Today marks a turning point in Donald Trump’s tariff policy. It is the day the tariff threat will materialize – unless there is a surprise U-turn – and hammer hopes that the aggressive tariff threats were not just a negotiation tactic. As a result, the Canadian and the Mexican imports will be hit by 25% levies, and the Chinese imports will be subject to 20% tariff. In addition, the US will impose tariffs on agricultural product imports starting from April 2nd and tariffs as highs as 25% are expected to hit the European imports in the foreseeable future.
Hence, markets are nervous since yesterday. The European stocks opened the week on a positive note as the clash between Trump and Zelensky forced the European countries to gather in a so-called ‘coalition of the willing’ to provide joint military support to Ukraine. Plus, EU Commission’s President Ursula von der Leyen said that they will relax the rules for carmakers for hitting CO2 emission targets originally set for this year and give the companies a 3-year window to align with the regulations. In practice, it means that if a carmaker doesn’t hit its carbon emission target this year, it will have two more years to do so, even if it means that it should increase efforts for the next two years. But above all, it means that when times are rough, even the Europeans could relax the rules and that nothing is written on a rock.
As such, the prospects of higher spending, hope that strict regulations could be relaxed and the expectation that the latter cocktail could boost growth in Europe further fuelled appetite in European equities on Monday. European defense stocks led the rally. The BAE systems jumped more than 14.50% to a record high, Rheinmetall bounced nearly 14%, Leonardo gained more than 16%, the French Dassault Aviation and Thales gained between 15 and 16%. Carmakers were also up, though gains there remained more reasonable. Volkswagen for example gained 2.30%. And overall, the Stoxx 600 reached a fresh record high, the DAX was up by more than 3% at some point and posted its best day since 2022, the euro bounced more than 1% against the US dollar and the USDSEK fell almost 2.50% as their military industry is seen as a major beneficiary of the rising European defense spending.
On the data front, yesterday’s CPI update came in slightly-higher-than expected by analysts but investors focused on the fact that inflation further eased toward the European Central Bank’s (ECB) 2% policy target rather than the fact that it eased less than expected. The further easing in inflation cementing the expectation that the ECB is heading towards an almost certain 25bp cut when it meets this Thursday.
Across the Atlantic, the picture was much less full of hope. The realization that the tariff threats will turn into reality hit sentiment, along with unideal ISM data showing that US manufacturing activity slowed more than expected in February while prices rose significantly faster than expected. And there is no magic, the tariffs are about the make the inflation headache worse in the US. Rising inflation expectations reduce the Federal Reserve’s (Fed) ability to ease policy to give support to slowing economy. And when the Fed is no longer there to save the market, bad news become bad news.
It’s crucial to note that market sentiment is now influenced less by the central bank policies and the level of yields, and more by growth expectations. As such, the US yields continue to fall not on dovish Fed expectations but on waning growth expectations. Atlanta Fed updated its US growth forecast for Q1 and now forecasts that the US economy will contract by 2.8% this quarter. As a result, investors are fleeing the highly valued US stocks. The S&P500 fell 1.76% yesterday, Nasdaq 100 tanked more than 2%. Nvidia tumbled almost 9% despite news that TSM will invest $100bn in US to diversify operations from the geopolitically sensitive Taiwan. The rotation trade from American to European equities is strongly in play and is increasingly backed by the waning US growth expectations and rising European growth bets.
Across Pacific, Chinese are dealing with Trump in their own way. They said that they will retaliate by imposing tariffs on US agricultural and food products. The CSI 300 index still slipped below its 50-DMA, but dipbuyers are joining in on expectation that the government could announce fresh support measures this week, while the AI optimism – though less sharp these days – could give leverage to nascent optimism.
In energy, crude oil fell 2% below the $70pb psychological mark – not necessarily on trade fears – but on news that OPEC+ will start restoring output production from April because Trump wants cheaper oil. OPEC will serve 138’000 more barrels per day to the market from next month and will gradually restore 2.2mbpd by 2026, abruptly ending the output cut policy of the past two years, whereas oil traders were expecting OPEC to continue to delay its production restoration plans as oil prices remained below ideal levels for Saudi Arabia. Prospects of higher output that will likely lead to output supply later this year is set to send the price of crude toward the $50/60 range in the first half. Cheers to that!
