April 2, 2025 –
To summarize the market action of March of 2025 in one chart: U.S. stocks (SPX) did poorly, international stocks (especially Europe, VGK) did well in dollar terms, and gold (IAU) did spectacularly well.
The main culprit appears to market concerns about the Trump administration’s tariff policies. President Trump’s 4pm tariff announcement today did little to soothe market nerves. As I write this, S&P 500 futures are down just over 2% from today’s 4pm close. The early read from commentators is that the announced tariffs, especially those directed at Asian countries, are worse than expected, though such opinions are surely influenced by the market’s subsequent price drop.
The two leading theses are that either President Trump is really serious this time and these tariffs are here to stay for the long haul or that this is yet another negotiating tactic and that tariffs will be reduced once our trading partners give appropriate concessions. I have no crystal ball, but my sense is there will be subsequent bilateral negotiations which will yield reduced trade barriers in both directions. Though, in fairness, I heard a very well-argued opinion on Bloomberg news an hour ago arguing the exact opposite. Suffice it to say, uncertainty abounds.
An attempt at analysis
A thorough analysis of the situation—though perhaps somewhat dated in light of today’s news—was produced by Yale’s Budget Lab, which forecast a permanent GDP hit of 0.3-0.4% in the U.S. from the new trade barriers. While not ideal, this certainly falls short of economic cataclysm.
It should also be noted that President Trump’s tariff plan did not arise in a vacuum. The National Review (which leans right in its news coverage according to AllSides.com) carried an article on April 1, 2025 which detailed many examples of trade barriers on U.S. goods that have been put up by other countries. The article, while hardly pro-tariff, acknowledges that:
[E]ven if starting a tariff-hiking trade war is economically self-destructive, Trump does have a point that a bunch of our biggest trading partners have higher tariffs on our goods than we charge on theirs.
I am no macroeconomist and much of what I read from credible macroeconomists (from JP Morgan for example) suggests that tariffs are a bad idea for growth and inflation expectations. But, perhaps, markets have become a bit obsessed with the tariff narrative. As Robert Shiller wrote in his 2017 American Economic Association presidential address, narratives behave a bit like viral epidemics: they start slowly, then get seized on by the media and market participants, which leads to negative price action in markets and further speculation that the narrative of the day will lead to disastrous outcomes, thus reinforcing the narrative; but eventually narrative epidemics subside, as the media and investors turn their attention elsewhere.
The New York Times—certainly not a big fan of the Trump administration—carried a very interesting piece recently about a trade war simulation carried out by the Center for New American Security. The article is well worth reading, but the punchline is that, in the simulation, things turned out okay. To quote from the article:
Emily Kilcrease, a senior fellow at the think tank who played the part of Mr. Trump, said the game suggested that “there is a path to victory for a U.S. tariff-first policy.” She cautioned this would be true only if the United States focused on reaching bilateral trade agreements, a strategy she called “viable” but “high risk.”
For all the negatives that the impending trade wars may bring, there is also a decent possibility that negotiations will indeed take place and that the U.S. and its trading partners will come to trade agreements that are much less onerous than what the market is currently pricing in. Though, admittedly, in light of today’s price action, it is hard to stay optimistic.
Positioning for the coming month
Since QuantStreet’s portfolios have been overweight the U.S.—which has served our investors well for the last few years—March was a weak month for us (performance details are available here). As we wrote last month, we have recently added European stock exposure to our portfolios. Given the relative outperformance of Europe that took place in March, and our observation that one month returns have a (weak) tendency to mean revert over the subsequent month, we hold our European exposure largely fixed. Based on several indicators, and in particular an updated version of our return-to-the-median analysis, U.S. markets continue to look reasonably attractive relative to the rest of the world, and we maintain our U.S. overweight.
Recently, our valuation and trend signal has favored an allocation to high-yield (HY) corporate bonds, though we have avoided this exposure due to the historically low level of high-yield spreads. However, over the past few months, HY spreads have increased by close to 100 basis points (i.e., 1%).
Our valuation model identifies high-yield spreads as an important forecasting variable for HY bond returns, with higher spreads implying a higher return forecast. Combining this with the resilient price performance of high-yield bonds—helped by falling interest rates—and their relatively low correlation with the rest of the portfolio, we initiate a small allocation to high-yield bonds for the coming month. Supporting this allocation is the fact that HY corporate bond defaults have been benign recently and are forecast to remain relatively low (see Fitch and Moody’s). Also, the NY Fed GDP Nowcast suggests that, based on data received thus far, U.S. economic growth is in good shape. Admittedly, the Atlanta Fed GDPNow forecast looks worse, but the NY Fed nowcast has a good recent track record.
We will, of course, continue to carefully monitor market and geopolitical developments and adjust our portfolios accordingly.
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