U.S. equity futures were little changed Thursday as traders awaited a midnight deadline for tariffs to increase.
China's Vice Premier Liu He is meeting with top U.S. trade officials Thursday evening in Washington, just hours before the new tariffs are set to go into effect. President Donald Trump set a 12:01 ET deadline to slap higher tariffs on $200 billion worth of Chinese goods. Trump later suggested that the White House could reverse that decision, based on progress in negotiations.
Hours before the meeting Thursday, the president said tariffs are an "excellent" alternative to a trade deal with China.
Peter Boockvar, chief investment officer of Bleakley Advisory Group, said the market reaction will be extreme in either direction, depending on the outcome of Thursday night's dinner.
"[Friday] is very binary. If you get a deal we're going to rally if you don't, we're going to take a really nice hit to the downside," Boockvar said.
Boockvar is predicting an extension of talks and a delay by the White House.
"I understand what they're trying to do by putting China's feet to the fire. But I have to believe that they'll extend the talks and they'll delay the tariffs," Boockvar said. "The president will talk tough, and we'll get a relief rally tomorrow."
Stocks extended this week's extreme sell-off on Thursday. The Dow Jones Industrial Average has fallen more than 650 points this week, while the S&P 500 has lost about 2.5% following the president's Sunday tweet threatening tariff hikes.
On Monday, stocks shook off the president's weekend tweet as a mere negotiation tactic. But tougher rhetoric by top U.S. trade representative Robert Lighthizer weighed on major indexes. The White House set a Friday deadline to strike a deal before existing tariffs increase from 10% to 25%.
Markets again seesawed after the president said it was possible to get a trade deal with China this week. The Dow fell nearly 450 points at its intraday low on Thursday before cutting losses and ending the day just 138 points down.
Dave Lafferty, chief market strategist at Natixis Investment Managers, said any positive market reaction is still likely to be underwhelming.
"This is the new normal for U.S.-China trade relations it's almost become trade policy by tariff threat," Lafferty said. "What concerns me the most is, even if we do get a trade deal which I think we will the market's positive reaction will be fleeting."
Still, traders are in a wait-and-see mode.
"The markets are ruled by the news headlines, and at this time, no one can guess which way the president or China is going to go," said Chris Rupkey, chief financial economist at MUFG Union Bank. Rupkey said investors are "underestimating" U.S. economic damage if tariffs increase permanently.
"Markets have discounted a lot of bad news, but they haven't discounted a recession as a result of the trade war escalation with China," he said.
The Cboe Volatility Index, a measure of the 30-day implied volatility of the S&P 500 that's commonly known as Wall Street's "fear gauge," hit its highest level since Jan. 4 on Thursday.
Goldman Sachs assured its clients that even if the tariff hike is implemented at the deadline, there's room for some sort of deal.
"We note that details in the notice implementing the tariff hike indicate that exports that have already left Chinese ports before May 10 will not be subject to the increase," Goldman economist Jan Hatzius said. "This creates an unofficial window, potentially lasting a couple of weeks, in which negotiations can continue and generates a 'soft' deadline to reach a deal."
Others are less hopeful. In a note to clients, Cowen Managing Director and Washington strategist Chris Krueger highlighted Trump's rally Wednesday night in Florida, his tweets over the week, and a comment Thursday that there was an "alternative" to a deal. Krueger said it's "hard to not be more pessimistic on the U.S.-China narrative, i.e. The Return of Tariff Man."
"Many are still optimistic tariffs can be avoided one minute past midnight (we are not)," Krueger said.
CNBC's Fred Imbert, Yun Li and Michael Bloom contributed reporting.