Trump Always Chickens Out – or TACO – was the dominant investment theme during the month of May. For financial markets, the accompanying turn from uncertainty to optimism worked out well. After all, if Trump’s policies are little more than a combination of maximalist demands and quick capitulation, the damage will be limited. The stock market in particular saw confirmation in the temporary reduction of reciprocal trade tariffs between the US and China to 30% and 10% respectively and the rapid postponement of a trade tariff increase on the EU to 50%. But financial markets were by no means unanimous in their verdict. The dollar barely recovered from a weak April, inflation expectations rose and gold continued to do well. And thus the tension between the optimism surrounding the TACO trade and the uncertainty surrounding the damage of the trade war became clear. The former seems motivated by relief that worse has been avoided, while the latter focuses on the deterioration in the outlook for growth and inflation.
• TACO 1 = Postponement reciprocal tariffs on 9 April
• TACO 2 = Retreat from threat to fire Powell on 22 April
• TACO 3 = Postponement of 50% reciprocal tariff on EU on 26 May
And that the outlook has deteriorated in the US in particular is clear. The ‘soft’ sentiment indicators had already declined significantly and continue to send worrying signals about both growth and inflation. Purchasing managers are indicating they have to pay higher prices, likely pushing up inflation in the near future. Even more, they are also signaling that orders and production are falling, which could weigh on economic growth.
Bit by bit the ‘hard’ economic data is now starting to weaken as well. Particularly in the areas of business investment and consumer spending, this is beginning to show. Companies seem to have hit the pause button and the supply and demand for business loans is shrinking. Consumers have scaled back their spending, saving more and taking out less credit while delinquencies are mounting. And the housing market has also stalled. The labor market has proven robust so far, but it normally follows the rest of the economy with some lag. All in all, for this reason, we remain cautious and still see a high risk of a recession in the US.
Financial markets focus on the US and Trump, of course, and the increase in the effective US trade tariff from 2.5% to 15% is expected to hurt more in the U.S. than in the rest of the world. That said, there are also clear signs that Europe and China in particular are getting hit. In Europe, inflation is falling rapidly while China is still struggling with deflation. And both are straining with weak sentiment and disappointing consumer spending. Not surprisingly, the OECD has lowered its forecast for global economic growth for 2025 to 2.9%.
As mentioned, May was a good month for the global equity market, rising almost 6%, reducing this year’s decline to about -4%. Investment grade and high yield corporate bonds also had a good month, and our expectations for our illiquid investments in private equity, private debt and infrastructure are positive. Looking ahead, however, these strong returns have one drawback: there is less cushion for disappointment. And given weak sentiment, the cooling economy and the still very high uncertainty surrounding Trump’s trade war and fiscal policy, we think the potential for disappointment has only increased. Especially since investors have so far largely stuck to their expectations around future earnings growth. We can explain the TACO trade from a relief perspective, but a TACO trade that drives a sustained recovery for the rest of the year seems unlikely to us.
From that view, we maintained our defensive positioning last month. We expect a better buying opportunity when the financial markets have a greater understanding of the economic and geopolitical damage done by Trump. Currently, in our view as investors, we are not being compensated enough for that risk.
BY: WOUTER STURKENBOOM, Chief Investment Officer
