Quick View: Tariffs – U.S. and them

Firstly, let’s acknowledge that U.S. policy in many areas is evolving rapidly right now and that significant changes in direction, or even escalation, can come quickly – there are already indications from U.S. Commerce Secretary, Howard Lutnick, that Canada and Mexico might get some relief on tariffs.

However, the move by the Trump administration to actually impose tariffs has likely shaken the assumptions underpinning many investors’ expectations for U.S. policy intentions. Many column inches have been dedicated to the concept of the threat of tariffs as a negotiating strategy to rebalance trade or achieve other aims, such as immigration reduction or stopping drug distribution. The move to implement tariffs must change the calculus for those with a more benign view of U.S. trade strategy. A higher risk premium now needs to be attached to areas vulnerable to trade conflict, even if there is still substantial uncertainty over the end state.

What is clear is that markets appear to agree that tariffs are not good for most risk assets. Given the higher exposure to global trade and industrial production, it is not surprising that equity markets outside of the U.S. tend to suffer when tariff announcements are leading headlines. However, U.S. equity markets have shown that they are not immune to trade conflict either. While there are concerns about the potential inflationary impact of tariffs, U.S. Treasuries have so far looked to have greater worries about signs of slowing U.S. growth.

In contrast, the picture for other major sovereign bond markets is complicated by the upside catalysts appearing, such as German fiscal stimulus. This difference in growth outlook has perhaps led to the U.S. dollar unexpectedly weakening over the last six weeks, when many would have expected tariffs to lead to a stronger greenback. Foreign exchange often moves to offset the impact of tariffs, with the export country’s currency weakening in a manner that reduces the impact on its competitiveness.

As many have now commented, the new U.S. government feels less like a continuation of the 2017-2020 policy stance and more like a fresh approach. There are few familiar faces across the administration, and this – along with the sheer speed and volume of announcements – is perhaps leading to a greater inability to read the underlying intentions.

While it appears that negotiations on any given bilateral situation are never far away, there are seemingly multiple factors in each relationship that might need to be addressed, as well as the regular references to tariff revenue as a way to fund U.S. government spending or tax cuts. For example, it remains uncertain whether Mexico making demonstrable impacts on cross-border drug flows and immigration will actually prevent tariffs, or if being able to demonstrate the revenue-raising ability of trade tariffs is the real bigger-picture aim.

With so many moving parts, both inside the U.S. and elsewhere, investors have a lot to contend with right now. Correctly weighing each factor’s importance will be key to finding the right portfolio mix.