Review the latest Weekly Headings by CIO Larry Adam.
Key Takeaways
- Falling gas prices could provide a boost to consumer spending
- Interest-rate sensitive sectors will benefit from falling interest rates
- Tariffs are not likely to be as severe or long lasting as expected
While we will lose an hour of sleep this weekend as we move our clocks forward, we've already been losing sleep this year. Why? Despite high valuations and optimism for tax cuts, deregulation, and US exceptionalism, expectations for the economy and equity markets to 'spring forward’ unabated in 2025 seemed unrealistic. We anticipated increased volatility, which has indeed picked up recently due to the new administration's tariff plans. These plans have dented consumer and business confidence, soured investor sentiment, and raised concerns about the US economy's growth outlook. Yet, amidst the uncertainty from Washington in recent weeks, some green shoots have appeared. While media headlines focus on the negative repercussions of Trump's policies, we highlight some underreported positive developments that could keep economic growth on track and support higher equity prices in the months ahead:
- Potential Peace Deal Between Russia-Ukraine Sparks Massive Fiscal Boost In Europe | With the Russia/Ukraine conflict entering its fourth year, President Trump aims to secure a peace agreement. While a full settlement remains elusive, the threat of losing US financial support and security guarantees has triggered a significant shift in European fiscal policy, which has been constrained by rigid budgetary rules for years. After talks with Ukraine collapsed in the Oval Office last week, Europe was forced to step up to support their military needs. Within days, Europe unveiled an $840 billion package to strengthen their defense capabilities, the new German government announced a €500 billion infrastructure bill to revive growth, and Ukraine now appears willing to sign the proposed mineral deal, which is necessary for ongoing US support. As Europe picks up the fiscal baton from the US, looser fiscal policy could offset any downside growth risks from tariffs.
- Falling Gas Prices And Tax Season Could Spur Consumer Spending | Concerns about consumer health have been growing, especially as consumer confidence fell to its lowest level in eight months in February, marking the largest monthly drop since August 2021. Retailers like Target and Home Depot have also reported softer consumer spending at the start of the first quarter. Despite this, there are signs of relief on the horizon with lower gasoline prices. While national gas prices (currently $3.10/gal) remain slightly above last year's lows, the recent 15% decline in crude oil prices (to $66/bbl) is historically consistent with lower prices at the pump. Since gas prices and consumer confidence are highly correlated, falling gas prices should help stabilize confidence and spending. Additionally, tax season is ramping up, and with refunds being issued at the fastest pace since 2020, this should provide a boost to consumer spending moving forward.
- Interest-Rate Sensitive Sectors Should Benefit From Falling Interest Rates | Elevated rates have weighed on the housing market, with pending home sales hitting a record low in January. However, falling longer-duration bond yields have driven the 30-year fixed-rate mortgage to a five-month low (below 7%), showing signs of life ahead of the spring selling season. Last week, mortgage purchase applications and refinances rose by 20% and 37%, respectively, indicating an uptick in future demand. With interest-sensitive areas like the S&P 500 homebuilder industry down ~30% from recent highs, falling rates should help boost economic growth and benefit interest rate-sensitive areas such as homebuilders and autos in the equity market.
- Softer Growth Patch Puts Fed Rate Cuts Back On The Table | After its December policy meeting, Fed officials indicated that an extended pause was likely due to rising policy uncertainty and stalled inflation progress. With resilient growth in Q4 2024, market expectations for rate cuts in 2025 were largely unwound, and there was even talk of the Fed potentially hiking interest rates later this year. However, with growth risks increasing, as shown by the Citi Economic Surprise Index dropping to a multi-month low, market expectations have shifted again to anticipate three rate cuts by the end of 2025. While we still expect the Fed to deliver two rate cuts this year, we expect it to deliver enough cuts (and end Quantitative Tightening) to provide additional support to extend the ongoing economic expansion.
- Tariffs Not Likely To Be As Severe Or Long Lasting | When it comes to trade, the Trump administration has been more aggressive than expected, implementing 25% tariffs on Canada and Mexico, 20% tariffs on China, and proposing additional tariffs set to take effect on April 2 (including 25% on the EU). This has weighed on business and consumer sentiment, as evidenced by a record number of 'uncertainty' mentions in the Fed's Beige Book and the US Economic Policy Uncertainty Index reaching its highest level on record ex-COVID. However, we expect the Trump administration to roll back some tariffs on our closest allies (e.g., Mexico and Canada), and we have already seen some flexibility by delaying auto tariffs on Canada and Mexico and excluding agricultural products. Ultimately, we expect the weighted average tariff to increase from 2.5% to 7.5%, which in our analysis would result in a 1% downside hit to 2025 S&P 500 earnings ($265-$267). Despite this, a healthy 10-11% earnings growth should support the equity market moving higher over the next 12 months.
- Trump Awareness To Market Moves And Sentiment | President Trump views the equity market as a key barometer of his success, but he has been remarkably quiet about it lately. While Trump mentioned we might see 'a little disturbance' from the impact of tariffs, we expect that any significant downward moves in the equity market (greater than 10%) will prompt more favorable rhetoric from the White House.
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