Week ended March 28, 2025: risk markets falter after more tariffs

Global / US stocks started the week well, but once again, the imposition of tariffs rolled markets in the second half of the week wreaking havoc on risk sentiment.  The S&P 500 closed the week down 1.5%, the fifth down week out of six.  The catalyst mid-week was Mr Trump’s announcement that his administration would move forward with 25% tariffs on foreign automotive imports to “level the playing field” and bring automotive jobs back to the US.  If this were to occur in a vacuum, then perhaps the global implications would be modest.  However, as investors well know, this is not the case – US tariffs will spawn tit-for-tat tariffs on US automotive exports.  In his as-always blustery response to this threat, Mr Trump has promised even higher tariffs on automotive imports.  So down, down, down we go, creating a cycle of self-destruction that will inevitably cause economic headwinds for the US and other economies.  Sadly, there are more tariffs behind these, with so-called “Liberation Day” to occur on April 2nd as Mr Trump will unveil a much broader array of tariffs. 

Should investors look back or look forward?

What direction is the US economy heading?  It is hard to say when all of the economic data and sentiment indicators are considered, many sending mixed signals.  However, as I mentioned last week, I believe forward-looking sentiment indicators carry more weight than backward looking data. 

Looking backwards, the flash composite PMI figure for March that was released for the US on Monday was better than expected, suggesting that the US economy is continuing to exhibit resiliency in spite of ambiguous and confusing fiscal policies.  The flash March PMI release for the USA is here, which shows better composite and services PMI, but deteriorating manufacturing PMI.  As far as inflation, PCE data for February came in higher than expected, validating consumers’ concerns about inflation that are being inflamed by Mr Trump’s “tariffs on everyone” philosophy.  However, there was some good news in the February PCE release, in that consumer spending accelerated more than expected.

Even with mixed backwards-looking data like this, I am more troubled as an investor by the cautious outlooks of a host of companies, and even more by rapidly deteriorating consumer sentiment. You need to look no further than the recent earnings announcement from retailing athletic apparel company LULU, which I cover further below (since I owned the shares).  The company was extremely cautious on its forward guidance, blaming it rightly on the declining consumer spending.  Friday’s (second) release of the University of Michigan Survey of Consumers validated the rapid decline in consumer confidence, with the underlying cause being increasing inflation expectations. Consumer confidence is now down 30% since November 2024 (the election), and is declining rapidly across both political parties and independents.    

Investors are not alone in trying to guess what happens next because the Federal Reserve is in a particularly difficult pickle itself, at the moment favouring the ongoing fight against inflation over the US jobs market, which is yet to show any material sign of deterioration.    The cautious Fed approach is not difficult to understand given that inflationary expectations are increasing.  The challenge for the Fed is that they will need to try to get in front of a deteriorating economy and increasing unemployment before it is too late because of far-from-predictable lags in monetary policy shifts.  I do not for a moment envy the Fed’s job, especially since economists and pundits remain split on the timing and magnitude of future easing.  The CME FedWatch Tool has been vacillating between two and three 25bps reductions in the Fed Funds rate recently, but as of the end of the week, the consensus is not surprisingly leaning towards three reductions now.  Recall that in the “Summary of Economic Projections” released after the last FOMC meeting two weeks ago, the dot plot was suggesting two rate reductions.

The bond market is also sending mixed signals, with yields at the policy-sensitive short end of the curve slightly lower last week, even as intermediate- and longer-term yields ended the week slightly higher. 

Europe responds to a new, more insular USA

Whether you view the Trump Administration’s policies as good or bad for the US, in a rather perverted view they will prove to be good for Europe.  It is time Europe (including the UK) took matters into their own hands, especially with respect to defence.  America will no longer provide (and pay for) the defence of Europe, and perhaps that of other allies in the Middle East and Asia.  In theory, this should allow the US to reduce its defence expenditures (although I doubt it will), and will certainly require European countries to step up their own defence spending.  Some countries in the EU have the fiscal capacity to do so because they have been fiscally conservative for decades, including the union’s largest member-state Germany.  The UK is in a more awkward position given the promises made to the electorate by the Labour government, the (economic) monkey-wrench thrown into the mix by Trump tariffs, and the guardrails imposed by bond vigilantes.  Nonetheless, the EU and the UK will need to find a way in the coming years to go at it alone as far as their own defence since the US is showing itself to be an unreliable partner. This would have always likely been the endgame anyway, although Mr Trump has accelerated the day of reckoning.  In any event, the security interests of Europe and the US might increasingly diverge, as we are currently seeing play out in Ukraine. 

The 2025-26 budget, and the debt ceiling

I suspect the budget discussions for the next fiscal year will be highly entertaining and potentially painful, especially if the US once again runs out of debt capacity before the new budget is agreed leading to the overhang of a government shutdown.  I simply cannot see how an effort to reduce government expenditures aligns with a plan to extend the 2017 tax cuts, as well as to offer all sorts of other tax reductions to various special interests.  The US is expected to have a $1.9 trillion deficit for the 2024-25 year, so why isn’t the administration chipping away at this record deficit by attacking both the expenditure side (as is occurring through DOGE) and the revenue side (by raising, not lowering, taxes) simultaneously?  It all reeks of poor economic policy.  I anticipate some sort of hocus-pocus will be introduced by the Republican-led Congress to manipulate future calculations or get around constraints, rather than grinding away at the root cause of the nation’s poor state of finances.  The effect of reductions in things like Medicaid will also be interesting to watch, since this cuts right into the portion of the MAGA base that has supported Mr Trump.  I see no easy way out of this dilemma, so be aware that as the country moves towards agreeing a new budget, there is likely to be significant turbulence. 

DOGE

Very briefly, if you want to learn more about and follow the “progress” of DOGE, check out their website here. As of Friday, DOGE claims that it has saved $130 billion.  As I mentioned above, let’s hope these savings are real and – to the extent they make sense – will be baked into the 2025-26 budget.

MY TRADES RECENTLY

I exited LULU in the second half of March, on the basis that the company’s performance is dependent on consumer spending which is starting to fade quickly.  The company is also facing competitive headwinds.  I unloaded the shares the third week in March and shockingly, they kept running.  However, the run ended sharply when the company announced its earnings after the bell on Thursday.  Although LULU beat top and bottom line consensus analysts’ expectations, management was extremely cautious on its outlook as consumers are cutting back on their purchases.  I also reduced my largest holding Berkshire Hathaway in March because the shares (BRK.B) have increased so sharply in value without having the underlying earnings (in my opinion) to support its sudden appreciation.  As opportunities present themselves, I will add back to BRK.B since it is a core holding, but hopefully, at more acceptable levels.  BRK.B has ridden the downturn in the general market very well, delivering a gain of over 16% YtD. 

WHAT’S AHEAD

Economic data in the first week of April includes:

• US: JOLTS report on Tuesday and March employment report on Friday

• Eurozone: Flash CPI and PPI for March

• Japan: Unemployment for March

Upcoming central bank policy meetings are as follows:

• ECB: April 16-17

• Bank of Japan: April 30-May 1

• FOMC: May 6-7

• Bank of England: May 8

MARKET TABLES

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