Tariffs Here, Tariffs There, Tariffs Everywhere
President Trump announced a range of new tariffs in his ‘Liberation Day’ trade announcements on April 2nd. They include reciprocal tariffs, on a country-by-country basis. It is a message from President Trump to other countries to lower their own tariffs and buy U.S. goods.
Markets had a sharp risk-off reaction to the Trump administration’s announcement of reciprocal tariffs, reinforcing the case for defensive portfolio positioning. The proposal includes a 10% baseline tariff on all imports, a 25% tariff on foreign-made vehicles, and additional case-by-case tariffs based on each country’s trade barriers.
Although tariffs have been talked about for months, their magnitude has still caught the market by surprise. The weighted tariff rate announced was 18.2% on average, according to Goldman Sachs. The tariff announced was higher than what the market was expecting, especially for Asian countries.
Canada and Mexico appear exempt under USMCA, though previously announced fentanyl-linked tariffs remain in place. The status of North American autos is still unclear. China, however, will likely face cumulative tariffs exceeding 50%. The EU and Japan also face elevated rates of 20% and 24%, respectively.
China has already announced retaliatory tariffs of 34% on American products and the EU will likely follow soon.
Treasury Secretary Bessent described the announced tariffs as a ceiling, assuming no retaliation and suggesting room for negotiations. Still, the administration’s track record of volatile trade moves will keep uncertainty elevated. Business and consumer confidence are likely to remain under pressure. April 2 may mark peak tensions, but not peak policy risk.
President Trump says he is willing to accept short-term or even medium-term pain to achieve his goals. The more important question is how much pain American voters are really willing to accept.
Members of the Republican Senate majority are already breaking with President Trump and voting for a resolution that would reject Canadian tariffs. President Trump is facing a growing rebellion on trade from Congress.
Secretary of State Marco Rubio said in a March 16 interview on Face the Nation that tariffs would represent a new baseline but that the administration would proceed to negotiate with each trading partner on how to achieve “fair trade” from there. This is an important point as it suggests that, in certain circumstances with certain countries and with certain products, the end result may be lower tariffs on both US exports and imports 6-12 months from now.
President Trump may choose to use “reciprocal tariffs” to lower tariffs on U.S. exports rather than just raise them on imports.
Stock markets sold off sharply after the April 2 announcement but may recover later in the year as investors realize that while more trade war announcements are ahead, the “worst may be over.”
A Recession Looming?
A trade war that is supposed to be primarily negative for non-U.S. assets is leading to USD weakness and a Big Tech selloff. So, what is the market really worried about?
It looks like there are other market drivers than the trade war alone. Concerns about an economic slowdown are clearly visible in U.S. economic sentiment indicators, and that is hurting growth stocks with relatively high valuations the most.
Services spending declined month over month in February, while the surge in goods consumption could be related to tariff frontrunning. The most worrying part is that the savings rate rose for the second consecutive month in February, no doubt related to the sharp decline in consumer confidence.
February U.S. PCE data adds to the stagflationary tone, reinforcing our overweight duration stance and tactical short in front-end rates. Core PCE inflation rose 0.4% m/m, lifting the year-on-year rate to 2.8%, matching the Fed’s 2025 projection.
Consumer spending disappointed despite expectations for a rebound after January’s weather disruptions. Income growth remained firm, which combined with soft spending pushed the saving rate to 4.6%, up from 3.3% in December.
The outlook for the economy is clearly deteriorating. Confidence is cratering and hiring plans are cooling. Final March University of Michigan data painted an even more stagflationary picture, with higher inflation expectations and weaker consumer expectations. With inflation tracking near the Fed’s own projections, the FOMC will be hesitant to cut interest rates for now.
Recession risks have definitely gone up but as long as the job market is still holding up we think a U.S. recession is still not imminent. Last week’s 228,000 new jobs print for March should reassure investors somewhat.
Back in 2018, trade wars were new. Most investors and C-suite executives had not seen them in 40-70 years. And yet, after seven years of trade conflicts, globalization has not eroded one bit. Perhaps this is why President Trump is going harder against trade this time around. He may want to, supposedly, close the loopholes that allowed China to trade via third countries like Mexico and Vietnam.
Markets are currently in ‘panic mode’ and are linearly extrapolating the impact of tariffs, ignoring that the rest of the world has considerable fiscal space to stimulate domestic economies in the face of US aggression. This has already happened in Europe and we expect it to occur in Canada and China as well.
Global investors are using the trade war as a catalyst to reduce their exposure to U.S. assets. A global recession would cause non-U.S. assets to fall. However, looking at the 2001 recession experience, which U.S. markets entered with a very high valuation, we would expect non-U.S. assets to outperform in relative terms.
The Fed to the Rescue
Since President Trump took office, Fed Chair Jay Powell has been quiet. The Fed has not made any changes in its policy or statements during its March FOMC Meeting. We need to remember the Fed has a dual mandate of maintaining price stability and keeping low unemployment.
The fear is that tariffs will lead to more inflation in the short-term, which could prevent the Fed from cutting interest rates if the employment market deteriorates. Having said that, the Fed did call tariff-induced inflation ‘transitory”. So, the Fed could come to the rescue if the economic data continues to deteriorate and we see the potential for more rate cuts this year than the market is currently anticipating.
Also, it is no secret that Trump likes low interest rates and he could direct his attention at the Fed to try to pressure them to cut rates faster to support the U.S. economy.
What Could Go Right?
Despite the market turmoil and the economic uncertainty we are attuned to a number of upside scenarios that could allow stocks to return to new highs. They may even present buying opportunities given the fast drop in recent days.
Scenario 1: The stock market disciplines President Trump over his love of tariffs.
President Trump likes to compare himself to President William McKinley; seemingly forgotten is that the U.S. economy sank into a deep depression following the passage of the Tariff Act of 1890, with GDP dropping by 10% and the unemployment rate rising to 18%.
The effective U.S. tariff rate has already risen more in the first few weeks of Trump’s presidency than it did during the entirety of his first term. Based on everything that has been announced thus far, it is quite possible that the effective tariff rate could reach levels not seen since the Great Depression and the disastrous 1930 Smoot-Hawley Act that accompanied it. Investors have been hoping that the stock market will temper Trump’s love of tariffs. So far, that has not happened. Trump has said that he is “not looking at the stock market” and admitted that the economy will need to undergo a “period of transition” to adjust to higher tariffs.
We suspect that with the current market turmoil, the tolerance among Americans for economic pain is low, especially if the pain seems self-inflicted. This suggests that Trump could back down in due course. However, the stock market may not be the key determinant of when that happens. Rather, it may be Trump’s approval rating. So far, it has not fallen that much.
Scenario 2: Trump provides additional stimulus.
Trump will expand his fiscal spending to counter effects of his trade tariffs. This could be done through additional tax cuts or outright subsidies to farmers for example.
The fear was that if Trump would provide more fiscal stimulus bond markets would riot and Treasury yields would rise to 6%. Now that bond yields have been falling on the back of weaker economic data, that might provide room for the Trump administration to push Congress for more fiscal spending.
Scenario 3: Fiscal stimulus and structural reforms boost growth in the rest of the world.
One of the more surprising developments this year has been the strong outperformance of international stocks, especially European ones, relative to U.S. stocks. Part of this outperformance can be attributed to the fact that European equities were very cheap going into 2025. But much of it stems from policy developments, namely the recognition among America’s allies of the need to be less reliant on the U.S. for both military protection and its export market. While increased defense spending will generally not increase an economy’s productive capacity, some of the planned rise in infrastructure spending will. Perhaps more importantly, there is significant scope for gains from knocking down internal barriers to trade. This is true in the European Union. It is also true in countries such as Canada, where the Canadian Federation of Independent Business estimates that the removal of interprovincial trade barriers would raise GDP by 4%-to-8%. The problem is that these measures are unlikely to bear fruit immediately. In the meantime, European bond yields have risen, causing financial conditions to tighten
Scenario 4: The productivity gains from AI turn out to be larger than expected.
Artificial intelligence has the potential to be not only transformative, but literally the last major invention that humanity ever makes with all future inventions made by the AIs themselves. The impact of Artificial General Intelligence on growth could be comparable to what occurred first during the Agricultural Revolution, and later during the Industrial Revolution. Both revolutions saw a 30-to-100-fold increase in growth. The applications of AI are already evident in the digital realm and are likely to become visible in the physical world as well. Recently released robots increasingly display exceptionally high levels of physical dexterity. Once outfitted with large language models, they will be able to navigate the physical world, performing many tasks that are currently done only by humans.
For investors, two questions arise: First, when will the productivity gains from AI be large enough to affect the economy-wide productivity statistics; and second, will the gains from AI be largely captured by companies in the form of higher profits or by workers in the form of higher real wages. With respect to the first question, we can learn lessons from the Internet boom and bust in 2000. While the internet transformed the global economy, it took a while before economic benefits became visible. The same may happen with AI and it may take a while longer for AI to impact the real economy.
Portfolio Diversification is Key
In periods of market volatility, portfolio diversification is key. Despite the sell-off in the NASDAQ and especially in the magnificent-7 stocks, high-quality and value stocks, as well as European and Asian stock markets, have fared much better. Especially in U.S. dollar terms. That is why we have been advocating more international diversification.
As long-dated bond yields are falling, high quality bonds are also providing a level of protection to portfolios.
Last month, in our asset allocation core portfolios we reduced U.S. equity exposure and increased exposure to Europe by 5%. We also closed the position in the NASDAQ Index and allocated that to a healthcare sector overweight.
In fixed income portfolios we sold the high yield bond position and allocated the money to long-dated U.S. Treasuries that benefit the most from a fall in rates.
The changes were timely given the current market turmoil. We will stay defensively positioned for the foreseeable future but we would warn against turning too negative at this stage, especially after the market drop. Instead, diversification across different asset classes will help weather current volatility and also provide opportunities for profit when the news turns more positive again.
DISCLOSURES
The information provided is for educational purposes only. The views expressed here are those of the author and may not represent the views of Leo Wealth. Neither Leo Wealth nor the author makes any warranty or representation as to this information’s accuracy, completeness, or reliability. Please be advised that this content may contain errors, is subject to revision at all times, and should not be relied upon for any purpose. Under no circumstances shall Leo Wealth be liable to you or anyone else for damage stemming from the use or misuse of this information. Neither Leo Wealth nor the author offers legal or tax advice. Please consult the appropriate professional regarding your individual circumstance. Past performance is no guarantee of future results.
This material represents an assessment of the market and economic environment at a specific point in time. It is not intended to be a forecast of future events or a guarantee of future results.
Diversification does not guarantee a profit or protect against a loss in a declining market. It is a method used to help manage investment risk.
Indices are unmanaged and investors cannot invest directly in an index. Unless otherwise noted, performance of indices does not account for any fees, commissions or other expenses that would be incurred. Returns do not include reinvested dividends.
The PCE price index (PCEPI), is a United States-wide indicator of the average increase in prices for all domestic personal consumption. It is benchmarked to a base of 2012 = 100. Using a variety of data including U.S. Consumer Price Index and Producer Price Index prices, it is derived from the largest component of the GDP in the BEA’s National Income and Product Accounts, personal consumption expenditures.
Core PCE Price Index y/y shows changes in prices for a fixed basket of consumer goods and services purchased by US residents in the given month compared to the same month of the previous year. This indicator is also called “PCE deflator”. It takes into account households’ actual and imputed spendings on durable and non-durable goods and on services. Prices for food and energy are excluded from the core index calculation due to their high volatility. The index is benchmarked to a basis of 2009.
The Nasdaq Composite Index is a market-capitalization weighted index of the more than 3,000 common equities listed on the Nasdaq stock exchange. The types of securities in the index include American depositary receipts, common stocks, real estate investment trusts (REITs) and tracking stocks. The index includes all Nasdaq listed stocks that are not derivatives, preferred shares, funds, exchange-traded funds (ETFs) or debentures.
