23 Apr 2025
Trump’s announcement of ‘Liberation Day’ tariffs and subsequent backdown occurred in a way which demonstrated how important it is for him to claim victory to boost his ego. The initial climbdown was driven by a setback in US Treasury markets and in the end the ‘Bond Vigilantes’ tamed Trump. The US economic hard data remains strong with excellent job creation numbers in the most recent non-farm payrolls and retail sales data strong, although the latter may well be driven by threatened tariffs encouraging consumers to buy early. There does remain a significant risk that over the next few months retail sales will see a decline as consumers have brought forward purchases. The most recent PCE core inflation numbers were encouraging.
Over the past week, the US Treasury market has steadied and there are stories that both Japan and South Korea have been encouraged to support this market to make trade negotiations easier. The dollar has remained under pressure as concerns have grown about the application of ‘Rule of Law’ in the US, previously regarded as a safe haven.
For investors, the last few months have been painful, but it is always important to look forward rather than back and try to understand market psychology. One key question is whether the peak of trade war pain is behind us? Secondly, if so, what type of growth slowdown lies ahead? While markets have pulled back, clearly a full-blooded recession is not yet priced in. Investors banking on a ‘Fed Put’ in the form of rate cuts have ignored the consistent messaging of Fed Chair J. Powell since 2022. This was reiterated yesterday when the US central bank Chair stated, “Without price stability, we cannot achieve long periods of strong labour market conditions.” In their statements and questioning at press conferences, the Fed have been adamant that the only way to maximise full employment in the US is to have inflation running no higher than 2%. If the global economy does slow, there is little scope for government spending initiatives to provide support, unlike during the pandemic.
If a significant slowdown occurs, investors need to ask where the safety net is in markets. The initial setback in markets has been caused by fears over a trade war, and investors are now waiting to see whether earnings downgrades will follow. The lack of negative Q1 earnings pre-announcements, when companies typically guide analysts’ forecasts lower ahead of formal result declarations, suggests the first quarter has been generally positive for corporate earnings, especially in the US. This ties in with the hard economic data released to date on the US economy. Analysts have not yet significantly adjusted 2025 earnings projections which were around +12% for the US and +6% for Europe.
In the short term, any positive news or hints at progress on trade negotiations are likely to support the market and could spur a rally, even in a range bound market. Markets may well now be at the lower end of a range and for investors wishing to lighten exposure to equities, there could be better times to sell. There have also been suggestions that China is now willing to engage in trade talks providing that there is no perception of bullying or humiliation and if this does occur, it will be a catalyst for a market rally.
One point to note on economic data is that the published US GDP numbers in Q1 could be adversely affected by gold imports, plus pre-ordering of goods ahead of tariff costs, and imports are a negative for GDP in the quarter they occur.
Trying to look ahead to the medium term, there remains strong arguments in favour of greater diversification in portfolios than market cap weightings which have become dominated by the US, especially in risk management terms.
At the stock level, businesses more local in nature are likely to face less disruption. Listed infrastructure also ticks this box and is further supported by the significant recent fall in real yields. On a regional basis, emerging markets, including China, have seen cheaper valuations provide support and even India, which had seen a de-rating from a forward PE of around 28x to 20x, has held up well in the post tariff announcement period. Brazil should be a beneficiary of increased agricultural exports both to China and other countries. China itself has pledged to provide more support to domestic consumption and its willingness to engage with other countries on trade suggests the ‘uninvestable’ tag is no longer appropriate.
In summary, markets will remain news driven with policy announcements having the potential to send markets higher or lower. Markets can bounce after sharp setbacks if news becomes less bad, so any hints of successful trade negotiations could well spark a short-term rally, at which point investors can take stock of the impact on profitability of an economic slowdown.
*Graham O’Neill, Director, Independent Research Consultancy Ltd (Ireland)
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