Steep tariffs trigger a sharp market downturn, followed by a partial recovery and lingering concerns over economic growth and inflation.
The Trump administration's sudden imposition of aggressive reciprocal tariffs on April 2nd triggered significant selling pressure, causing the S&P 500 to fall by a staggering 10.5% over two days. This tariff-driven panic has secured its place among Wall Street's most notable events.
Following the initial shockwave, markets have shown signs of stabilization and recovered some losses, partly supported by subsequent announcements, including a 90-day pause on certain tariffs. The exclusion of major electronics from the steep 145% tariff levied on China helped alleviate immediate concerns about drastic price increases, contributing to a relief rally. Nevertheless, persistent trade tensions and the possibility of future escalations continue to foster caution among investors.
In the bond market, yields initially fell in response to economic concerns related to the tariff announcements. Global concerns over the safety of U.S. Treasuries briefly caused the benchmark 10-year Treasury yield to jump 50 basis points to 4.5% before settling back to its pre-tariff level. While a significant move in a short period, this rate remains comfortably within its range over the past year. Notably, 30-year mortgage rates remained surprisingly steady, hovering around 6.65%. The yield curve beyond the 2-year mark has normalized as investors demand a higher premium for taking on duration risk. Interest rates are higher than those observed during the 2010s. Bond investors appear to be adjusting expectations, demanding appropriate returns for lending money. It is normal for bond investors to require returns that compensate them for inflation risk and default risk, and that provide an additional premium for lending over longer durations. It seems investors are now pricing in these historical premiums again, returning to levels reminiscent of the pre-2008 financial crisis era.
The U.S. economy continues to present a mixed picture, adding complexity for investors and policymakers. The March employment report indicated the creation of 228,000 jobs, exceeding forecasts, although downward revisions were made to the previous two months' figures. The unemployment rate ticked up slightly to 4.2% but remains near historic lows. Steady growth in average hourly earnings continues to support workers and underpins consumer spending, the economy's primary driver.
Recession odds have increased and estimates for first-quarter GDP growth now show a wider range, from modest positive growth to potential slight contraction. While a deep recession appears unlikely, the consensus points towards a moderation from recent growth rates to a slower pace. Consumer behavior reflects this cautious outlook. Major retailers had already guided towards slower growth, and discount retailers are benefitting from consumers trading down.
The March Consumer Price Index (CPI) provided some relief. Headline CPI fell 0.1% month-over-month and was up 2.4% year-over-year. Core CPI, excluding food and energy, rose just 0.1% month-over-month. The year-over-year pace for core CPI slowed to 2.8%, its lowest level since March 2021. However, the Fed's preferred inflation gauge, the Core Personal Consumption Expenditures (PCE) index, remains above the 2% target, with March forecasted to be 2.5% year-over-year.
Equity valuations have moderated from recent elevated levels. According to FactSet, the S&P 500's forward 12-month P/E ratio is now approximately 19.0. While this is below the 5-year average of nearly 20, it remains above the 10-year average of 18.3, suggesting the market isn't necessarily undervalued historically and reinforcing the need for investment selectivity. Current first quarter projections estimate earnings growth for S&P 500 companies at around 7%, revised down from 12.7% prior to the tariff announcements. As we step into Q1 earnings season, investors are eager to hear management's thoughts on the business outlook, especially with the ongoing tariff uncertainties in play.
Gold has performed strongly, climbing over 20% year-to-date and exceeding $3,200/oz to achieve record highs. This robust performance is primarily attributed to strong safe-haven demand, propelled by escalating geopolitical tensions and persistent trade uncertainties. Conversely, oil prices have tumbled since the tariff announcements, as anticipated reduced global economic activity implies lower oil demand. Recent prices for WTI and Brent crude have fallen into the low-to-mid $60s/barrel range, with the Energy Information Administration (EIA) lowering its demand forecasts for 2025/2026.
The recent market turbulence sparked by the administration's tariff actions serves as a reminder of the unpredictable nature of investing. While markets have found some footing following the initial shock, ongoing trade tensions, mixed economic signals, and persistent inflation continue to cloud the near-term outlook. Equity valuations have moderated slightly, but they don't yet appear historically cheap, reinforcing the need for careful stock selection.
As we navigate this period of heightened uncertainty and await clarity on corporate earnings, our core investment philosophy remains unchanged. We continue to believe that focusing on high-quality companies demonstrating consistent earnings power, purchased at reasonable prices, is the most prudent path to achieving long-term financial success, regardless of the prevailing economic or political crosscurrents.
In the May issue of the Investor Advisory Service, our analysts cover in depth two recommended stocks that are suitable for long-term holders even in the current environment. The first is a midsized innovative medical products maker which has a business model with attractive economies of scale, serves a technology-forward, growing industry, and happens to be the undisputed leader.
Our second selection is a midsized business services and payments company that makes it convenient and cost-effective for their customers to pay expenses, maintain control of disbursements, and keep records.
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The commentary is excerpted from the issue of the Investor Advisory Service newsletter published at the end of April. To receive commentary like this in a more timely matter and receive actionable stock ideas each and every month, subscribe today. The Investor Advisory Service stock newsletter was named to the Hulbert Investment Newsletter Honor Roll for the 15th consecutive year for outperforming every up and down market cycle since 2007.
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