Donald Trump has quickly settled back into the Oval Office and despite being the oldest person to ever be elected President, he’s taken the experience of his first term to move quickly to execute on his America First agenda. In a little over a month, the President has signed over 70 executive orders, more than any of the preceding 14 presidents over the past seven decades in their first 100 days in office. This frenetic activity of change in the government has set the tone for this administration and is putting everyone through their paces to keep up and assess the legality, viability, and ultimately the impact of his policies.
Change can be unnerving, especially when it’s broad-reaching and occurs suddenly. But as investors, it is important to look beyond the whirlwind of headlines and knee-jerk market reactions, and instead fully evaluate the likelihood of potential outcomes and their impact on the economy and markets. We consider the effects of a few of the more meaningful directives from the White House below but are reminded that long-term strategic allocation and regular rebalancing are the best remedies to unsettling market volatility, whether it is caused by global financial crises, pandemics, or new governments.
It’s the Economy…
Markets initially welcomed a Trump presidency, with equity indices rallying to new highs on the back of his electoral victory. However, rising concerns about a weakening consumer base, driven by potential tariff-induced inflation and rising DOGE-driven unemployment led to a market sell-off in February. Although market volatility has picked up, the current state of the economy remains in a good place and should have enough resilience to weather through trade wars and government workforce reshuffling without suffering a recession.
Businesses have been operating well, with stable earnings and limited debt defaults as they have pivoted their operations to manage through a higher interest rate, tighter workforce, environment. Fourth quarter corporate earnings and 2025 outlooks remain constructive, with expectations for another year of low double-digit growth. The broader economy also continued to expand at a solid pace of 2.8% in 2024. Forecasts for 2025 are expecting a low- to mid-2% growth rate, a healthy level when flanked with stable inflation and balanced labor. Unemployment remains low at 4%, and while inflation has been stuck at around 3%, the economy has been able to continue to expand at these levels. Consumer demand has experienced some weakening, as credit delinquencies have risen, but solid employment and strong market performance have fueled the wealth effect enough for many to continue to spend and support the economy.
Stock and bond markets are in general agreement with a constructive economic outlook, with equities trading at a fully valued 22x Forward P/E multiple and the historically low excess spreads from fixed income. These valuations indicate that (for now) investors expect the current pace of growth to continue.
Deficits & DOGE
There are certain policy objectives that remain consistent from Trump’s first term into this one, notably wanting to lower taxes. Thus, his agenda includes the extension and enhancement of his 2017 Tax Cuts and Jobs Act, which will be welcomed by taxpayers, but raises concerns around how the government will fund the revenue shortfall. Even with plans for significant spending cuts, the lost tax revenue will further increase the deficit and possibly cause the country to hit the debt ceiling again next year, even if it’s raised again this year. It’s been over two decades since the nation has experienced a budget surplus, as deficit spending has become the de facto means of funding government spending, particularly exacerbated by the 2008 Global Financial Crisis and 2020 COVID pandemic. This has pushed the country’s debt-to-GDP ratio to 124%, making the US one the most indebted nations amongst developed countries. We take the view that when push-comes-to-shove, the US will meet all its financial obligations, but in order to maintain our economic dominance and position as the reserve currency for global trade, the country must right-size its balance sheet.
This is where Elon Musk and Scott Bessent step in. Treasury Secretary Bessent has set a goal to cut the budget deficit in half to 3%, a level at which the country would begin to chip away at the national debt. However, to make a material dent in the budget, there would need to be large cuts to federal spending programs and significant human capital reductions made by Musk’s Department of Government Efficiency (DOGE). The federal government is the largest employer in the country with over 3 million civilian employees. Through layoffs of employees with less than a year on the job, and offering resignation packages to others, DOGE is looking to cut at least 10-20% of the federal workforce to bring down costs and enhance productivity. Unfortunately, the net savings from headcount reductions may only be $10-20 billion per year, while a notable figure, it is a fraction of the almost $1 trillion in deficit reduction Bessent is looking to achieve. IF achieved, and despite acute pain in the Washington DC job market, the overall impact to the broader economy should be relatively modest, adding a few tenths of a percent to the national unemployment rate and a small detraction to our GDP. The consideration is that these layoffs seem to be occurring swiftly and with less forethought than may be necessary, potentially causing short-term critical disruptions in the operations of the government which could detract from any initial efficiency thought to be achieved.
The Bull in the China Shop
In addition to spending cuts, tariffs are intended to bring in revenue to offset the cost of lost tax revenue. Trump has resumed the trade-war with China to drive balance in our trading relationship with an initial 10% wave of tariffs on imports, followed by another 10% recently. China retaliated with their own set of trade restrictions and anti-trust investigations into US businesses. This battle has been ongoing since Trump’s first term, and was maintained by the Biden administration, and overall makes sense to protect US intellectual property and domestic businesses. However, if there’s one thing that is predictable about Trump it’s that he can be highly unpredictable, as he’s also threatened tariffs to key trading partners and allies.
One of the President’s first economic actions was to threaten to slap 25% tariffs on our major trading neighbors, Canada and Mexico, in addition to the 10% tariffs on China. Additional tariffs have been announced on steel and aluminum imports as well as plans for tariffs on pharmaceuticals and automobiles that will negatively impact European trading partners. Tariffs, if implemented to this degree, can be destabilizing to an economy, dragging on GDP as producers and consumers grapple with suddenly higher costs to transact and consume goods. The step-up in prices would cause an initial shock to inflation, which may taper off with declining demand and slowing economic growth over time.
However, as quickly as the first wave of tariffs were announced, the ones against Canada and Mexico were postponed as the two countries came to the table to negotiate. As of this writing these tariffs have gone into effect. The broader market is trying to determine whether these proposals (or, threats?) may be intended as opening salvos to negotiation rather than official policy initiatives. Nevertheless, trade negotiations can be highly disruptive, creating unpredictability and driving market volatility. US Dollar strength has weakened as economic recovery gains momentum abroad and investors reassess the gap between the US government’s bark and bite. We recognize that there is a risk of a stalling economy if Trump’s mandates are implemented in full, however we expect the ultimate impact of tariffs to be more modest as our trading counterparties negotiate for more palatable terms. We also note that these risks are coming into play during a period where the US economy is strong and can better weather these challenges.
Can Consumers Continue to Consume?
While the core objectives of Trump’s agenda may be clear, such as rebalancing trade with other countries and cutting the bloat in the Federal government, the path taken to execute them has not inspired much confidence amongst policymakers, investors, and consumers. The latest consumer sentiment survey hit the lowest level in over a year, driven by concerns of inflationary pressures from anticipated tariffs. Similarly, we take the view that while the economy and underlying consumers are in a stable position right now, there is risk of a deterioration in growth and consumption on the back of rising prices and unemployment. We do not expect a recession though, as we are still in an era of rapid technological change and investment that should support domestic expansion, even if at a potentially slower pace. Additionally, the Fed has paused cutting rates for now but could restart that path and can provide further monetary stimulus if the economy were to meaningfully wobble.
Defensive Dividends and Carry from Coupons
Our concerns are more related to deteriorating investor confidence that could reset equity valuations lower and cause an up-tick in market volatility. We are already seeing some of this rotation as the high-flying Magnificent 7 underperformed broader indices to start the year, and Value-oriented stocks are outpacing more expensive Growth-stocks. It seems like equities, particularly the largest ones, have experienced tremendous multiple expansion on expectations of rapid growth, and now investors are looking for them to prove it out. In the interim, cheaper, cash flow driven companies and income-producing assets like fixed income have picked up more investor attention as dividends and interest income distribution have become more reliable sources for returns than stock appreciation in the near-term. We continue to recommend a more balanced approach to Value and Growth factors than what the traditional large cap indices provide, and maintain an allocation to international equities, which are cheaper than domestic stocks and benefit from the weakening US Dollar and recovering business cycles.
Credit-driven strategies remain attractive as interest rates continue to stay high, delivering near-equity-like returns for lower volatility. While fixed income is not immune to the rich valuations that equities are seeing, the consistency of income, and low default risk in the current environment make them appealing. We are not advising investors sell equities to get underweight their target allocations, as it is very difficult to time markets over the short-term, but rather to maintain the discipline of rebalancing equity gains into other diversifying asset classes, having benefitted from strong stock market returns over the past couple of years. Stocks have outperformed their long-term average of approximately 10-12% annualized returns. Even this average has been skewed higher on the back of the Tech and Mag-7 rally of late. It is very difficult for markets to maintain this momentum for a third year in a row. Meanwhile, with high interest rates, investment grade bonds can offer mid-single digit returns, and higher-yielding credit opportunities can approach or exceed double-digits, so rebalancing and diversifying into these asset classes shouldn’t result in a material drag on performance, while benefiting from the diversification of return drivers. Investors with shorter-term investment horizons should be even more defensively positioned in liquid, lower risk investments for the portion of capital that must be accessible as the relatively lower volatility environment we’ve enjoyed may get choppier in the near-term.
The second Friday of every new year is recognized as National Quitters Day, as this is the day where many people give up on their new year’s resolutions that were set less than two weeks prior. Lack of habit, inconvenience, and impatience for results are the likely factors for people to quit so easily. Portfolio management and investing cannot lose that discipline. Investing is hard work, and while it’s fun to celebrate the high-flying stocks like Nvidia, Palantir, and Cloudflare, those tend to only be a relatively smaller part of a holistic portfolio and likely the riskiest part of it. We need equities for long-term growth, even when economic signals might cause us to want to pull out. The timing element of investing is not very reliable, however portfolio rebalancing has steadily shown the long-term value of generating more consistent returns through economic cycles and presidencies.
Important Disclosures
This information is for general and educational purposes only. You should not assume that any discussion or information contained herein serves as the receipt of, or as a substitute for, personalized investment advice from Simon Quick Advisors & Co., LLC (“Simon Quick”) nor should this be construed as an offer to sell or the solicitation of an offer to purchase an interest in a security or separate accounts of any type. Asset Allocation and diversifying asset classes may be used in an effort to manage risk and enhance returns. It does not, however, guarantee a profit or protect against loss. Investing in Liquid and Illiquid Alternative Investments may not be suitable for all investors and involves a high degree of risk. Many Alternative Investments are highly illiquid, meaning that you may not be able to sell your investment when you wish. Risk of Alternative Investments can vary based on the underlying strategies used.
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