This past Wednesday, President Trump announced a sweeping set of tariff measures (duties on imported goods), calling the event “Liberation Day.” The measures enacted a 10% base rate tariff on all non-exempt goods imported to the U.S., effective April 5, 2025, applied to all countries. Higher tariff rates were assigned to specific countries based on their trade practices with the U.S. For example, a 34% tariff was added to China, 20% to the EU, 46% on Vietnam and 32% on Taiwan, amongst about 60 others.
Certain goods were excluded, including semiconductors, pharmaceuticals, lumber, bullion, energy, and minerals unavailable domestically, as well as products already under Section 232 tariffs (e.g., steel, aluminum, autos). Canada and Mexico saw continued exemptions for USMCA-compliant goods, though prior auto tariffs still apply.
The tariffs were enacted under the International Emergency Economic Powers Act (IEEPA). President Trump declared a national emergency due to persistent U.S. trade deficits, which he linked to national security and economic threats. The effect of the orders would be to increase the effective tariff rate in the U.S. from about 2% to as much as 20%+ based on the current flow of goods.
Markets reacted quickly and negatively to the news as the S&P 500 fell 10.5% in two days, the most significant two-day decline since COVID. Other major indices fell by similar amounts, and the VIX Index (a gauge of market volatility) more than doubled from 21 to 45. Interest rates also declined rapidly as the U.S. 10-year Treasury yield fell 0.2% points to 4.0%. Global currencies were also volatile as were commodities.
Simply put, tariffs create economic headwinds. They make global trade more difficult and reduce the benefits of specialization between countries around the globe. They also upend supply chains, which take years and even decades to plan and construct. They can cause near-term “price shocks” as suppliers determine who eats the added cost of getting goods into end users’ hands. Historically speaking, they don’t cause persistent inflation, as with no additional changes, consumer demand declines and prices in affected and unaffected goods eventually fall.
The U.S. is a consumption-driven economy, and consumers have benefited from lower prices because of global trade. Proponents of tariffs will argue that workers in the manufacturing and production industries have paid for these lower prices. While we are sympathetic to the challenges of these individuals, the laws of economics make us disagree with this premise. Our opinions do not matter on the subject, however, as we must live in the world of what is, not what we think should be.
To be clear, no one knows the exact motivations and intentions of the current changes in trade policy. Anyone who claims otherwise is either being untruthful or is experiencing an illusion of knowledge they don’t have. Our job is not to predict exactly what will happen but is instead two-fold.
First, and most important, we must determine whether there is a change to the long-term and structural relationships between asset classes. Will stocks no longer offer better long-term returns than bonds? Will bonds no longer offer better long-term returns than cash? Will diversification no longer provide benefits, and will alternative asset classes no longer be additive to portfolios? In each of these cases, we find the current answer to be no.
The current situation, while painful, remains self-inflicted and based on a non-durable Executive Order. If we are wrong about tariffs, and benefits outweigh costs, then future government officials will strengthen their durability and markets will react positively. If we are right about them, then voters will choose future officials who will reverse the orders and revert to a freer trade regime. Markets will react positively to this too. Accordingly, our job is to avoid making long-term decisions based on short-term information and to advise our clients to do the same. This means sticking to long-term, individually specific, asset allocation targets that are in place.
Accordingly, the result of job 1 is to maintain long-term strategic asset allocation targets, while job 2 is to try to determine if there are tactical opportunities along the way. This requires us to assess possible near-term paths, guess their probabilities and most importantly, compare those probabilities to those reflected in the markets. Again, no one knows exactly what will happen. There is a spectrum of outcomes, however, and we attempt to lay out some of the possible paths below. This list is not exhaustive, nor are the paths mutually exclusive.
-
Trade war intensifies. Additional sectoral tariffs applied to chips, agriculture, building materials, and others. Retaliatory responses from trading partners add tariffs to our exports, as China announced on Friday. The constraints of political optics and emotions would likely increase and make improvements harder to achieve. Stocks and interest rates would likely decline further.
- April 2nd policies are maintained. All global participants wait to see the practical effects of the current policy before making incremental changes to it. The impacts of tariffs will take time to flow into the real economy but as we’ve seen already, markets will attempt to “price them in” immediately. Our current read on market sentiment is that there is the expectation for at least some tariff relief in the near-term. Accordingly, any drawn out period in the status quo would likely lead to further declines in stocks and interest rates.
- Trade policy eases on a country-by-country basis. We have already begun seeing evidence that this is the most likely path. On Friday, word came that the Administration had made progress with Vietnam on lowering bilateral trade barriers between our two countries. Over the weekend, Administration officials claimed that more than 50 countries have followed a similar approach since Friday. If the ultimate goal of implementing the tariffs was to force other countries to the table to facilitate freer trade than what existed prior to April 2nd, it would be an economic benefit. We wonder why tariffs wouldn’t have been applied one country at a time, instead of being removed in that fashion, but that is beyond our purview. Bilateral easing will take time, and the risk of “trading around” tariffs is then reintroduced but would be welcomed by markets. Stocks would likely rise as a result. The pace and magnitude of any rise, as well as the reaction of interest rates, would depend on the magnitude of any trade loosening.
- Tariff policy is abandoned altogether. The odds that the Trump Administration backtracks on tariffs completely and permanently are very low. A potential pause in the policy is much more likely. Any full removal of the tariffs implemented on April 2nd would be the result of a successful challenge to the International Emergency Economic Powers Act (IEEPA) application of tariffs in this case. There is currently a case in the U.S. District Court for the Northern District of Florida (likely to rise to the Supreme Court) filed by the New Civil Liberties Alliance on behalf of Simplified, a stationery company, arguing that the use of IEEPA was inappropriate and that no emergency existed. Given what we know now, the challenge is unlikely to be successful. That said, if tariffs were abandoned completely, stocks would rise quickly, and interest rates would also increase.
- Non-trade fiscal policy eases to accommodate the headwinds from tariffs. There is current legislation and negotiation in Congress related to tax policy. Semantics aside, tariffs are taxes on goods that someone must pay. Based on estimates from our friends at Strategas Research Parthers, the “tax increase” of recent policy is around $500 billion, eclipsing the total receipts of annual corporate income tax revenues (~$420 billion). While the process of doing so is messy (call us if you want the details), the argument could be made that tariff revenues could serve to offset any personal or corporate tax rate relief that is eventually proposed. This process would again take time, but pro-growth tax policy would be well received by markets.
- Monetary policy eases, to accommodate the economy. On Friday, Fed Chair Jerome Powell spoke at an event and noted the increased uncertainty that the new tariff policy introduced. He went on to intimate that the Fed is not inclined to cut rates faster than it previously planned (the opposite possibly), despite social media requests from the President to do so. Stated plans aside, if economic or market liquidity conditions do deteriorate meaningfully due to tariffs, the Fed would almost certainly be forced to step in and serve as the backstop it has built itself into since the Great Financial Crisis. Stocks and rates would decline further from here because of the deteriorating conditions, but stocks would react positively to meaningful Fed intervention. We should note that the market has already “cut” rates by 75 bps or so since February and thus, other monetary easing would need to take place in addition to reducing the Fed Funds target rate.
- Non-trade geopolitical means are used to counteract or combat tariffs. This is a bit of a wild-card category as it could mean many things. Does China rattle its sword toward Taiwan in addition to its imposition of reciprocal tariffs on the U.S.? Do other countries dissuade American tourism through visa or customs policies? Does Russia utilize the global distraction on tariffs as an opportunity to strengthen its position in Ukraine or with other alliances? All definite maybes. It is hard for us to see any increase in geopolitical uncertainty as good for markets, but predictability on issues like these is intentionally impossible. Accordingly, diversification remains the answer to this question.
We arrive at a few important conclusions post-consideration. First, we are likely in for continued volatility in the near-term as paths and new developments unfold. Second, this too shall eventually pass. The structures that have allowed the U.S. to remain the global leader in financial markets remain in place, despite the current appearances of weakening. While narrowing trade deficits in the U.S. will also narrow our capital surpluses, we remain the reserve currency of the world and are the go-to safe-haven for investors. Look no further than Treasuries on Thursday and Friday. When Global “Mr. Market” is scared, he comes to U.S. Treasuries for safety. We in no way intend to imply that we should take these advantages for granted. We simply read the tea leaves that others have written.
Third, and finally, we continue to look for opportunities in the current volatility. While market bottoms are a process instead of a point, we are beginning to see some of the behavioral characteristics of stabilization and will continue to monitor them closely.
We’re always with you, good markets and bad. And our offices, phones, and emails are always ready for you to connect with us whenever you need. Thank you for your trust and partnership.