by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Good morning! The market is currently digesting the latest jobs data. In sports news, Dave Roberts and the Los Angeles Dodgers are nearing a long-term contract agreement. Today’s Comment will cover the latest developments in the trade war, the reasons behind the differing views on the path of monetary policy by Fed officials, and other market-related news. As usual, the report will conclude with a summary of domestic and international data releases.

Trade War on Pause? For the second time this week, President Trump has delayed tariffs on goods. However, uncertainty remains widespread as businesses grapple with understanding the impact of trade policies on the economy.

• On Thursday, the Trump administration announced that goods covered under the 2020 North American trade agreement would be exempt from tariffs. This move comes a day after the president exempted auto goods from tariffs. The reversal appears to be a response to domestic backlash, as many US firms expressed concerns that the tariffs could severely disrupt their supply chains.
• Newly released data showed the US advanced trade deficit in goods deepened in January as imports surged. This increase was attributed to businesses stockpiling goods ahead of expected tariffs, a strategy likely aimed at mitigating the impact of the ongoing trade dispute. The significant rise in imports was a key factor in the Atlanta Fed’s GDPNow forecast, which currently indicates a potential contraction in the US economy.
• While tariffs targeting Canadian and Mexican goods have been put on hold, the aluminum and steel tariffs are expected to take effect on March 12. Additionally, reciprocal tariffs, designed to pressure countries into reducing their trade barriers, are set to be implemented on April 2. As a result, the recent U-turn on tariffs has created even greater uncertainty about what could unfold in the coming weeks.

• While the US has reduced some tariffs, other countries have maintained theirs, and Canada has increased certain measures. Ontario Premier Doug Ford announced plans to raise electricity tariffs on Michigan, Minnesota, and New York. Additionally, Canadian provinces have pushed to remove US-made alcohol from shelves, demonstrating that trade hostilities persist despite the brief reprieve.
• While the tariff reversal is likely to reduce some disruptions in the coming weeks, it will still have a major impact on economic data, particularly for those attempting to front-run the tariffs. As a result, this could weigh on US GDP growth in the future. That said, the possibility of a recession remains 50/50, as it is unclear whether consumers will absorb some of the tariff costs. In short, the trade war is far from over.

Monetary Policy Uncertainty: Less than a week before Federal Reserve officials are set to meet, there is still no clear direction on where they might set policy for the rest of the year. While several members have expressed concerns that tariffs could exacerbate inflation, others have remained optimistic.

• Fed Governor Christopher Waller suggested the possibility of two or three interest rate cuts this year. While he dismissed the likelihood of cutting rates at the upcoming meeting, Waller left the possibility open for a rate reduction in May. He emphasized that any decision to lower rates would be driven by sustained progress on inflation, rather than a reaction to economic weakness. Furthermore, he downplayed concerns about tariffs significantly impacting inflation, suggesting their effect would likely be limited.
• Waller’s comments appeared to diverge from the more cautious stance of many of his colleagues regarding the possibility of rate cuts. Later that day, Atlanta Fed President Raphael Bostic noted that uncertainty surrounding future policy makes it unlikely the Fed will move on interest rates before late spring or early summer. Earlier in the week, New York Fed President John Williams had also struck a more cautious tone, specifically highlighting tariffs as a potential risk to inflation.
• The divergence between Waller’s views and those of many of his colleagues comes at a time when market expectations for monetary policy have undergone a complete reversal. Before last Friday, markets had priced in no rate cuts for the year. However, sentiment shifted sharply following the release of the PCE price index, which showed a deceleration in price inflation, alongside weaker-than-expected economic data. Now the market is pricing in three or maybe four rate cuts this year.

• As highlighted in our previous reports, the Fed is likely to have the most success at the start of the year as opposed to the end of the year in bringing inflation down closer to target. This is supported by the latest Cleveland Fed Nowcast for Inflation, which projects the April PCE price index report will show overall inflation falling below 2.1%. That said, we continue to believe that, barring a recession, the Fed is likely to cut rates no more than twice this year.

Ukraine Update: Officials in the European Union, along with Congressional Republicans, are working to help repair relations between Ukrainian President Volodymyr Zelensky and US President Donald Trump.

• Despite their differences, it is widely anticipated that the two leaders will reach a minerals agreement, which could help pave the way for a potential peace deal with Russia. In a gesture of goodwill ahead of his meeting with US officials, Zelensky has called for an enforced “silence in the sky.” Meanwhile, US officials are scheduled to meet with their Ukrainian counterparts to facilitate peace negotiations.
• While President Trump has shown no signs of softening his stance, members within his own party are actively pushing for a change in approach. Several GOP senators have urged the president to resume intelligence sharing and provide renewed aid to Ukraine. Their insistence stems from concerns among many Republicans that Ukraine may be losing leverage in negotiations with Russia to end the war.
• Since the controversial meeting between Zelensky and Trump last week, Russia has seized the opportunity to intensify its attacks, aiming to strengthen its position in future negotiations. Putin has made it clear that he has no intention of retreating from territorial gains unless he secures guarantees for Russia’s long-term security.
• While tensions between the US and Ukraine persist, there appears to be a potential pathway toward ending the Russian invasion. A resolution to the conflict could ease pressure on oil prices and provide a boost to European equities.

China’s Annoyance: While President Trump offered some tariff concessions to North American counterparts, the levies on Chinese goods remained unchanged. Compounding the situation are indications that the Trump administration may be exploring the formation of a North American trade bloc.

• China’s foreign minister criticized the US for what he characterized as a “two-faced” approach to bilateral relations, pointing to perceived inconsistencies. He highlighted President Trump’s complimentary remarks toward President Xi contrasted with the implementation of trade tariffs as examples of these mixed signals.
• His remarks follow new trade measures by Mexico to also review tariffs on Chinese imports. The move was seen as a way to curry favor with the incoming administration as they look to prevent a broader trade war with Mexico.
• The United States’ ability to persuade more allies to impose tariffs on China is likely to fuel Beijing’s concerns about being isolated from the global community. However, this outcome hinges on Washington’s capacity to maintain unity among its allies — a challenging task, given apprehensions about potential US tariffs. That said, a unified front against China could serve as a strategic off-ramp for US allies seeking to preserve their relationships with Washington while addressing shared economic concerns.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Good morning! The market is still digesting the latest economic data. In sports news, Ole Miss pulled off an upset victory over number four ranked Tennessee. Today’s Comment will cover Europe’s decision to ramp up defense spending, the challenges in assessing the current state of the US economy, and other market-related developments. As usual, the report will conclude with a roundup of domestic and international data releases.

Europe Arms Up: The EU has intensified discussions to strengthen its defense capabilities, as it no longer trusts that the US will honor its security commitments. This shift has triggered a surge in European bond yields, as the EU not only works to enhance its defense infrastructure but also revises its fiscal targets.

• EU leaders are convening an emergency summit in Brussels to talk about bolstering their defense capabilities in support of Ukraine. European officials will use the meeting to advance a series of new proposals aimed at enhancing the bloc’s ability to allocate funds for defense. This move comes as Germany and France have taken more assertive steps to ensure their security in the event of a potential US withdrawal of support.
• Germany’s incoming Chancellor Friedrich Merz has agreed to support expanding the country’s fiscal limits to facilitate increased spending on defense and infrastructure. The new initiative is expected to allow for unlimited defense spending and establish a 500 billion EUR ($541 billion), 10-year fund to drive infrastructure investments. The increasing in spending is on a pace not seen since the fall of the Berlin Wall.
• However, the legislation still requires a two-thirds majority in parliament to become law, which could prove challenging given the reluctance of the far-right AfD and far-left parties — who collectively hold roughly 27% of seats — to support increased military spending. There is also likely to be some pushback from German lawmakers that are more fiscally conservative.
• In France, President Emmanuel Macron is advocating for the EU to consider how his country’s nuclear weapons could serve as a deterrent against Russia. His comments follow a proposal from Merz, who has called for Germany, France, and the UK to develop their own nuclear sharing network as a potential alternative to relying on the US.

• The main takeaway from this shift in tone regarding defense spending across the EU is that member states will likely need to borrow significantly. One key development to watch is the potential creation of another joint European bond, similar to the one used to fund pandemic-related expenditures. This move could also bring the EU closer to forming a fiscal union, which would likely impact global bond markets and pose a challenge to the dominance of US Treasurys.

Mixed Economic Signals: A strong February PMI Services survey from the Institute for Supply Management (ISM) has bolstered optimism that the economy remains in expansion territory. However, both the index and the Federal Reserve’s Beige Book highlight growing concerns among firms about the potential for a downturn. These conflicting signals are likely to exacerbate ongoing market uncertainty.

• The ISM Services PMI unexpectedly rose from 52.8 to 53.5 in February, driven by a sharp increase in new orders, employment, and inventories. However, the report also highlighted growing inflationary pressures, as input prices surged to their highest level since early 2023. While the data has alleviated some concerns about an imminent downturn, it has raised fears of a potential reacceleration in inflation.
• The PMI report also highlighted that firms remain concerned about persistent uncertainty and the outlook for future business activity. Additionally, survey respondents expressed unease over potential deep cuts to government spending. The wariness has led to concern that economic activity could start to slow.
• The latest Federal Reserve Beige Book indicated that GDP growth may have improved slightly since mid-January, despite most regions not experiencing actual growth. The report revealed that eight out of twelve districts reported either no growth or a contraction during recent weeks. While some of this slowdown was attributed to adverse weather conditions, there were also reports of firms expressing concerns about rising prices.

• Currently, investors are closely monitoring economic data to assess the impact of tariffs and government spending on the economy. The market is likely to sell off at any sign of consumers cutting back on spending or firms laying off workers, while rallying in the opposite scenario. Although there are some indications that a downturn may be on the horizon, there is no conclusive evidence of one yet.

Steering with Open Ears: The president has decided to hold talks with business leaders as he aims to shape his agenda in a way that minimizes the impact on businesses. While these discussions may result in adjustments to some of his policies, a full reversal is unlikely.

• The Trump administration has announced a one-month delay in tariffs on all goods eligible for duty-free treatment under the USMCA, a move specifically benefiting the auto industry. This exception follows intense lobbying from the sector, which warned that the import taxes could severely disrupt supply chains. Estimates suggest that the tariffs could increase the cost of a vehicle by approximately $10,000.
• Chipmakers and computer hardware developers also plan to visit the White House, as they have raised concerns about import and export restrictions. This move coincides with the president’s broader shift in policy, which includes not only tariffs and export controls but also a move away from the previous administration’s approach of fostering domestic industry through public investment. Instead, the focus is now on a strategy centered around foreign direct investment.
• While the administration has shown a willingness to compromise with tech leaders to prevent an economic slowdown, it appears unwilling to abandon some of its more controversial policies. This reluctance to compromise suggests that the president and his team may be aiming to drive significant changes in the country, for better or worse. At this stage, the situation remains highly fluid, with developments evolving rapidly. As a result, expect considerable volatility in the near term.

China’s Response: Beijing appears to be better prepared to handle a trade war with the US compared to President Trump’s first term, signaling that the trade tensions could persist for longer than many are expecting.

• The government plans to implement policy measures aimed at achieving its growth target of around 5% for 2025. These measures not only include further monetary policy accommodation, with the People’s Bank of China expected to lower its policy rate and the reserve requirement ratio, but also include an increase in the fiscal deficit target to accommodate higher spending.
• In the meantime, businesses are struggling to compel their Chinese suppliers to absorb the majority of the tariff costs. For instance, Walmart has asked its suppliers in China to shoulder the full burden of the tariffs, only to face pushback, as such a move would force these companies to operate at a loss. This development suggests that American firms may have to absorb some of the costs themselves or pass them on to consumers.
• While we still believe the trade war is likely to exacerbate China’s economic challenges, we are closely monitoring political developments within the region, as they could play a decisive role in Beijing’s ability to manage escalating trade tensions with the US. That said, we remain confident that Beijing will strive to contain the trade war as much as possible, including pursuing a potential deal with the US.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Our Comment today opens with some key decisions from the Chinese government’s annual legislative sessions. We next review several other international and US developments with the potential to affect the financial markets today, including a big, new fiscal stimulus program proposed in Germany and a short recap of President Trump’s speech to a joint meeting of Congress last night.

China: At the opening of the “Two Sessions” legislative meetings yesterday, Premier Li Qiang announced that the government would target about 5% economic growth in 2025, matching expectations and in line with the goals from the previous two years. The target for consumer price inflation was set at 2%. The government’s expected budget deficit was set at 4%, up from 3% in recent years and the highest in decades.

• Given China’s structural economic headwinds and budding trade war with the US, the new economic growth goal is considered aggressive.
• That, coupled with the increased budget deficit, implies that the government will unveil significant stimulus policies later in the sessions. If it does, Chinese equities would likely get a boost.

Germany: Center-right leader Friedrich Merz, who won last month’s election, said his party and its prospective coalition partners plan to exempt defense spending from Germany’s strict spending and debt limits. They also plan to set up a massive, off-budget fund of 500 billion EUR ($536 billion) for infrastructure projects.

• The initiative exemplifies how the rising threat of Russian aggression and the Trump administration’s reluctance to support the US’s allies in Europe have spurred greater defense spending on the Continent. As a result, European defense stocks remain in a strong rally.
• More broadly, the new spending on infrastructure also has the potential to stimulate faster economic growth in the European Union’s biggest country. In response, European stocks are in a strong rally so far this morning. European bond prices have fallen, pushing up yields, while the euro has appreciated 0.6% to $1.0694.

United States-Japan: In a statement early this week that hasn’t been widely reported, President Trump accused Japan and China of deliberately weakening their currencies to garner trade advantages. In response, Trump hinted that he was prepared to impose tariffs to retaliate for the practice. Trump’s statement may be the first sign that he’s planning broad tariffs against Japan, even though some of his other tariffs, such as those on autos and steel, would hit certain economic sectors.

United States-Ukraine: The Financial Times today reports that the US has followed up its suspension of military aid to Ukraine by freezing all intelligence sharing, although at least one Ukrainian official has said some information continues. Among other consequences, any freeze on intelligence sharing would hamper Kyiv’s ability to effectively target Russia’s invasion forces and give the Kremlin a further advantage in the run-up to expected peace talks.

United States-Venezuela: The Trump administration yesterday told energy giant Chevron that it will revoke the firm’s license to produce oil in Venezuela in 30 days. The move is in retaliation for Caracas’s recent slowdown in accepting Venezuelan immigrants deported from the US. Chevron’s Venezuelan operations, which produce some 240,000 barrels of oil per day, will be taken over by state-owned oil company Petróleos de Venezuela, known as PdVSA. However, PdVSA is not expected to be able to maintain the operation’s output for long.

US Economic Policy: In his speech to a joint session of Congress last night, President Trump mainly recapped his accomplishments so far. The speech contained few major, new policy announcements. For investors, the key takeaways were probably Trump’s announcement of a new initiative to boost US shipbuilding and confirmation that the specific product imports to be targeted in his next round of tariffs will include a range of metals, including copper.

• Trump also acknowledged that the tariffs put into place by his administration would cause some economic disruptions, but he insisted that “we’re OK with that.”
• On a more positive note, Commerce Secretary Lutnick said overnight that Trump today could announce a deal with Canada and Mexico that would soften the tariffs on them. The statement has helped give a boost to US stock prices so far this morning.

US Economic Statistics: According to the Wall Street Journal, Commerce Secretary Lutnick last week disbanded two committees of outside experts that had advised government agencies on data collection, analysis, and reporting for decades. The committees were typically made up of unpaid academic economists, think-tank researchers, and business executives.

• The move will raise concerns that US economic data releases, such as the quarterly report on gross domestic product, could be manipulated for political purposes under the new administration.
• If that happens, concerns about unreliable data could undermine asset prices.

US Labor Market: The US Office of Personnel Management (OPM) has quietly issued an addendum to its January memo to agencies that spurred mass firings of probationary workers. Citing a court case invalidating the move, the addendum has clarified that OPM doesn’t have the authority to order firings at individual agencies. Rather, agency chiefs must decide who and when to fire. The new language may slow some of the administration’s effort to cull the federal work force. Still, the threat of firing will remain, likely slowing consumer spending.

US Stock Market: In market action yesterday, the S&P 500 price index for large-cap US stocks fell 1.2%, settling below its level on election day. Stocks have now lost all of their price gains in the initial euphoria over President Trump’s election, probably reflecting his aggressive tariff policies, signs that his policies are weighing on economic activity, and uncertainty over the direction of future policy.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Our Comment today opens with some key observations on Friday’s disastrous summit meeting between President Trump and Ukrainian President Zelensky. We next review several other international and US developments with the potential to affect the financial markets today, including key reports on consumer price inflation from the eurozone and Turkey and signs that the paused US tariffs on Canada and Mexico will finally take effect tomorrow.

United States-Russia-Ukraine: By now, we assume that those who care about global affairs and understand that international relations can profoundly affect their personal lives have already started to digest President Trump’s failed meeting on Friday with Ukrainian President Zelensky. We therefore won’t try to rehash all the details here. Rather, we provide a quick summary of the meeting and then focus on what it says about Trump’s evolving foreign policy and what it portends for US investors.

• To recap, the meeting was set for the two leaders to sign a preliminary deal in which the US would get a cut of Ukraine’s future mineral profits to repay the US’s past support and, supposedly, to cement the US’s interests in Ukraine and deter further Russian aggression. The meeting devolved into acrimony when Zelensky warned that Russian President Putin can’t be trusted. It broke up with Zelensky evicted from the White House and the deal left unsigned.
• Neither Trump nor any top administration official has provided a comprehensive statement of the president’s global goals and strategy. As we’ve written before, one thrust so far has been to punish traditional US allies – especially Canada, Mexico, and the European members of the North Atlantic Treaty Organization – for supposedly taking advantage of the US since World War II. But unleashing brutal rhetoric, tariffs, and military threats against the allies doesn’t seem to be the whole story.
• One great mystery about Trump’s foreign policy is why he has seemed relatively soft on China so far and why he seems so intent on excusing Putin – a dictator who essentially aims to recreate the Russian Empire and, therefore, is a threat to Western Europe’s wealth, economic potential, territory, technology, democratic institutions, and cultural development, all of which have made the region such a valuable ally for the US over decades.
• In the Trump-Zelensky meeting, it’s striking that the point at which it “went south” was when Zelensky said that Putin can’t be trusted. After a quarter-century of evidence pointing to Putin’s brutality and duplicity, the question arises as to why that statement would so easily set off Trump and Vice President Vance. It also highlights how administration officials and nominees have apparently been instructed to avoid any criticism of Putin and to parrot Russian talking points on global affairs.
• As we’ve noted before, some observers think Trump is trying to pull a “reverse Nixon” or “reverse Kissinger” by splitting Russia away from China. Secretary of State Rubio, a relatively traditionalist Russia hawk, even articulated this view recently. However, there are many reasons to doubt this possibility, from the lack of any obvious Chinese-Russian political tensions to exploit to the paucity of economic advantages the US could gain from closer relations with Russia.
• Another potential reason for Trump’s embrace of Russia is the possibility that he aims to divide the world into spheres of influence, with the US taking the Americas (possibly with outposts in Greenland, the Middle East, and some Pacific islands), Russia taking Europe, and China taking Asia up to the “first island chain.” If so, it seems like a bad deal for the US to trade Europe for a freer hand in the Americas. This strategy would also require trusting Beijing and Moscow to respect the US sphere.
• A final potential reason that we explore here is political affinity. Alliances often are built on a common political outlook, so Trump’s embrace of big, authoritarian, strong-man countries such as Russia and Saudi Arabia could simply signal his comfort level with that style of government. Since Trump has positioned himself as a champion of the US’s conservative working class, who are looking to him to break the political and economic hold of the elites, such an embrace of assertive politics may be well received by his base.
• In sum, it’s true that Europe has lost some luster as a political, military, and economic partner for the US. However, surrendering the region to the China/Russia geopolitical bloc potentially sets the stage for further international chaos. Even if peace in Ukraine and the reopening of Europe to Russian energy gives a boost to European stocks in the near term, greater Russian influence on the Continent could constrict US economic opportunities over the longer term.

United Kingdom-France-Ukraine: British Prime Minister Starmer hosted French President Macron, Ukrainian President Zelensky, and other European leaders yesterday to try to hash out their own peace plan for Ukraine. According to Starmer, the Europeans’ aim is to develop a plan that would entice President Trump to commit the US to help provide security guarantees for Ukraine.

• Late yesterday, Macron indicated that the Europeans are working on a one-month ceasefire that would stop Russia and Ukraine from conducting air and sea assaults and attacks on each other’s infrastructure. The ceasefire proposal would not apply to ground attacks due to the difficulty in policing them.
• A second part of the developing plan would involve Ukraine signing a mineral deal with the US, similar to the one that was supposed to be signed at Friday’s Trump-Zelensky meeting.
• However, it’s important to note that the UK and Ukraine today have both distanced themselves from the plan Macron suggested.

Eurozone: The February consumer price index was up just 2.4% from the same month one year earlier, not quite as tame as the expected 2.3% but better than the 2.5% recorded for the year to January. Stripping out the volatile food and energy components, the February core CPI was up 2.6% compared with 2.7% in the year to January. The decline in inflation last month should help bolster the case for further interest-rate cuts when the European Central Bank holds its next policy meeting later this week.

Turkey: The February consumer price index was up “just” 39.1% from the same month one year earlier, matching expectations and cooling from the 42.1% increase in the year to January. The data marked the ninth straight month in which Turkish inflation has cooled, likely setting the stage for the central bank to keep cutting the country’s sky-high interest rates in the coming months.

United States-Canada-Mexico-China: Commerce Secretary Lutnick yesterday said the paused US tariffs against Canada and Mexico will indeed go into effect on Tuesday, but President Trump is still deciding whether to apply them at the originally planned 25% rate or at some lower rate. Lutnick said the new 10% additional levy against China is “set” and will also go into effect on Tuesday.

• The big, new tariffs against the US’s largest trading partners could disrupt economic activity, but it’s still too early to know if they’ll worsen consumer price inflation.
• In any case, tariff risks continue to drive investors into stock market sectors that are more domestically oriented and therefore are perceived to be more insulated from Trump’s new trade policies. The Health Care, Consumer Staples, Real Estate, and Financials stock sectors are all up more than 5% so far this year versus a gain of just over 1% for the overall market.

US Public Lands Policy: President Trump on Saturday signed an executive order directing federal agencies to examine ways to bypass environmental regulations that control timber production in US national forests and other public lands. The directive suggests Trump will try to boost domestic timber output to offset planned restrictions on imported wood. If so, any quick boost in domestic production could help reduce the costs of newly built homes and other buildings as labor and other costs keep going up.

US Cryptocurrency Market: President Trump yesterday named five cryptocurrency tokens that will be included in his new US digital-currency reserve. The tokens included will be Bitcoin, ether, solana, Ripple-linked XRP, and cardano. As might be expected, overnight prices for the tokens jumped, with the increases ranging from about 9% for Bitcoin to more than 60% for cardano. Nevertheless, prices for Bitcoin and other major cryptocurrencies remain far below their most recent highs.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Good morning! Markets are reacting to the latest inflation data. In sports, Steph Curry joined Wilt Chamberlain and Elgin Baylor as the only players with 45+ point games on the same date. Today’s Comment explores the factors behind the Fed’s aggressive policy shift, the strategic importance of a US-UK trade agreement, and other market-moving events. Plus, we’ll provide a comprehensive overview of today’s key economic data releases.

Close to Neutral? On Thursday, two Federal Reserve officials offered contrasting perspectives on the tightness of monetary policy, underscoring the persistent uncertainty surrounding the path to the neutral interest rate. Despite their differing views, both officials agreed that the Fed should maintain current interest rates for the time being.

• Cleveland Fed President Beth Hammack has indicated that the Fed’s policy rate is no longer meaningfully “restrictive,” suggesting that the central bank may be approaching its neutral rate — the level at which monetary policy neither stimulates nor constrains economic growth. Her comments mark one of the first signals that some Fed officials are growing comfortable with the idea of concluding the current easing cycle by the end of the year.
• On the same day, Philadelphia Fed President Patrick Harker noted that he believes the current policy rate remains sufficiently restrictive to maintain downward pressure on inflation over the long term. While these remarks do not indicate how many rate cuts he expects for the year, it does suggest that he may not agree that the Fed is close to finishing its easing cycle.
• Although both officials still support keeping rates steady at the upcoming meeting and neither has pushed for a near-term rate hike, the widening divergence in their views highlights a growing hawkish tilt among committee members in recent months. This shift signals that the Fed may be closer to ending its easing cycle than markets initially expected at the start of the year.
• Market expectations have shifted significantly. Before the latest inflation data, Fed futures contracts showed that many participants had largely dismissed the possibility of 50 bps of rate cuts this year. As of now, the likelihood of a rate hike has surpassed that of a cut. Current pricing suggests a 35% probability that rates will remain unchanged by the end of 2025, a 25.2% chance of a 25 bps increase, and a 23.1% chance of a 25 bps cut.

• As we have emphasized over the past few months, the Fed will be closely monitoring inflation data early in the year. The first few months present the best opportunity for the Fed to make progress toward its 2% target, given that inflation readings during this period have historically been elevated compared to their long-term average. While a sudden rate hike is not currently the base case scenario, it remains a potential unexpected headwind for risk assets.

UK Trade Deal: UK Prime Minister Keir Starmer visited Washington this week to discuss strengthening trade ties between the two nations. While no final agreement was announced, both sides expressed a commitment to maintaining positive relations. The potential US-UK trade deal is expected to serve as a benchmark for what allies can achieve when they align closely with US interests.

• Following the discussion, President Trump announced that his administration had begun working on a deal with the UK, which could help both nations avoid being swept into a trade war. The deal was a welcome development for Starmer, as his country has been seeking a breakthrough amid recent budget cuts and unpopular tax reforms. However, it appears that Trump may have a broader strategy in mind.
• The president’s decision to pursue a trade deal with the UK may signal to other countries considering breaking away from the EU that they, too, could negotiate their own agreements with the US. Under current EU rules, individual member states are not permitted to negotiate independent trade deals. Additionally, the president has mentioned that he prefers bilateral trade deals with countries as opposed to multilateral agreements.
• That said, this is not the first time the president has expressed interest in working on a trade deal with the UK. In 2019, his administration was actively negotiating an agreement, but progress stalled due to the pandemic. This time may differ slightly, as the administration appears to have a clearer vision of its objectives. However, it’s important to note that trade agreements typically require years of negotiation to finalize.

• One advantage the UK holds is that it currently runs a trade deficit with the US, meaning — by the President Trump’s metric — it is not exploiting the system. As a result, the UK may become an attractive destination for those seeking to avoid countries that could be negatively impacted by a trade war with the US.

Open AI Strikes Back: The latest version of Open AI’s model has been released, aiming to reassure investors that it remains on track following DeepSeek’s recent breakthrough. This new technology marks a significant shift for the company as it moves away from language learning models (LLMs) that rely on chain-of-reasoning approaches.

• The new GPT-4.5 is different from its predecessor models in that it is able to engage with users more naturally, therefore creating a more improved customer experience. The update is unlikely to create the same level of buzz as GPT-4 did when it was released in 2022, but it does show the focus of AI research has started to shift.
• When the technology was first introduced, it faced criticism for its capability to solve only straightforward problems while struggling with more complex ones. As a result, generative AI models have proven to be valuable tools for experts with a strong grasp of a subject, aiding them in completing tasks more efficiently. However, their unreliability in handling nuanced or intricate challenges has made them less suitable for beginners or those starting from scratch.
• Improvements in these models are expected to enhance AI’s ability to tackle more complex tasks, potentially boosting overall economic productivity. However, this advancement could, over time, undermine worker bargaining power as AI becomes increasingly capable of performing roles traditionally held by humans. Consequently, while the technology holds immense promise, it may also face significant political resistance as its broader societal and economic implications come to the forefront.

China Vows Response: Beijing has responded to President Trump’s threat to raise tariffs on Chinese goods, stating that it will take necessary measures if additional tariffs are imposed. This follows Trump’s announcement of a planned 10% tariff increase on Chinese imports, set to take effect on March 4.

• While Beijing has avoided detailing specific measures, its response signals a readiness to counter US threats. Export growth has been a bright spot for the Chinese economy, providing momentum as it seeks to break out of its current slowdown.
• That said, any response is likely to be measured, as both leaders are expected to meet soon to negotiate a trade agreement, making an aggressive reaction improbable.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Good morning! The market is digesting the president’s recent tariff announcements. In sports news, Real Madrid secured a victory against Real Sociedad in the first leg of their Copa del Rey semifinal clash. Today’s Comment will explore why the trade deficit may not be the Trump administration’s sole concern, analyze the Magnificent 7’s weak start to the year, and cover other market-related developments. As usual, the report will also include a roundup of key international and domestic data releases.

Trump Tariffs: President Trump has pledged to proceed with tariffs on Mexico, Canada, and the European Union starting next week, though he left room for a potential extension that could delay them until April. The announcement sent shockwaves through markets, as uncertainty grows over how far his administration will escalate this global trade war.

• Originally, Trump planned to impose these levies on March 4, proposing a 25% tariff on goods from Mexico and Canada due to concerns that the countries were not taking sufficient actions to curb the flow of fentanyl into the United States. Simultaneously, the EU was targeted over allegations of unfair trade practices, which have placed the US agriculture and automotive industries at a competitive disadvantage.
• That said, his threats have caused some confusion, particularly for Mexico and Canada, as it remains unclear whether they will receive an extension. The president’s team has been evaluating various goods that could potentially be targeted by tariffs, which were also set to take effect on April 2. As a result, the president may consider imposing additional tariffs on Mexican and Canadian goods a month after implementing 25% tariffs, rather than extending the March deadline.
• Regardless of whether tariffs take effect in March or April, the uncertainty surrounding how events will unfold has already contributed to volatile equity markets. The US is expected to start with relatively low tariffs, with the possibility of increasing them if trading partners retaliate. Meanwhile, other countries have been preparing contingency plans in case their goods face tariffs, potentially targeting swing-state economies as part of their response.
• One key area of focus in analyzing the trade war will be the current account balance. While the US trade deficit has been widely discussed in the media, far less attention has been given to the deficit in primary income. For the first time in recorded history, American residents are earning less on their overseas assets than foreigners are earning on their US assets. This suggests that the US is paying more to the rest of the world in dividend and interest than it is receiving from them in return.

• The concern with having both a trade deficit and a primary income deficit is that it indicates other countries are not only gaining an advantage in trade but also demanding higher returns on their investments. In the long run, this dynamic is unsustainable, as it could lead to a rapid increase in US debt or a currency crisis.
• It is important to note that the president may be using the current account as a scorecard to assess whether the US is being taken advantage of. As a result, the Trump administration’s pressure on the rest of the world could extend beyond trade and potentially into financial flows if these imbalances persist. This could introduce additional uncertainty into equity markets while simultaneously strengthening the case for gold as a safe-haven asset.

Magnificent 7: Nvidia was unable to provide a boost for the group of seven mega cap tech stocks, which have slipped into correction territory this week. Their collective weak start to the year comes as investors continue to assess the potential of AI and other emerging technologies.

• The chipmaker posted another strong earnings report in the fourth quarter of 2024. The company’s sales surged by 78% in the final three months of the year, reflecting robust demand for its chips. Additionally, it was able to counter concerns that demand for its products was under threat following the release of DeepSeek.
• That said, the strong earnings report failed to excite investors, as the company’s stock price remained relatively flat compared to the previous day, despite rising as much as 3.4% in the lead-up to the announcement. The muted reaction comes as investors have begun rotating away from the Magnificent 7 in favor of other large cap stocks.
• Following two exceptionally strong years in 2023 and 2024, during which the Magnificent 7’s collective stock price nearly tripled the performance of the S&P 500, investors appear to be seeking new leadership. While the Magnificent 7 is down 4.4% year-to-date, the rest of the S&P 500 has gained 4.5% over the same period.

• One of the key uncertainties is whether investors will continue to pressure the companies’ collective capital expenditure (capex) spending, particularly amid growing uncertainty surrounding US policy and geopolitical tensions. As a result, investors may adopt a wait-and-see approach for now, as they assess how these companies navigate emerging challenges.

Taiwan in Danger? Chinese military exercises around Taiwan are growing increasingly assertive, signaling that Beijing may be seriously considering the possibility of an invasion.

• A senior Chinese official responsible for Taiwan relations issued a strong call on Wednesday, urging the island to consider “the inevitable reunification of the motherland.” This bold statement indicates Beijing’s potential for increased action to maintain Taiwan within its orbit.
• This assertive stance, coupled with escalating Chinese military exercises near the island, has fueled concerns of a potential false flag invasion. Furthermore, the severing of undersea cables by Chinese entities has raised fears of hybrid warfare, suggesting a significant escalation in cross-strait tensions.
• While the US has consistently stated its support for Taiwan’s self-governance, President Trump has been reluctant to explicitly promise military defense of the region in the event of an attack by China.

Rubio Russia Pivot: Secretary of State Marco Rubio has warned that the US should not allow Moscow to become a junior partner to China. This strategy, which some have dubbed the “reverse Nixon,” underscores the Trump administration’s willingness to pull Moscow away from Beijing’s influence.

• While the rhetoric may sound appealing, the practicality of this goal appears highly questionable, especially considering Russia’s already heavy economic reliance on China and the growing competition between the US and Moscow over energy markets in Europe.
• That said, the warming of ties between the US and Russia serves as another reminder to the EU that Washington no longer prioritizes its transatlantic relationships. This shift could potentially push Europe to seriously reconsider and accelerate its own defense buildup.

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