-sharing with allies—particularly Taiwan—has shifted U.S. defense support toward transactional frameworks, encouraging increased local investment in military capabilities. Second, the normalization of naval transits through the Taiwan Strait and the deployment of advanced technologies like AI-driven surveillance systems have elevated demand for defense contractors. For example, Northrop Grumman's $541 million contract for the Glide Phase Interceptor and General Dynamics' $5.57 billion Air Force deal highlight the sector's growth potential.

Investors should consider defense ETFs as a core allocation, particularly those with exposure to next-generation technologies such as hypersonic weapons, cyber defense, and autonomous systems. However, sector concentration and regulatory risks—such as potential trade barriers with China—warrant careful diversification.

Technology ETFs: Decoupling and the AI Arms Race

The U.S.-China technology decoupling has accelerated under Trump's re-election, with semiconductor and AI sectors at the forefront. The administration's focus on reshoring critical supply chains and restricting Chinese access to advanced technologies has driven demand for U.S.-based tech firms. ETFs like the Communication Services Select Sector SPDR Fund (XLC), which includes AI-driven giants like Meta and Alphabet, have attracted $1.567 billion in August 2025 alone.

The strategic relevance of technology ETFs extends beyond pure growth. As China's military modernization relies heavily on AI and 5G infrastructure, U.S. tech firms are positioned to dominate a global arms race. For instance, the Trump administration's push to export advanced chips to Gulf states and Japan underscores the geopolitical utility of technology. Investors should prioritize ETFs with exposure to cybersecurity, quantum computing, and AI infrastructure, as these sectors are likely to receive sustained policy support.

Regional Stability ETFs: Hedging Against Geopolitical Uncertainty

While defense and tech ETFs offer growth opportunities, regional stability ETFs provide a critical hedge against the volatility of U.S.-China-Taiwan tensions. In 2025, Indo-Pacific equity ETFs attracted $40.2 billion in inflows, with Equity Taiwan ETFs alone drawing $19.8 billion. This trend reflects a “home bias” strategy, where investors favor markets less exposed to direct conflict and more aligned with localized economic growth.

The strategic relevance of these ETFs is amplified by their alignment with supply chain resilience. As U.S. and European markets seek to reduce dependency on China, countries like South Korea and Taiwan are emerging as critical nodes in global manufacturing. For example, Yuanta Funds and Samsung-led ETFs have attracted $10.8 billion and $6.6 billion in inflows, respectively, highlighting the appeal of localized innovation in semiconductors and robotics.

Investors should consider regional stability ETFs as a defensive allocation, particularly those with exposure to sectors like advanced manufacturing and AI infrastructure. These ETFs offer both growth potential and insulation from U.S.-centric trade policy shocks.

Strategic Asset Allocation: Balancing Risk and Reward

The interplay of defense, technology, and regional stability ETFs demands a nuanced approach to asset allocation. A diversified portfolio should include:
1. Core Defense Exposure: ETFs like SHLD and ITA to capitalize on U.S. military modernization.
2. Growth-Oriented Tech Allocations: XLC and AI-focused ETFs to benefit from the decoupling narrative.
3. Defensive Regional ETFs: Equity Taiwan and South Korea ETFs to hedge against geopolitical volatility.

However, investors must remain vigilant about potential risks. For instance, Trump's transactional approach to U.S.-Taiwan relations could lead to abrupt policy shifts, while China's retaliatory measures—such as tariffs on U.S. imports—may disrupt trade-dependent sectors. Additionally, the cybersecurity landscape remains fraught with threats, as evidenced by recent state-sponsored intrusions into U.S. political infrastructure.

Conclusion: Navigating a Fractured Global Order

The Taiwan Strait's geopolitical significance is no longer confined to military posturing; it is a catalyst for reshaping global capital flows and investment strategies. As U.S. policy under Trump's re-election prioritizes defense burden-sharing, technological decoupling, and regional stability, investors must adapt to a landscape where traditional asset classes are increasingly influenced by strategic competition.

A well-structured portfolio should balance exposure to high-growth defense and tech ETFs with defensive allocations in regional stability funds. By doing so, investors can hedge against the uncertainties of U.S.-China-Taiwan tensions while positioning themselves to benefit from the long-term trends driving the Indo-Pacific's economic and technological ascent. In an era of persistent geopolitical risk, strategic asset allocation is not just a necessity—it is a competitive advantage.