by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Our Comment today opens with developments in the global auto and oil industries, largely reflecting the Trump administration’s new US tariff policies. We next review several other international and US developments with the potential to affect the financial markets today, including a Chinese retaliatory strategy that will crimp US access to critical minerals and magnets and a review of a key Federal Reserve board member’s speech in St. Louis yesterday.

Global Auto Industry: President Trump yesterday acknowledged that auto and auto parts makers will “need a little bit of time” before they can boost production in the US, adding that, “I’m looking at something to help some of the car companies.” The statement raised hopes that the administration will provide tariff relief on autos and parts or perhaps offer some other kind of aid. In response, global automakers are enjoying big gains in their share prices so far today.

• It’s not clear how Trump could have failed to realize the time and cost it would take for automakers to adjust to his tariff policy and shift production to the US.
• Nevertheless, Trump’s statement will likely be taken as a welcome sign of flexibility in his policy approach. This will raise hopes that he may soften his policy or implement it more gradually going forward, not just for automakers but for other key industries.

Global Energy Industry: In its latest report on the oil market, the International Energy Agency slashed its forecast of demand growth this year by about one-third to just 730,000 million barrels per day. According to the agency, the smaller figure largely reflects weakening demand in the US and China as those countries impose disruptive tariffs on each other. Faltering demand growth and increased production by key suppliers is likely to keep weighing on global oil prices in the near term, with Brent today down some 0.8% to $64.41 per barrel.

Global Defense Industry: Even though President Trump has issued orders aimed at boosting the US shipbuilding industry and accelerating the construction of ships for the US Navy, he said in a statement last week that he may ask Congress for authority to buy future navy ships from foreign countries in the interim. It appears that the most likely foreign suppliers of navy ships would be Japan and South Korea.

• As we have often noted, questions about Trump’s commitment to US allies have already prompted key countries to accelerate their defense rebuilding. We think that has created investment opportunities, especially in European defense stocks.
• It would probably take some time for the US to significantly boost its orders to Japanese or South Korean shipyards. However, given the enormous size of the US defense budget, any such program could be a boon to Asian companies and defense stocks.

China-United States: Amid all the news on the US-China tariff war over the last week, many investors may have missed an equally important new trade barrier. Late last week, Beijing said it is suspending the export of several critical minerals and advanced magnets. Since China has a virtual monopoly on the supply of such products, the move threatens to disrupt the operations of automakers, aerospace manufacturers, semiconductor firms, and military contractors around the world, at least when those companies work through their current inventories.

• After President Trump announced his “reciprocal” tariffs on April 2, China said one of its retaliatory measures would be to impose licensing requirements for the export of six heavy rare-earth metals, which are refined entirely in China, and rare-earth magnets, 90% of which are produced in China.
• Chinese officials say the export suspensions are only to allow the government to develop the required licensing procedures. Of course, the risk is that Beijing will slow-walk that process, essentially leaving in place an export ban on the rare earths and magnets.

Japan: New official data released yesterday showed that the Japanese population fell 0.44% to just 123.8 million in 2024, marking the 14^th straight year of contraction. In addition, the share of those aged 65 and older hit a record 29.3%. Low birth rates, falling headcounts, and population aging continue to present long-term challenges for the Japanese economy and businesses, even though labor market reforms in recent years have temporarily averted problems by drawing more people into the labor force.

Germany: The ZEW Economic Sentiment Index dived to -14.0 in April, down from 79.6 in March. The reading was much worse than expected. The ZEW indicator tracks the expectations of analysts at German banks, insurance companies, and other firms, and the latest reading likely reflects plummeting confidence in Europe’s largest economy after President Trump announced his big tariff hikes earlier this month.

United States-United Kingdom: Vice President Vance said in an interview yesterday that he sees “a good chance” of the US and the UK striking a free-trade deal “that’s in the interest of both countries.” As a reminder, the Trump administration has only subjected the UK to the president’s baseline tariff of 10% so far. A US-UK trade deal would be a political boon for British Prime Minister Starmer, but some members of the Trump coalition might push back against any concessions to UK manufacturers, especially if they help Starmer’s center-left Labour Party.

US Monetary Policy: At an event in St. Louis attended by Confluence personnel yesterday, Fed board member Christopher Waller discussed how he is thinking about President Trump’s tariff hikes and what they might mean for US monetary policy. Importantly, Waller insisted that higher US import tariffs would only boost consumer price inflation temporarily. However, he stressed that uncertainty surrounding the tariffs could weigh heavily on economic growth, with many firms telling him they have frozen investment and fear going out of business.

• To guide his thinking about the tariffs, Waller said he is considering two basic scenarios. In his “long lasting, high rate” scenario, Waller envisions average US import tariffs staying at 25% through at least 2027, up from about 3% at year-end 2024. In this scenario, Waller said he would expect inflation to surge to as much as 5%, but only for a short time. He expected that growth in this scenario would slow sharply, potentially setting the stage for multiple interest-rate cuts.
• In his “temporary, low rate” scenario, Waller assumes the average import tariff would quickly fall back to 10% as the US and other countries negotiate new trade relations. He expects inflation in this scenario to rise to only about 3% and then fall back quickly. In this scenario, Waller suggested the Fed would stand by its current plans to cut rates just a few more times before the end of this year.

US Tariff Policy: Reports yesterday said the Trump administration has opened investigations into the national security implications of relying on foreign semiconductors, semiconductor manufacturing equipment, pharmaceuticals, and pharmaceutical ingredients. The probes are being widely seen as preliminary steps to imposing steep new import tariffs on semiconductors and pharmaceuticals, especially those from China. Those new tariffs could come in the next few months, once the probes are completed.

• Separately, in a quarterly earnings call, healthcare giant Johnson & Johnson today said it expects as much as $400 million in tariff costs on medical devices this year, counting only the baseline, reciprocal, and other tariffs announced so far.
• Based on those tariff costs, the company boosted its 2025 sales forecast but kept its earnings expectation unchanged. The forecasted numbers would presumably change if the Trump administration imposes steep tariffs on pharmaceutical imports later this year.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Against the backdrop of President Trump’s on-again/off-again policy moves and mixed messages, we think his 90-day pause on non-China “reciprocal” tariffs last week is confirmation that his top target in the trade war is China, as it likely should be. Since that suggests US-China tensions could keep rising, we start our Comment today with a potential “escalation ladder” of future adversarial steps between the US and China that investors should probably be watching for. We next review several other international and US developments with the potential to affect the financial markets today, including new signs of distrust between the US and Europe and a few words on what appears to be capital flight from the US.

US-China Trade War – Escalation Ladder: As noted above, Trump’s tariff moves last week seem to confirm that China is his top target in the trade war. Trump is trying to walk a fine line between rebalancing the US-China trade relationship while not antagonizing China too much. US-China tensions could therefore keep rising in the coming months, creating further investment risks. To show how US-China relations could evolve, we lay out the following potential “escalation ladder” of future steps that each side could take against the other:

• Restrictions on Goods Trade. Despite China’s statement last week that it won’t match any more US tariff hikes because further hikes would be economically meaningless, the US could keep hiking China’s rates. Both the US and China could also extend their tariffs to currently exempted goods or hike their tariffs on lower-rate products. They could also set non-tariff barriers on imports or exports (such as bans on critical mineral exports). They could even put tariffs on third countries that import from their adversary.
• Restrictions on Services Trade. Since tariffs are taxes on imported goods, the next step in the trade war could be for the US or China to impose onerous taxes on each other’s services, such as legal advice, consulting, or transport. They could also clamp down on the provision of services. For example, China could increase its ongoing harassment of some US firms providing legal, financial, and consulting services in China. The US might also try to ban its firms from providing such services.
• Restrictions on Capital Flows. For investors, an especially harmful escalatory move would be for the US to limit capital flows to or from China, and vice versa. For example, Treasury Secretary Bessent last week hinted that the federal government might force Chinese firms to delist from US stock exchanges. Such a move would add to existing restrictions on US investments in Chinese equities. The US or China could also bar its investors from buying their adversaries’ bonds, including Treasurys.
• Restrictions on Travel and Tourism. Both the US and China have already taken steps to discourage their citizens from visiting their adversary and to harass their adversary’s citizens in country. Further steps could include broadening the US ban on technicians visiting China to service advanced chip-manufacturing equipment. The US or China could also impose outright bans on academic researchers or students visiting one another.
• Diplomatic Maneuvers. One specialized form of travel restriction could be for the US or China to cut their diplomatic representation in each other’s country or demand a cut in their adversary’s diplomatic corps in country. Each side could also step up their efforts to undermine each other in international forums such as the United Nations.
• Military Initiatives. Just as Japanese leaders saw US sanctions and oil embargos as an existential threat in 1941, prompting them to attack Pearl Harbor, Chinese leaders facing the whole array of escalatory steps outlined here could potentially decide they must strike back militarily. For example, they could finally seize control of Taiwan. The US could also launch provocative military moves against China to back up its economic pressure. Clearly, such moves would be a worst-case scenario; they are not necessarily probable.

US-China Trade War – Electronics Exemption: In its latest on-again/off-again move on US trade policy, the Trump administration said late Friday that key electronic products would be exempt from its “reciprocal” 125% tariffs on Chinese imports. The exempted goods include desktop computers, laptops, tablets, smartphones, flat-screen televisions, memory chips, and chip-making equipment. However, Trump and his officials yesterday signaled that new tariffs would still be coming on many of those products in the near future.

• The Friday exemptions may constitute a subtle concession by Trump to encourage positive moves by China. After all, electronics make up the biggest category of Chinese goods sent to the US (smartphones alone account for almost one-tenth of US imports from China). The exemptions may also be aimed at helping US firms dependent on selling China-sourced goods, such as Apple. In response, futures trading currently suggests the US stock market will open on a firm note today.
• Nevertheless, the US’s remaining 20% tariffs against China will still be an issue, and the Sunday statements pointing to new electronics tariffs in the future will likely keep US-China tensions high. The risk of new tariffs in the future will probably also short-circuit any relief that US firms felt upon hearing of the Friday exemptions.

US-Japan Tariff Talks: Ahead of Thursday’s US-Japan talks on tariffs and trade relations, the policy chief of Japan’s ruling Liberal Democratic Party has offered assurances that his country would not try to use its massive holdings of US Treasury obligations as leverage. The statement signals that Tokyo will try to keep the talks as amicable as possible, raising the prospects for a quick agreement that isn’t overly disruptive for the Japanese economy and financial markets.

• Despite Tokyo’s assurances about US Treasurys, it is becoming increasingly clear that a key US economic risk from Trump’s trade policy may relate to financial flows rather than trade flows. The evidence in this regard is the fact that the market volatility touched off by the trade war hasn’t spawned the usual safe-haven buying in the US dollar and Treasury securities. Instead, the greenback has depreciated sharply, Treasury prices have fallen, and US bond yields have jumped.
• The decline in the dollar and Treasurys, along with falling values for US stocks and other risk assets, suggests that the dramatic changes in US trade and economic policies and the administration’s adversarial approach to foreign countries have undermined faith in the US as an investment destination. That could merely reflect near-term concerns about a US recession. However, if these trends continue, they could mean that the US has become more fundamentally tarnished and that what we’re seeing is capital flight.
• Capital flight could weigh on the US domestic economy in a couple of important ways. For one thing, Treasury dumping by foreign countries, central banks, or private institutions could push US interest rates so high as to impede investment and economic growth. At the same time, the falling dollar would likely further raise the price of imports, weighing on consumption and pushing up inflation.

Taiwan: The ruling Democratic People’s Party is reportedly mulling the launch of recall campaigns against opposition lawmakers with the relatively China-friendly Kuomintang party. The KMT has only 52 of the 113 seats in the legislature, but with six allies from the Taiwan People’s Party and two independents, it has been able to form an opposing majority to paralyze the DPP’s legislative initiatives. One key risk is that a DPP recall initiative could worsen political polarization on the island and shift support toward the KMT.

Ecuador: In elections yesterday, conservative President Daniel Noboa was re-elected to a new four-year term with approximately 56% of the vote. The loser was Luisa González, a protégé of leftist former President Rafael Correa. Now that he has a full term in office, Noboa is expected to continue his tough crackdown on violent drug gangs and keep building ties with the US.

European Union-United States: In the latest sign of falling trust between the US and the EU, the European Commission has reportedly begun issuing burner phones to US-bound officials to avoid US espionage. The measure replicates steps taken for EU officials traveling to Ukraine and China to avoid Russian or Chinese surveillance. The measure also illustrates the extent to which US-EU trust has fallen, which could derail any future efforts by the two sides to cooperate in security, trade, or finance.

United States-Iran: US envoy Steve Witkoff and Iranian Foreign Minister Abbas Araghchi met in Oman on Saturday to start talks aimed at preventing Iran from acquiring nuclear weapons. The US and Iran had both insisted that the initial talks were merely aimed at gauging whether the other side was serious about an agreement. Early reports suggest both sides saw the other as serious, so follow-on talks are scheduled for next Saturday.

US Fiscal Policy: “First Buddy” Elon Musk reportedly said in a Cabinet meeting last week that his Department of Government Efficiency would fail to reach its goal of cutting $1 trillion in federal spending in the current fiscal year, which ends September 30. Instead, Musk said DOGE would cut about $150 billion in outlays, and outside analysis suggests even that figure is inflated by errors and miscounts.

• DOGE’s failure to achieve greater spending cuts could make it harder for President Trump to get Congressional approval for the upcoming year’s budget, which includes extensions to his 2017 tax cuts.
• Given the political and administrative challenges to cutting outlays significantly, Trump’s extended tax cuts could well lead to even bigger budget deficits. With global investors now increasingly wary about investing in the US, that could prompt even weaker demand for Treasury securities and a further backup in yields.

US Consumer Spending: In a little-noticed statement in its first-quarter earnings report, JPMorgan said the portion of loans in its credit card business deemed unrecoverable has now risen to a 13-year high. The statement is consistent with other incoming reports that suggest charge-offs in the overall credit card industry are now higher than they were before the coronavirus pandemic. The data adds to the current worries that consumers may be ready to rein in their spending, which would slow economic growth and reduce corporate earnings.

US Commercial Real Estate Industry: According to data provider CoStar, a tentative rebound in office demand that saw leasing activity jump 13% in the first quarter is already cooling in response to the uncertainties of the administration’s trade war. Office-building sales and refinancings have also reportedly slowed after a short-lived rebound. A new downturn in the market would not only weigh on stocks directly related to office buildings, such as real estate investment trusts, but it would also keep alive risks to the broader financial system.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Good morning! Markets are closely tracking the latest trade developments. In sports, Alex Ovechkin has cemented his legacy as the NHL’s all-time leading goal scorer. Today’s Comment will explore why the bond market continues to shrug off inflation data, provide an update on the Trump tax bill, and discuss the EU’s escalating regulatory push against Big Tech. We’ll also cover other market-moving news and, as always, provide a roundup of key international and domestic data releases.

Bond Market Turmoil: In a telling sign of shifting market priorities, bond investors largely dismissed the better-than-expected inflation data.

• The Consumer Price Index (CPI) fell in March for the first time in nearly five years, suggesting that recent tariffs have not yet translated into higher consumer prices. The index dipped 0.1% month-over-month, defying economists’ expectations of a 0.1% increase. Even the core CPI, which excludes volatile food and energy costs, inched up just 0.1%, well below the projected 0.3% rise. The moderation in inflation was driven largely by falling gasoline and used car prices.
• While the slowdown in the CPI report was welcomed, the exact drivers of the decline remain unclear. Weak demand — likely tied to broader economic concerns — appears to have weighed heavily on gasoline prices and airline fares, which fell 6.3% and 5.3%, respectively. Meanwhile, shelter cost, the index’s largest component, grew at its slowest pace since June of last year. The moderation in shelter costs suggests that the post-pandemic price distortions are gradually working their way through the economy.
• While cooling inflation has traditionally been welcomed by markets, investors are growing increasingly concerned about persistent price pressures due to tariffs. Retailers are now warning of potential price hikes as rising costs and lower inventories squeeze margins. These increases could emerge across various sectors, from imported fruits (with the US importing roughly 65% of its supply) to bicycles (which rely heavily on foreign components).

• Corporations appear to be ready to test their pricing power, with firms passing input costs on to consumers. While this worked early in the business cycle, it is unclear if it will be effective in the current environment. Lower-income households, while initially protected by pandemic-era savings and wage growth, now face diminishing financial cushions. Simultaneously, equity market declines threaten to suppress consumption via the wealth effect among affluent demographics. As a result, firms may face resistance.
• While stagflation cannot be ruled out entirely, it’s important to note this phenomenon typically occurs during severe energy shocks. In fact, before the 1970s, most economists considered stagflation theoretically impossible. That said, given the unexpected resilience of households in weathering inflation so far, we can’t dismiss the possibility completely. Currently, the bond market appears to be establishing a new equilibrium, a process that may temporarily impair its traditional role as an economic indicator.

Fiscal Deficit Widens: As Republicans move closer to passing tax cuts, growing concerns emerge that investors may become wary of holding debt due to the rising deficit and uncertainty about future economic growth.

• House Republicans advanced their budget blueprint, 216-214, targeting extensions of Trump-era tax cuts and deeper spending reductions. The close vote, which relied on almost complete GOP support, revealed the party’s narrow majority. Lawmakers touted potential long-term savings of $1.5 trillion, but the bill only specifies $4 billion in cuts over the next decade, demonstrating a substantial discrepancy between their stated fiscal goals and the immediate impact of the legislation.

• Despite some fluctuations, the US deficit remains a significant concern. The federal government reported a $1.307 trillion shortfall for the first half of the fiscal year (October-March), marking the second-largest six-month deficit on record. This figure is close to the unprecedented $1.706 trillion deficit seen during the same period in 2021, when pandemic-related expenditures were at their highest.

• Luckily, investor appetite for long-term bonds in the primary market remains resilient in the face of headwinds. Thursday’s $22 billion, 30-year Treasury auction saw robust demand, with the debt clearing at 4.435%, below the expected yield at the bid deadline. This strong showing follows Wednesday’s solid 10-year Treasury auction, suggesting investor concerns about tariffs dampening demand for US debt may be overstated.
• While concerns persist about the recent rise in 10-year Treasury yields, there are no clear indicators this represents a crisis. The upward movement appears primarily driven by investors raising cash through position liquidations, though market speculation points to possible foreign central bank selling — the People’s Bank of China being the most probable candidate. Should this yield momentum continue, Federal Reserve intervention may become increasingly likely.

EU Prepares for US Talks: The EU is prepared to protect its interests as it seeks to meet the US halfway in some of its demands.

• European Commission President Ursula von der Leyen is set to negotiate with the US during a 90-day window. However, she has warned that the EU is prepared to walk away if talks are not conducted in good faith and potentially retaliate by targeting US trade in services, specifically tech firms, with digital taxes. Her threat follows US efforts to address the EU trade imbalance and scrutinize its tax policies.
• Her remarks follow the Trump administration’s criticism of the EU, targeting not only its trade surplus with the US but also its defense spending, tax policies, and regulatory framework. While the European Union has shown a willingness to discuss military expenditure and trade issues, it has remained silent on addressing other American concerns such as getting rid of VAT or loosening tech regulation.
• The current standoff between the US and EU will likely center on establishing a mutually beneficial framework for cooperation. The most probable outcome would involve creating an economic ecosystem that simultaneously limits China’s influence while advancing Western technological ambitions. Given these strategic imperatives, we believe negotiations could still foster closer transatlantic ties, provided both sides demonstrate a willingness to make concessions for a meaningful agreement.

End to Tariff Madness? China has retaliated against the US decision to impose 145% tariffs on its goods by introducing 125% tariffs on American products. However, Beijing has indicated it does not intend to escalate tariffs further.

• China’s move to raise tariffs on US goods signals its readiness to withstand a prolonged trade conflict with Washington. While Beijing has pledged to avoid further tit-for-tat measures, it has firmly stated it will not back down. These tensions underscore the accelerating economic decoupling between the world’s two largest economies.
• These escalating tariffs have now reached levels that make cross-border commerce commercially unviable for many firms. This development threatens corporate earnings in both nations, as US companies have depended on China’s rapidly growing consumer market for overseas profits, while Chinese firms have relied on access to America’s massive consumer base.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Good morning! Markets are digesting the latest inflation figures while Lionel Messi’s double-strike propelled Inter Miami past LAFC into the CONCACAF semifinals. Today’s Comment will focus on President Trump’s decision to roll back tariffs, insights from the latest Fed minutes, and other major market-moving news. As always, we’ll include comprehensive summaries of today’s domestic and international economic releases.

Trump Reversal: US stocks experienced a rally following the administration’s tariff reductions on most nations, excluding China, which saw an increase to 125%. Despite the market’s positive initial response, persistent uncertainty remains.

• The US agreed to postpone new tariffs for 90 days while pursuing trade negotiations with partner nations. Markets responded positively to the decision, where the average tariff rate would fall from 23% to 10% — a development that alleviated concerns about supply chain instability and potential economic contraction. The policy shift triggered a significant market rally, sending the S&P 500 up 9.5% and propelling each “Magnificent 7” stock to gains exceeding 10%.
• While markets welcomed the policy reversal, uncertainty persists over the trade war’s trajectory. The president’s baseline tariffs remain in effect, pushing the average import tax rate for non-China trade partners to 15.7%. This includes the 25% tariffs still applied to Canadian and Mexican goods not covered by USMCA provisions. According to White House data, only 38% of Canadian imports and 50% of Mexican imports currently comply with the agreement’s standards.

• It seems that the administration is seeking to condition markets to become less reactive to tariff announcements. The current pause may serve two key purposes by demonstrating presidential flexibility while also normalizing the recently imposed 10% tariffs as a sustainable baseline. This calculated approach should help stabilize markets as the price impact of these import taxes gradually filters through the economy. A major unknown is how consumers will respond to the eventual price shock.

Trade Friends Not Enemies: While the White House has shown limited interest in bringing down newly implemented tariff rates, it does seek to use trade tensions to form an alliance against China.

• The US decision to pause the increase in tariffs has been widely viewed as a step in the right direction, though questions remain about how far the White House is willing to go in implementing reciprocal tariffs. Kevin Hassett, one of the White House’s economic advisors, suggested potential tariff rates below 10% might be possible, though he cautioned this would require an “extraordinary” trade deal to justify such reductions.
• While this decision has provided some market reassurance, uncertainty persists regarding whether other nations will refrain from retaliatory measures. The EU has agreed to delay its metal tariffs by 90 days, and while Canadian Prime Minister Mark Carney welcomed the announcement, Canada has not yet committed to any tariff relief.
• China is bracing for tariff fallout, with leaders meeting today to discuss stimulus measures. The package will target housing, consumer spending, and tech innovation to protect growth. Since growth has slowed in China, speculation has swirled about Beijing deploying its “stimulus bazooka,” large-scale measures to revive an economy facing prolonged sluggish growth.
• Treasury Secretary Scott Bessent hinted that the White House may pursue a collective approach with allies to coordinate their approach toward China. His remarks seem to reflect a long history of the US trying to coalesce its allies into joining its efforts to isolate China. It also comes as Spain has been urging the EU to deepen economic ties with Beijing, aiming to reduce reliance on the United States.
• Markets may be underestimating the psychological strategy at play. By first imposing 10% tariffs and then escalating to far higher levels, the initial increase appears modest by comparison. The use of “reciprocal tariffs” was designed to encourage global tariff reductions in exchange for US concessions. Yet, America’s traditionally low tariffs offered little bargaining power.

• The updated tariff framework strengthens Washington’s leverage, pressuring allies to align their trade policies with its China strategy. Notably, US tariffs on Chinese goods are now so high that they will likely redirect Chinese exports away from the US and toward Europe — further fueling protectionist sentiment on the Continent. Ultimately, this policy may reinforce Europe’s perception that it must collaborate with the US to counter China.
• The key unknown is the size and scope of China’s stimulus measures. A substantial spending package could help restore consumer confidence, which has remained weak since the pandemic. It could also boost domestic demand, reducing the economy’s reliance on foreign consumption of its goods.

Fed Stagflation Worries: Fed minutes showed officials’ fears about stagflation, while balance sheet reduction faced strong opposition despite broad support.

• Nearly all FOMC members expressed concerns that inflation risks remain skewed to the upside, while employment risks also appear elevated. This outlook will likely compel policymakers to adopt a cautious, wait-and-see approach when adjusting monetary policy. These concerns arise as central bankers wrestle with the potential economic fallout from the Trump administration’s trade war.
• Despite the Fed’s reluctance to commit to rate cuts amid ongoing uncertainty, markets are still pricing in three potential rate cuts this year, exceeding the two projected in the Fed’s latest economic outlook. This divergence suggests investors see elevated recession risks due to the ongoing trade war, which therefore keeps expectations for further monetary easing alive.
• Regarding the balance sheet, policymakers appear divided on whether the reduced pace of unwinding was appropriate. The decision stemmed from concerns about preserving sufficient reserve buffers after Congress suspended the debt ceiling. Since January, Treasury’s drawdown of its General Account (TGA) to fund government operations — while Congress negotiated the debt limit — has created distortions in reserve markets, as these flows directly impact liquidity in the commercial banking sector.

• While Fed Governor Christopher Waller was the only dissent, several others pushed to maintain the original pace of balance sheet unwinding. Their reluctance was due to concerns that it could compromise the Fed’s balance sheet normalization efforts. They believed alternative tools would have been sufficient to address reserve concerns. Specifically, an adjustment to the reverse repo facility rate could have provided an effective alternative, injecting needed liquidity to prevent a problem.
• Thus far, market impacts appear contained despite elevated uncertainty. While recent bond market volatility reflects trade war concerns, Cleveland Fed President Beth Hammack noted that while financial markets are under strain, they continue to function effectively. That said, we should emphasize that the Fed stands ready to intervene if necessary — either through balance sheet expansion to address liquidity shortages or by cutting the federal funds rate to mitigate solvency risks.

Chinese Troops in Ukraine: Two Chinese nationals were caught fighting for the Russian army, in a sign that the war may be broadening.

• Ukrainian officials have accused China of not taking sufficient measures to stop its citizens from enlisting in the Russian military, with estimates suggesting up to 150 Chinese fighters may be involved. If confirmed, this would represent the strongest indication yet of Chinese support for Russia’s invasion and will likely call into question the country’s claim of being neutral in the war. Following the allegation, the White House threatened to take action.
• The discovery of Chinese military involvement is poised to significantly escalate US-China tensions, particularly as Washington seeks to broker an end to the war in Ukraine. This support could substantially strengthen Russia’s negotiating position by demonstrating its capacity to prolong the conflict with Beijing’s backing. Moreover, it serves as stark evidence that American attempts to isolate Moscow and draw it away from Chinese influence may ultimately prove unsuccessful.
• A critical unknown remains how the EU will respond to these developments. Over the last few years, the bloc has repeatedly urged China to intervene and restrain Russia’s aggression in Ukraine. European leaders have even cautioned that Beijing’s support for Moscow risks triggering a fundamental divergence in their bilateral relations.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Good morning! The markets remain laser-focused on developments in the escalating trade war. In sports news, Arsenal secured a decisive 3-0 victory over Real Madrid in last night’s Champions League showdown. Today’s Comment will examine the growing anxiety in bond markets, the latest updates on tariff implementations, and other key market-moving events. As always, we’ll conclude with our comprehensive roundup of both domestic and international economic data releases.

Bond Market Sell-Off: Investors are growing increasingly apprehensive as the trade war escalates, sparking a sell-off in Treasurys.

• The first day of the increased tariff implementation triggered a sell-off in global bond markets as investors retreated to the sidelines amid escalating uncertainty. Bond prices plummeted while yields surged, reflecting a rush to liquidate holdings as trade war tensions intensified. Despite these liquidity concerns, the US dollar has not strengthened — a potential sign that investors are diversifying their currency exposures.
• A recent Treasury auction has also raised fresh concerns about the growing federal deficit. Tuesday’s three-year note sale drew unexpectedly weak demand, signaling investor reluctance to increase their holdings of government debt. The lackluster performance suggests market participants may be preparing to reduce their Treasury exposure if economic conditions deteriorate in coming weeks.

• Recent bond market activity indicates declining appetite among US debt investors for medium-to-long term duration exposure. As illustrated in the chart above, tail and stop auction levels, which reflect where yields settled relative to market expectations, confirm this trend. The Treasury’s shift toward shorter-term issuance has enhanced liquidity in long-dated securities, though at the cost of reduced demand for intermediate maturities. Meanwhile, Treasury bills continue to demonstrate robust investor interest.
• Growing concerns about bond market liquidity could force the Federal Reserve to stop quantitative tightening earlier than they planned, and possibly even start buying bonds again. While lowering interest rates is still a possibility, the Fed would likely only do that if there were serious solvency risks, such as companies being in danger of not being able to pay their debts. Right now, it doesn’t look like we’re facing that kind of problem.

Dealing With Tariffs: Amid rising economic headwinds, foreign policymakers are implementing targeted relief measures to protect vulnerable sectors and maintain stability — while also seeking a deal with the US.

• While China has raised tariffs on US goods to 84%, it has also signaled its readiness to hold talks with the US. This comes after President Trump imposed tariffs of up to 104% on Chinese goods. Meanwhile, the People’s Bank of China has sought to cushion the impact by devaluing its currency, aiming to preserve competitiveness in the ongoing trade war.
• The European Union, having retaliated with tariffs against the US, now faces growing calls to counter US trade measures by lowering its own duties and pivoting toward China. Two ECB policymakers have already endorsed rate cuts at the upcoming meeting to cushion the economic blow from rising US tariffs. Meanwhile, Spanish Prime Minister Pedro Sánchez is urging the EU to deepen trade relations with China, aiming to reduce dependence on the US market.
• In Southeast Asia, countries are taking steps to mitigate the economic fallout by rolling out stimulus measures. Taiwan has activated its stabilization fund to shore up local equity markets following a sharp sell-off. Meanwhile, South Korea has announced a $2 billion aid package to bolster its auto industry. Elsewhere, Japan has established a task force to address the tariff dispute, with speculation mounting that it may consider an emergency budget.

• As the new tariffs take effect, signs of diplomatic progress are emerging. The US continues negotiations with trade partners to potentially reduce these measures, with several key developments: Vietnam has agreed to reduce its trade balance by purchasing more US arms, South Korea anticipates finalizing a significant trade agreement imminently, and Japan appears to be receiving preferential attention in ongoing trade discussions.

Big, Beautiful, Bill in Jeopardy? Republican lawmakers are increasingly hesitant to back the president’s tax bill, voicing concerns over its fiscal impact and doubting its revenue potential amid ongoing trade tensions.

• Several House Republicans opposed the president’s signature tax bill on Tuesday, raising objections to its hefty price tag. The dissenters are now threatening to block a key procedural vote needed to advance the legislation — a move that could stall the bill indefinitely. The resistance comes just hours after a high stakes meeting between GOP lawmakers, the president, and House Majority Leader Mike Johnson failed to resolve the spending dispute.
• The growing trade conflict has strengthened Republican opposition to the spending bill, as lawmakers express doubts about its ability to generate sufficient revenue to offset its costs. While the White House projects $600 billion in annual tariff revenue, economists caution that elevated rates could decrease trade volumes, thereby jeopardizing revenue targets. In an attempt to alleviate concerns, the president has set a goal of $1 trillion in spending cuts.
• While we expect Republicans will ultimately pass the tax bill, we question their ability to identify spending cuts substantial enough to reassure markets. This fiscal constraint may force lawmakers to consider revenue-raising alternatives, including potential tax increases on high-income households, as they prioritize preserving middle-class tax relief.

Coal on the Rise: President Trump signed an executive order to boost the production of coal with hopes that it can be used to fuel AI.

• The new executive order aims to roll back industry regulations that have contributed to coal’s persistent production decline. Through emergency measures, the president has authorized the Department of Energy to intervene in sustaining coal operations. The administration further underscored coal’s strategic value by classifying it as a “critical mineral,” a designation that directly links its production to national security.
• This move is expected to advance President Trump’s ambition to establish the US as a global AI leader. This comes as the president has sought to make the US the center of innovation for AI with his Stargate Project in which the US plans to invest $100 billion on co-located data centers, which would allow them to be built next to their energy source.
• Surging demand for data centers and semiconductor production has reversed years of stagnant electricity consumption in the US, triggering the first sustained increase in over a decade. This trend could drive up utility bills industry-wide while creating inflationary pressure on housing costs.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Our Comment today opens with some new observations on the global financial markets as they respond to President Trump’s new US tariff regime. We next review several other international and US developments with the potential to affect the financial markets today, including reports of a new Ukrainian incursion into Russia and another firing of a high-level US military officer as part of what appears to be a broad purge of officials.

Global Financial Markets: By market close yesterday, US stock prices were relatively little changed. However, intraday trading was just about as volatile as yesterday’s action in Asia and Europe. Stocks were whipsawed by a false report that President Trump would pause his reciprocal tariffs for 90 days and by news that he threatened an added 50% tariff on Chinese goods if Beijing doesn’t lift its retaliatory tariff of 34% on US goods by Tuesday. Amid this volatility, we think investors and their advisors should keep in mind the following key points:

• While it is tempting to tag all this volatility on Trump’s tariffs, the problem is broader. As we’ve written for years, the global order is in the process of changing as the US reconsiders its role as the global hegemon. Even if Trump froze or rescinded his tariffs today, that process would likely continue, and the result would likely be further economic disruption and market chaos.
• The administration’s mixed messages and shifting strategies also are likely to prolong the uncertainty. After all, even if Trump decided to pause or rescind some or all of the tariffs, businesses and investors now have probably been trained not to trust him. As with those of us who live in Missouri, their attitude might well be, “Show me” before they let down their guard and start making normal long-term decisions again.
• It’s also important to remember that the epicenter of the trade war is China. In response to Trump’s threat to impose an additional 50% tariff on China, the country’s commerce minister today said, “If the US insists on its own way, China will fight to the end . . . China will resolutely take countermeasures to safeguard its own rights and interests.” We judge that the Chinese leaders should be taken at their word on this, which suggests a prolonged US-China trade war.
• The ebb and flow of statements and potential tariff adjustments will certainly spark some rallies in the markets. Indeed, Japanese and US stocks today are rebounding on signs from the White House that it is open to negotiations. Given the discussion above, we think investors should be skeptical that a long-lasting rebound can be established so easily.
• Investment strategy should therefore make full use of the various tools available to manage risk, from proper diversification to meaningful positions in safe-haven assets such as US Treasury obligations, defensive blue-chip stocks, and gold. Such tools may not protect against all losses, but they are likely to help reduce gut-wrenching volatility.
• At the same time, our geopolitical, economic, and financial market analysis teaches us that today’s global transition and the Trump administration’s specific tariff policies have created big, long-lasting trends that are likely to be investable. For example, we have long championed high quality, dividend paying value stocks. Our Asset Allocation programs have also taken positions in European defense stocks. We continue to look for new opportunities amid the current market volatility.
• While investors may be tempted to sell their risk assets in times like these, it’s important to remember that such a strategy is very hard to pull off as it requires being right about both the time to sell and the time to get back into the market to take advantage of any rebound. Because that’s so difficult, the better approach for many investors is probably to ride out the storm and resist panic selling.
• Finally, while we might quibble with whether Trump really needed to impose his tariffs and other radical economic policies so abruptly and idiosyncratically — rather than telescoped beforehand and implemented step-by-step over time — we can appreciate the effort to address the US’s longstanding trade deficits, budget deficits, and debt. Even if Trump’s approach has created a lot of uncomfortable volatility and raised the risk of recession, the policies may well prove positive in the longer term. Time will tell.

China: State-owned investment fund Central Huijin yesterday afternoon confirmed that it had bought Chinese “A” shares to support the domestic stock market amid a rout sparked by the new US tariffs on China. The market intervention highlights the policy tools that Beijing is likely to roll out to protect the Chinese economy from the new tariffs. Other potential measures include interest rate cuts, a devaluation of the renminbi, and increased fiscal spending.

Turkey: In an interview with the Financial Times, Finance Minister Mehmet Şimşek said the global economic and market turmoil around the new US tariffs could actually be positive for his country. According to Şimşek, falling energy prices would help reduce Turkey’s current account deficit and help the country rebuild its foreign reserves. It would also help bring down consumer price inflation. The statement is a reminder that some well-placed countries could well see their geopolitical or economic positions enhanced in the new environment.

Russia-Ukraine War: Ukrainian President Zelensky today confirmed for the first time that Kyiv’s forces are now fighting in the Belgorod region of Russia, marking a second incursion after Ukrainian troops seized part of the Kursk region last summer. Even though the current US-brokered deal to stop attacking each other’s energy infrastructure is faltering, the new Ukrainian incursion is probably designed at least in part to be leverage in any broader peace negotiations between Moscow and Kyiv.

Canada: In its first-quarter business outlook report yesterday, the Bank of Canada said 32% of surveyed businesses indicated they are now planning for a recession in the coming year, up from an average of just 15% in the last two quarters of 2024. The figures confirm other reports suggesting the Canadian economy is already slipping into a contraction in response to the new US tariffs on Canadian goods.

United States-China-Panama: US financial firm BlackRock’s deal with Hong Kong-based CK Hutchison to acquire dozens of ports around the world, including key ports at either end of the Panama Canal, now appears to be in trouble after a Panamanian official said Hutchison owes $300 million to Panama and violated some Panamanian regulations. If the deal is scuttled, it would likely further fray US-China relations, which had been unexpectedly calm over the first two months of President Trump’s administration.

• The BlackRock-Hutchison deal had been pushed by Trump to reduce Chinese influence over the Panama Canal, but General Secretary Xi was reportedly angry about it when he eventually got wind of it.
• Because of Xi’s opposition, it would not be a surprise if covert Chinese influence was behind the wrench being thrown into the deal. At this point, however, it isn’t entirely clear whether the agreement will be killed definitively.

United States-Iran: Yesterday, the US and Iran said they will begin negotiations over Tehran’s nuclear program. However, the statements were contradictory, with President Trump saying the talks would take place directly between US and Iranian officials and the Iranians saying the talks would only be indirect through intermediaries.

• If the talks take place and are successful, the eventual result could be an end to US sanctions on Iran and more Iranian oil freely trading on global markets.
• If the talks fail, the chance of a US-Israeli attack on Iran would increase. Any such attack would likely be highly disruptive to the global economy and energy supplies.

US Military: Reports yesterday said Vice Admiral Shoshana Chatfield, the US representative to the North Atlantic Treaty Organization’s military committee, has been abruptly fired. That makes Chatfield one of about a dozen top military and national security officials fired after a meeting last week between President Trump and right-wing conspiracy theorist Laura Loomer. The firings have raised questions about who controls or influences top US national security officials and how the administration is managing US national defense.

• Chatfield was previously the first woman to head the US Naval War College in Newport, Rhode Island. While she headed the college, she was accused by conservative groups of being overly concerned with diversity, equity, and inclusion initiatives.
• Other officials recently purged include the head of the National Security Agency and several staff members of the National Security Council who Loomer reportedly accused of being disloyal to Trump.

US Fiscal Policy: The Centers for Medicare and Medicaid Services yesterday said it will provide a 5.06% hike in the rate at which it pays health insurers participating in the Medicare Advantage program. The increase, which takes place in 2026, is more than double the 2.23% hike proposed by the Biden administration in January. Since the new figure signals the Trump administration will be unexpectedly supportive of Medicare Advantage, the news will likely give a boost to health insurers’ stocks today.

US Tax Policy: A Bloomberg report yesterday said the Trump administration is mulling a potential exporter tax credit to help firms damaged by other countries’ retaliatory tariffs on US goods and services. Administration officials remain divided on the idea, which in any case would require Congressional approval.

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