The rhetoric may sound familiar, but this latest tariff chapter comes with a twist – the real negotiations aren’t between the US and its trading partners but between the White House and US bond markets.
In recent weeks, we’ve observed a subtle but important shift. US president Donald Trump appears far less reactive to equity market volatility than he was during his first term, when he routinely measured his success by the performance of the S&P 500. This time, the critical gauge is US funding costs.
Trump wants lower Treasury yields, lower interest rates and a weaker dollar. When Treasury yields began to crack in April, the tone shifted. The bond market, not the stock market, now seems to be driving policy calibration.
Confidence climbs
With most of the 90-day pause still ahead of us, markets remain positioned for optimism – bolstered by news of deals in the UK and China. But with Europe and Japan yet to make significant progress, a degree of limbo remains, with companies front-loading imports and delaying strategic decisions.
Spending hesitations, forecast withdrawals and supply chain adjustments are already contributing to a weakening macroeconomic backdrop in the US.
This economic hesitation is creating an odd contradiction. The curve is pricing four US interest rate cuts this year and an additional one in 2026 – a signal of deteriorating growth expectations. Yet markets continue to rally. The dislocation cannot persist indefinitely.
The Federal Reserve will not cut unless it sees both a material decline in economic growth and employment. So far, employment has only marginally softened.
Until there is meaningful deterioration in the labour market, the Fed can afford to wait. Employment, in our view, is the single most important variable. Policy, positioning, and market sentiment will all pivot off this axis.
The real question is whether financial markets, buoyed by optimism over tariffs, can look through the data and focus on the potentially better economic expectations that are now being priced into the second half of the year.
Clearly, we are in a worse place than we were at the beginning of the year, with seemingly 10% as the minimum tariff rate, but that is a lot better than the situation was only a few weeks ago.
Questions remain, but if this is now the ‘new normal’, then we would expect deals to be done with other major trading partners in the coming months.
Prudent positioning
Against this backdrop, our positioning remains cautious, albeit less so than a few weeks ago, given the improving mood music between the US and China. Markets are rallying on narrative, not fundamentals, and we have been reducing risk into these rallies.
We prefer to rotate into high-quality credit and cyclicals, where spreads have widened to levels we consider ‘recessionary’. We are slowly building exposures at attractive entry points.
Reflecting our view that US growth is going to be weaker for the next few months – and that will be reflected in risk appetite and the underlying duration effect – we’ve also been increasing US duration.
On inflation, we expect some pass-through effects over time but collapsing oil prices remain a strong counterweight, particularly for US consumer sentiment. The inflation outlook, whilst elevated from a soft data perspective, seems to be fairly well anchored when looking at the five year/five year expectations.
The market’s current optimism is built on thin ice. Trump continues to talk a good game but needs to make more progress on trade deals and time is running short.
For fixed income investors, the key takeaway is this: uncertainty – not growth or inflation – is the dominant force right now. And in such an environment, we continue to prioritise quality, flexibility and liquidity.
Andrew Lake is chief investment officer at Mirabaud Asset Management. The views expressed above should not be taken as investment advice.