April 2025
Was it a clever strategy or a caving of conviction for the U.S. and China to come to a quick resolution to their trade war? Did Donald Trump acquiesce to market stress, or did China want a quick resolution to avoid a further disruption to their economy? Regardless of the catalyst, the news that the U.S. is going to sharply reduce the proposed tariff on Chinese goods was welcome news to the capital markets. The S&P 500 closed at 5,670 on April 2nd, the so-called liberation day. Three days later it closed nearly 15% lower as fear of stagflation crippled investor appetite for risk. As of May 12th, the index has regained all that loss and is now trading above the level touched when tariffs were first implemented.
As expected, the bond market reacted similarly. Before the tariffs went into effect the 2-year note was trading at a yield to maturity of 4.00% and Fed fund futures pricing in two rate cuts this year. After trading a low as 3.60%, the two-year note is back at the 4.00% level and fed fund futures are again implying two rate cuts this year.
Ironically, the bad news that was expected to impact economic data has yet to materialize. Fears that the Elon Musk engineered layoffs would cause unemployment to spike have not yet come to pass. The unemployment rate continues to hover around 4.2% and the economy has added 575,000 non-farm jobs since the first of the year. However, the “soft” data, namely the various surveys and opinion polls have tanked with the majority of those polled expecting economic Armageddon (slowing economic growth, rising inflation, rising unemployment) before trade negotiations conclude.
With the news of a quick and constructive start to the negotiations with China, an alternate outcome seems to be arising, namely a return to business as usual. No doubt that the next inflation report will not be as sanguine as recent observations, but perhaps with an early resolution will come only a brief rise in prices. The same could be said for employment. An early resolution could possibly enable employment to continue to grow, which in turn would allow the economy to continue to expand.
Considering that outcome as most likely would allow volatility to subside in the capital markets, and corporate leaders would be better positioned to manage inventory and pricing. With retailers not yet having planned for the year-end selling season, they could better plan their purchase and sales goals accordingly.
The other winner of a speedy conclusion to the trade war would indirectly be the Federal Reserve. As explained by Chairman Powell, the committee lacks the visibility to forecast the direction of future interest rate moves. With the fear of tariff-inducing inflation behind them, they could better plan for managing the economy. Moreover, in that instance, the pressure Donald Trump has exerted on the Chairman would likely lessen.
While it’s probably wishful thinking to think the trade war has already run its course, it is plausible.
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