President Trump’s announcement of a sweeping array of reciprocal tariffs on 2 April rocked stockmarkets globally with its magnitude and unorthodox calculation method, sending US shares tumbling. Even traditional safe havens like long-term US Treasuries sold off sharply amid crash-like trading conditions. In Trump’s own words, the bond market got a little “yippy”.
A fast rebound masks deeper fragility
It seemed, at least for a moment, that the long, sunny era of US stock market dominance might be drawing to a close. But after that early April chaos, equities staged a rapid rebound. In the face of a bond market rout, Trump blinked, and reciprocal tariffs were paused. Prices now look much like they did in March.
However, this recovery obscures a growing conflict between prices and fundamentals.
Valuations remain stretched despite rising uncertainty
US equities still trade at a 30% premium to international markets – priced at around 20 times expected earnings versus 15 times for their international peers. That’s if you believe consensus earnings expectations, which have barely budged. Estimates for US earnings this year fell just 1% in April. In our view, that looks like wishful thinking.
While policy pivots and trade negotiations may have calmed some nerves, the broader environment has already shifted. Confidence is plummeting among consumers and businesses, while both worry about inflation and uncertainty. Whereas predicting the policy path is a fool’s game, we do not need to predict that uncertainty is high – it just is. That isn’t going away soon, and uncertainty has its own effects. Uncertainty is bad for business. It dampens spending and delays investment.
Fundamentals appear to be deteriorating, but prices have yet to follow.
A cautionary tale for investors
In response, investors typically grow more cautious. With less confidence in fundamental outcomes, investors need more compensation for taking risk, so they are willing to pay less today for the promise of tomorrow’s profits. This seems to be the mindset of professionals, but a rush of money into speculative assets suggests that retail investors are still bullish.
For some time, we have believed that US stock market returns had become overly reliant on “great expectations”. Instead, we think the opportunity set looks more attractive beyond the US, in companies where expectations and valuations are both lower. Companies outside the US may find themselves in a much better environment. Starting valuations are cheaper, their governments can stimulate, and their central banks can cut interest rates.
Despite all that has transpired, markets still appear to believe in American exceptionalism. However, in our view, the idea that US companies can deliver strong earnings growth amid rising geopolitical risks, unpredictable policy, and weakening global demand now looks increasingly tenuous.
Stefan Sommerville is an investment specialist at Orbis Investments. The views expressed above should not be taken as investment advice.