Investment Newsletter First Quarter 2025
Tariffs Hit Hard
After a positive start to the year, equity markets sold off aggressively in March. The S&P 500 Index ended the quarter with a 4.3% decline and briefly slipped into “correction” territory (defined as a 10% decline from the previous peak). The consumer discretionary and technology sectors were hit the hardest, with the Nasdaq Index down over 10%. Growth fears that followed uncertainty around tariffs and the broader Trump 2.0 policy agenda were the most significant weight on risk sentiment. These concerns translated into a decline in earnings growth expectations for the year. And cracks in the “AI” (Artificial Intelligence) secular growth narrative didn’t help broad market outcomes as investors have started to question the size of AI-related capital expenditures across the major hyperscalers and cloud companies as AI models become cheaper and more efficient.
Bonds were the beneficiary of the equity market volatility and economic growth concerns. Bond yields declined as the “flight to safety” trade sent investors into bonds, bringing interest rates down. Short and intermediate-duration bond indices posted low-single-digit gains for the quarter.
This is supposed to be a commentary on the events of the first quarter of 2025, but the most impactful economic event in 2025 happened to occur in the first two weeks of April. This commentary would be pretty useless if we did not discuss it, so please forgive us for exchanging the first quarter for the first seven twenty-fourths of 2025.
April 2nd Announcement
The event to which we refer is, of course, President Trump’s Rose Garden press conference announcing substantial tariffs to be levied against U.S. trading partners around the globe. While the President had made no secret of his desire to impose tariffs on imported goods and had already done so on China, Mexico, and Canada, the tariff rates to be paid by U.S. importers announced on April 2nd were much higher than expected. The announcement outlined a plan for tariffs of a minimum of 10% on all countries, 20% on the European Union, 24% on Japan, an additional 34% on China, and, especially surprising, rates ranging from 25% to 49% on Asian countries previously not thought of as rivals, such as South Korea, India, Taiwan, and Vietnam.
In reaction to the magnitude and breadth of the tariffs, U.S. stocks[1] immediately sold off 3%-4% in after-hours trading. The selling pressure was sustained when markets opened the following day, and the resulting 10.5% sell-off in the two days following the tariff announcement ended up being the fourth largest two-day drawdown in U.S. stocks since World War II. Only sell-offs during the 2008 Global Financial Crisis, the 2020 COVID era, and the freakish, technical-driven Black Monday in 1987 saw worse back-to-back days in the stock market.
With the following week marred by relentless selling of global stock markets, rising interest rates, and a Federal Reserve seemingly unable to provide monetary policy support due to the anticipation of tariff-induced upward pressure on inflation, the President pivoted on April 9th by offering a 90-day delay in implementation of his tariff policy to “any country that isn’t retaliating.” In one of the largest intraday relief rallies of all time, U.S. stocks recovered much, but not all, of their lost ground, rallying nearly 9% in minutes. Yet, shortly thereafter, tariffs on Chinese imports were substantially increased. Combined with the digestion of the fact that the minimum 10% tariffs on all imports were still in place, concerns of a protracted trade war were reignited. At the time of this writing, U.S. stocks remain 14% below their February peak.
Understanding Objectives
A significant challenge for investors is understanding the goals behind recent tariff announcements. One potential objective could be to strengthen the U.S. trade negotiating position. Given that the U.S. runs trade deficits with many countries, higher tariffs might be more impactful on trading partners than on the U.S. Notably, hedge fund manager Bill Ackman tweeted on April 5th, suggesting that the negotiating style involves asking for significant concessions and then settling for a compromise. Early signs indicate that trading partners are open to reducing their tariff rates. If the goal is to use negotiating leverage to secure trade deals, tariff hikes could be temporary, potentially limiting their long-term economic impact. However, convincing other countries to commit to reducing their trade deficits with the U.S. would complicate and slow negotiations. This may be an extremely difficult proposition for poorer countries that lack the resources to purchase higher-value U.S. exports. And persuading countries to line up against China and enact their own tariffs may be a bridge too far. National Economic Council Director Kevin Hassett recently stated that the Trump administration was negotiating trade policy with 130 countries. Perhaps we will gain some clues on the end game as these negotiations progress.
Another potential objective could be to encourage the return of manufacturing jobs to the U.S. For this to happen, corporations would need to believe that tariffs will remain high for an extended period before deciding to relocate production and investing in building manufacturing facilities domestically. We certainly do need to be able to produce and secure our access to key resources such as semiconductors and pharmaceuticals. And believe there is plenty of room to expand manufacturing capabilities in this country, focusing on high-value products. But reshoring takes years, not months. And we’re not of the view that our labor force is well suited to build iPhones or low-value consumer electronics at economical price points. Maybe over time, with the use of robotics, automation, and Artificial Intelligence. But we’re not there yet.
Going Forward
During the sell-off following the tariff announcement, we saw a flurry of communications issued by folks with impressive-sounding titles from impressive-sounding financial institutions. While generally informative about the facts of the matter at hand, they also contained a long list of recommendations of how to reallocate capital in the face of this new trade paradigm. We understand the comfort such pronouncements can give investors. When markets are in freefall and emotions are high, the urge to DO SOMETHING is unavoidable. Unfortunately, it is also the absolute worst possible time to give into that urge and make sweeping financial decisions. At a time when fiscal policy is undergoing major shifts on a daily basis and the definition of success for these policies is just as fluid as the changing policies themselves, how could one have any confidence – to the upside or downside – when moving capital between asset classes or sectors?
The Importance of Planning
Planning for periods of market distress begins with having an asset allocation where the mix of risk-based and more stable assets contemplates the inevitable possibility of significant market declines and accurately reflects each client’s ability and willingness to weather these periods of market distress while still meeting their financial goals.
The most important step in weathering volatility and stressful market conditions is to stick to the plan. That plan was created for a reason, and that reason was not to discard it as soon as stocks fall 10%.
Whether the President backing away from the April 2nd tariff policy proves to be temporary or permanent, it’s clear that consumer and corporate confidence and visibility have taken a hit. This will likely weigh on consumer spending patterns and corporate capital expenditures in the near term. Economic and market outcomes are highly dependent on the duration of this shock. We remain confident in the companies in which we have invested and approach those investment decisions through the lens of long-term business owners, with a focus on their long-term earnings potential, not their results over the next couple of quarters.
We have every confidence that we and our clients, in partnership, will safely navigate this inherently uncertain future.
