UA is committed to collaborating with and assisting our clients to achieve and surpass their financial goals. If you're considering your next move, be sure to contact us today!
X
Coming into Q1, like many, we had expected higher effective tariff rates (ETR) to be largely offset by a combination of optimism surrounding President Trump’s pro-growth policy agenda, strong corporate earnings and a backdrop of gradually falling inflation. While the Republicans have so far been successful in progressing their pro-growth budget agenda through Congress, Trump has adopted a substantially more aggressive stance on tariffs than expected. Immediately following his inauguration, Trump was quick to take issue with Canada and Mexico, imposing 25% tariffs on goods and 10% on energy, which was followed by blanket 25% tariffs on steel, aluminum, and automobiles. His most recent reciprocal tariff announcements, delivered on ‘Liberation Day’, would see the US ETR rise to ~ 25% versus market consensus of 10-15%.
We believe the vision of the Republicans is to transition the US economy from an economy driven by public spending, where the rich get richer, to an economy driven by a booming private sector, where the beneficiaries of economic growth are more balanced. This is best described by the chart below that shows labour’s share of profits versus corporate’s share of profits over time. This shift in the economy began when China entered the WTO and manufacturing shifted offshore.
Figure 1: Labour’s share of profit degradation through time
Rebalancing the economy requires the Trump administration to pursue a complete restructuring of the international trading system to substantially reduce trade deficits, bring the overvalued USD down and reshore manufacturing back to America. Whether tariffs as announced combined with tax cuts and deregulation will achieve this outcome, frankly, remains unknown. What is clear is that reshaping the US economy and therefore global free trade as we know it today, is not an easy task and more likely to be economically volatile than it is likely to be smooth sailing.
Bringing all this together, it seems fair to say that momentum in the global economy is negative and risks slowing further. The cause of the uncertainty is unique in that it is not a cyclical phenomenon or another type of development where policymakers are united in their desire to resolve it. The problem is a deliberate policy action by the world’s most powerful nation directed at all nations, which requires fundamental reform and agreement between nations with conflicting interests. In addition, the inflation backdrop in the US is not as supportive as it has been in prior quarters and risks are tilted to the upside.
In terms of ‘where to from here?’ we note the following bear case scenarios leading to either a technical or real recession:
Uncertainty: - goodwill to negotiate exists however the pace of negotiations is slow thereby causing households to reduce spending and corporates to halt capital spending until clarity is established.
• Tariffs first, tax cuts later: The US is unwilling to meaningfully lower tariffs until the Trump tax cuts pass Congress later this year. In the interim, corporate earnings suffer and unemployment rises.
• Retaliatory tariffs: A game of brinkmanship ensues; the US is met with a combination of retaliatory tariffs and stiff resistance - possibly a ‘coalition of the willing’ pushing back against the US on trade.
Equally, there are also several things that could go right. On tariffs specifically:
• Trump could pause tariffs to allow a period of negotiations to take place or create a grace period for US firms to recalibrate their supply chains. It doesn’t make sense politically for him to wreck the economy only to save what’s left. The ‘Trump put’ could save markets any day now.
• Similarly, tariffs could be swiftly reversed in exchange for commitments to walk back anti-competitive trade practices, import more US goods, create fairer trading conditions for US exporters, invest in the US or some combination.
• The Fed deems growth risks outweigh inflation concerns and brings forward cuts to support the economy, i.e. the ‘Fed put’.
In addition to being open minded about a tariff reprieve, it’s also important to keep in mind that the US economy remains resilient; households and businesses are in good shape.
Our process entered into a risk-off regime in late February on the back of Trump’s initial tariff announcements.
• In the 2018 trade war, Deflation and Inflation were the dominant risk regimes and we expect the coming 3-6 months to be much the same. Recall that in Trump’s first trade war, the Phase One trade deal agreed with China took 18 months.
• Material and positive developments on trade would prompt a re-think of our outlook assessment. Similarly, a dovish pivot by the Fed or additional declines in equities would warrant a re-assessment of total portfolio risk, sector specific allocations and duration.
• We maintain our moderately defensively portfolio stance as escalation risks are balanced by the sharp price declines seen so far.
• Our risk-off bias is being expressed primarily via an underweight to domestic and international equities as well as factor tilts toward defensive sectors in Healthcare and listed real assets. We are reassessing our Consumer Staples exposure as research suggests this sector is highly tariff sensitive and less defensive than first thought.
• In credit, strong fundamentals are coming under pressure from trade-related uncertainty and emerging threats to US technology exceptionalism in the form of DeepSeek, Manus, and China tech more broadly. Credit is yet to adequately price the potential fall-out from the ‘Liberation Day’ tariffs in our view.
• Accelerating declines in global commodities, including gold, in recent days are indicative of a messy, capitulation phase which argues for patience and caution.
• We are overweight Alternatives and expect they will play an important role in diversifying listed asset markets in the current environment.
• On duration, we are neutral, preferring government bonds over credit. The outlook for rates is muddied by the deflationary impact of tariff uncertainties and the inflationary impact of the tariffs themselves. Potentially the US experiences a period of stagflation while other regions and countries experience a deflationary shock.
Important Information: This content is issued by Mason Stevens Asset Management Pty Limited, ABN 92 141 447 654 (MSAM).MSAM is a corporate authorised representative (CAR 461312) of Mason Stevens Limited, ABN 91 141 447207, AFSL 351578 (Mason Stevens). The information provided is of a general nature only and does not have regard to any individual’s personal objectives, financial situation, or needs. You should consider this information, along with all your other investments and strategies when assessing the appropriateness of the information to your individual circumstances. MSAM encourages seeking specific professional advice from a licensed financial adviser before making a decision to transact in relation to any investment, security, or strategy. Investment in securities including derivatives involves risks. Securities by nature will rise and fall and therefore past performance is not a reliable indicator of future performance. MSAM and its associates and their respective directors and other staff each declare that they may hold interests in securities and/or earn fees or other benefits from transactions arising as a result of information contained inthis communication. MSAM ensures that the information provided in this communication is as accurate and complete as possible but does not warrant itsaccuracy or reliability. References made to any third party, or their data is based on information that Mason Stevens believes to be true and accurate asat the date of this communication but is without independent verification. Opinions and or information may change without notice and Mason Stevens isnot obliged to update you if the information changes. Mason Stevens and its associated companies, authorised representatives, agents, and employeesexclude to the full extent by law, liability of whatever kind, including negligence, contract, fiduciary duties or otherwise, to investors or anyone else inrespect of any loss or damage, including indirect or consequential loss or damage, foreseeable or not, arising from or in connection with this information.
UA is committed to collaborating with and assisting our clients to achieve and surpass their financial goals. If you're considering your next move, be sure to contact us today!
X
