The announcement of an increase from 25% to 50% in US tariffs on steel imports – and President Trump’s comments that China was violating the trade agreement of a few weeks ago – risked dampening the recovery in equity markets we have seen since early April. Some good earnings and economic news, however, helped to maintain the positive momentum.
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While the tariff roller-coaster might yet derail the rebound, the broader economic context remains positive enough for us to anticipate continued (modest) equity market gains.
Another reason for the market’s comparatively sanguine reaction to President Trump’s announcements is that many investors by now see them as negotiating tactics rather an indication of where tariffs will ultimately end up.
There has been encouraging economic data on both sides of the Atlantic. In Europe, German retail sales have been doing much better than expected. US consumer confidence rebounded, though most survey data is still below pre-election levels.
The US consumer remains a key market concern. Revisions to US first-quarter growth data showed consumer demand rising by just 0.3% in the quarter, well below the 0.8% average gain in 2024. The second quarter has not been off to a good start, either. Sales shrank by 0.2% month-on-month in April (see Exhibit 1).
Europe, by contrast, has generally fared better, with the notable exception of Germany.
The decrease in retail sales in China was mirrored in the purchasing managers’ index (PMI) data, which showed a sharp contraction in the manufacturing sector. The rate of expansion in the services sector also slowed, though only modestly.
The weaker Chinese manufacturing PMI stands in contrast to data for the rest of the world, where PMIs have either improved or fallen only slightly as companies accelerated production to avoid the US tariffs.
There is a notable contrast between the US and the rest of the world: the absolute level of the US manufacturing PMI is above 50 (though the ISM series is not), while most of the rest of the world has sub-50 readings (see Exhibit 2). The pattern in the services sector is similar, with the US outshining other countries.
Tariffs – Wider split between tech stocks and the rest?
The bifurcation between tech stocks and the rest of the equity market seen in recent years is arguably being exacerbated by the Trump administration’s tariff policies.
The tech sector is not immune to tariffs and restrictions on semiconductor exports, which has led to negative earnings revisions just as they have for other sectors. However, the development of artificial intelligence technologies is driving corporate profits higher, faster. Consensus estimates for this year’s earnings growth by the tech-heavy NASDAQ 100 index are 16%, compared to just 5% for the Russell Value index.
Estimates for emerging markets are also high (20% earnings growth year-on-year), similarly concentrated in the technology sector. By contrast, growth estimates are far lower for the MSCI Europe and Japan indices. That is partly due to the indices’ high exposure to the energy sector, where earnings are being dragged down as oil prices fall. US tariffs have also hit car exporters in Japan.
Still some optimism among CEOs
Given all the uncertainty around tariffs, it might be surprising to learn that corporate leaders are comparatively optimistic about the future. As companies reported their latest earnings, the number of CEOs who raised their earnings guidance was actually above average (see Exhibit 3).
While the ultimate level of tariffs is still unclear, US companies are relatively sure there will be tariffs on imports of some kind. This should benefit them as demand moves toward domestic producers. Deregulation, tax cuts, lower energy costs, and increased mergers and acquisitions are other positive factors.
One big question mark over 10-year T-note yields
Long-duration bond investors have had to accept rising yields so far this year, particularly in Japan and Germany. There are worries that interest rates in the US could yet move up sharply if the fiscal situation deteriorates further, or foreign demand for bonds wanes. The weaker US dollar suggests that this has already happened to some degree.
In the US, the ‘pain’ has been relatively contained so far, with 10-year Treasury yields near the middle of the range they have been in for the last two years. Much will depend on the outcome of negotiations in the US Senate around the administration’s ‘One Big Beautiful Bill’ that would extend the tax cuts from President Trump’s first term.
While the proposed legislation does not reduce the budget deficit, it should not increase it meaningfully either, particularly when tariff revenues are taken into account. In other words, the long-existing poor fiscal outlook for the US is still intact, but there is always the question of if or when investors become less willing to accept it.
