1st Quarter Market Review & Outlook
After a few good years in the market coupled with high valuations, a pullback of 10% at some point this year, and maybe even a bit more, was definitely possible. We didn’t know what the catalyst would be at the time, but it now appears clear that tariffs became that trigger.
One of Trump’s primary objectives is to address the stagnation in industrial sector employment in this country. The current administration believes this is due to the lack of tariff reciprocity and points out that most countries apply a higher tariff on the U.S. than we do on their goods.
Second, Trump would like to fix the large trade imbalance of goods that has grown consistently for multiple decades and has significant consequences as a result. Namely, a Chinese supply chain that feeds into multiple industries, particularly those dealing with national security such as semiconductor manufacturing, and rare earth minerals. Additionally, our dependence on foreign pharmaceuticals is significant and itself can be considered critical, in terms of both health and cost.
Third, he wants to address the federal debt and its sustainability. The Department of Government Efficiency (DOGE) was created to tackle this very real problem. There are other areas that the administration wants to tackle such as immigration, the border, the military being short on munitions after funding the Ukraine War, wanting to end the Ukraine War, increasing transmission line and pipeline growth, etc.
From what we can see, there is little evidence of a connection that trade deficits and manufacturing decline go together. Productivity, automation, and cost of labor are probably more to blame for the industrial employment stagnation in this country. Tariffs can be inflationary, but ultimately if they are high enough and they stick around, they may lead to declining growth which no one wants to see, including the Trump administration. His first administration did not see inflation when utilizing tariffs, in part because those tariffs were smaller, but at the same time there were no substantial gains made either. This time around a tight and tightening labor market due to immigration reform creates an additional level of complexity.
Additionally, we all know that government fraud and waste need to be addressed, despite the jury being out on whether DOGE is the right fix for this.
While the trade imbalance may not be addressed by tariffs, what is having some footing is foreign companies committing to building manufacturing facilities in the United States – to avoid the tariffs. Ultimately, this may be one of the main goals. In addition, there are several pro-growth strategies the administration wants to roll out, and I was somewhat surprised that these were not implemented simultaneously with the tariffs. This is still to come.
It is widely understood that Trump uses tariffs as a negotiation tactic, being willing to enact and retract them at lightning speed, when opportunities are present that he believes benefits the United States. With the market downturn at the beginning of February, we believe pressure is building on the administration to negotiate a bit faster, take the victory where it can, and help reduce the volatility that is roiling markets. If this happens, we might see the EU removed from the crosshairs, but not China which will remain a focal point. While this could spark a market rally in the near term, we see this as only the first step in the process of reducing the trade deficit.
At the end of February, we believed economic growth was building, the elusive soft-landing was here, and there was little chance of a recession. This has shifted somewhat with lower expectations of economic growth and the potential for additional interest rate cuts before the end of the year. We are not calling a recession yet, as we see the tariffs as more of a stumbling block at this point, and we should have a clearer understanding over the next 3 months of how economic activity responds to this uncertainty. Some additional positives on the horizon would be lower oil prices, US bank capital reforms, pro-investment extension of the 2017 Tax Cuts and Jobs Act, and potential Fed easing.
Looking ahead, markets have already pulled back a decent amount, and it is important to remember that equity markets will recover prior to the economy – equities typically bottom out first and recover first. The individual stock portfolios have held up very well during this cycle, and we are very pleased with this. We expect fixed income to have a good year as well, and we are off to a good pace.
Again, I highly encourage you to watch the video update when it is available. If you have any questions, please do not hesitate to contact our office, and as always, we thank you for your trust.
Marc Henn, CFP®
CEO & Founder
