by Tim Sharp
Global equities returned 1% in April after “Liberation Day” losses were overcome on hopes that the 90-day delay would see the end tariff result softer and, therefore, having less effects on revenues and growth. The rest of the world outperformed the US in dollar terms although the picture looked mildly different in local currency terms, illustrating the effects that a weaker dollar was having on its major currency pairs. The clearest example was Japanese equities up 6% in dollar terms, but the Topix was up only 0.3% in local currency terms. Energy was very weak as OPEC+ supply concerns and slowing growth fears pushed prices down.
We see financial conditions tightening but still historically loose as economic activity is forecast to slow while inflation is forecast to rise. The preliminary print saw Q1 GDP weaken 0.3% annualised though domestic demand appears robust. The main culprit for the negativity came though a record increase in imports as foreign exporters front ran expected reciprocal tariffs and although the unemployment rate rose slightly to 4.2% in March, non-farm payrolls beat expectations up 228,000.
It looks to us that while consumers feel comfortable with their employment prospects, they are still prepared to spend, even if there was a little pre-tariff consumption ongoing, despite sentiment indicators looking extremely weak. We see the US consumer increasingly under pressure as the environment tightens with consumer sentiment declining across all income groups in the anticipation of worsening business conditions while same store sales and weekly hotel demand remain resilient. The Budget Lab shows that in dollar terms the current tariffs in place will affect the second decile of income groups by $2,178 while the highest income group would see household income lower by $10,425. However, as a percentage of household disposable income these figures represent -5.1% and -2.1% respectively highlighting the disproportionate effect on the least wealthy.
US CPI core and headline fell in March, however, the FOMC left rates on hold this week citing concerns with both growth and inflation. Expectations for a June rate cut fell to 30% and we feel that the Fed is on hold until after the July 8 tariff announcement following the 90-day delays. Forward looking expectations for both inflation and growth are pointing towards the beginning of a stagflationary environment but despite this, expectations are for 3-4 cuts in the last 4 meetings of the year.
Europe and the UK are on a different rate trajectory to the US as tariffs will probably prove to be deflationary leaving more room for Central Bank cuts as the BoE showed yesterday with a 0.25% cut although the split decision surprised markets. Core and headline CPI fell in both regions in March while PMIs remain weak, although UK GDP came in ahead of expectations at 0.5%. Japan also had one eye on the tariff negotiations when the BoJ held rates at 0.5% despite increasing CPI and a recovering housing market. China in the throes of a trade war with the US saw CPI and PPI disinflation deteriorating as the Caixin Manufacturing PMI just stayed in expansion territory. The authorities reacted this week by cutting key policy rates by 0.1% and reducing the Reserve Requirement Ratio to release bank lending liquidity. Q1 economic data saw exports jump 12% YoY in March which may be linked to tariff “front-running” but gave a boost to industrial production. Household consumption and internal demand generally was stronger as were household balance sheets that have recovered markedly from COVID and the property crash. However, we feel the stimulus so far may not be enough to underpin the economy but may add confidence to the stock market.
Although recession risk in Europe is heightened by reciprocal tariffs, recently announced fiscal support in Europe has provided a platform for renewed optimism in stock markets and is likely to change the growth trajectory of Europe in the longer term. We see the increased defence spending as overdue but increased infrastructure spending will also likely improve productivity and supply chains so a more unified approach to fiscal policy feels like a sea change in European growth prospects.
In summary, we think it is likely that the tariffs that remain after trade negotiation rounds have finished will likely have a transitory effect on global inflation but a lasting effect on global trade, re-shaping supply chains and trading partners. The probable end of the “US Exceptionalism trade” in this manner seems to have undermined the dollar and US assets as a safe haven which may have longer term consequences for inward US investment.
We see increased risk of margin pressure putting increased strain on earnings supported by research by Torsten Slok at Apollo surveying expectations of increased costs through tariffs being firstly passed on to consumers and secondly absorbed internally thereby reducing margins. Furthermore, we see onshoring trends over the coming years likely see increased costs having lasting effects on margins and earnings, raising questions around long-term valuations.
There is a potential for the bounce in equities throughout April to have run its course without further clarity regarding trade and the likely difficult operating environment for companies could challenge valuations if the final outcome is considered negatively by investors. Conversely, a very positive outcome, such as the cessation of all tariffs, which we see as unlikely, or another 90-day delay, could cause a V-shaped recovery in equity markets.
We believe doubt still remains until July 8 earliest leaving the US Fed likely on hold and asset allocation defensive. We would advocate a mild underweight in equities, particularly US cyclical stocks, although we are ever mindful that a retail “buy-on-dips” mentally is still active. Increased volatility when markets lack direction often leads to a divergence in historic correlations between regions and sectors as witnessed between European and US equity valuations at the turn of the year, and Technology and Energy sectors currently. Elsewhere, increased recession risks in the second half of 2025 remain higher than at the start of the year although lower than at the beginning of the month, and the short-term inflation outlook looks higher, which leads us to favour shorter duration fixed income assets currently. The potential stagflationary environment, especially in the US, will continue to favour Gold which increases its weight in portfolios through drift although we would not be averse to increasing allocation even at these high levels.
Acknowledgements
Zahra Ward-Murphy _ ASR Investment Committee Briefing _ May 1, 2025
Dr Torsten Slok _ Daily Spark _ How Are Firms Responding to Higher Tariffs? _ May 5, 2025
The Budget Labs _ Yale _ Where We Stand: The Fiscal, Economic, and Distributional Effects of All US Tariffs Enacted in 2025 Through April 2 _ April 2, 2025
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