"Playing the piano with both hands" is an old Dorsey Wright saying that describes being a master of both fundamentals and technicals. Today, we do just that with a Macroeconomic update

Key points: A pivot back to the fundamentals as trade conflict comes off the boil

• In three months, the Nasdaq-100 Index® (NDX®) went from a bear to a bull market as ongoing trade policy developments have fueled risk assets globally.
• Concern was that U.S. economic hard data would catch-down to weak sentiment data. While worst-case scenarios will likely be avoided, there will still be an impact to activity.
• Q1 2025 earnings were solid. But markets are focused more on corporate outlooks and guidance.

Summary

Trade policy developments continue to unfold, driving risk assets higher over the past two months. Yet uncertainties and cross-currents persist for the U.S. and global economies as the average effective tariff rate on U.S. imports stands to be almost five times higher compared to 2024. Inflation expectations remain elevated and greater clarity is still needed for corporates. Equity markets remain on tenterhooks, and while incrementally more positive in the interim, investors have low conviction. However, as the markets and the real economy do not move in tandem, markets have priced in the lower likelihood of a recession and the expected ensuing decline in EPS growth rates. Appreciating the scope for market volatility ahead of the July 9th deadline of the 90-day pause on reciprocal tariffs, markets will ultimately be driven by fundamentals. The focus will be on high-quality companies that can deliver and grow in what may be a new norm, global secular themes which will continue to drive innovation forward, and opportunistic investments amidst the shifting global construct.

Chart in focus: International equities outperformance vs. U.S. equities over last six months hit highest level of last 10 years

As a proxy of international equities’ performance relative to the U.S., Nasdaq Global ex-United States™ Index has outperformed the Nasdaq U.S. Benchmark™ Index by over 13% the last six months—equivalent to +3.2 standard deviations vs. the 10-year average. After international outperform U.S. equities by more than +2 standard deviations over the prior six months, they have never outperformed on a relative basis over the ensuing six months during the past 10 years and underperformed by an average of -7.7% going forward. This suggests that the “Sell America” narrative in equities became very stretched tactically on a relative basis.

Trade tariff news flow has driven risk sentiment

The last three months have likely felt like an entire cycle for investors. U.S. equities went from near or in bear market territory from their February 19th peak to their April 8th low (S&P 500 Index SPX: -18.9%; Nasdaq-100 Index NDX: -22.9%), to being marginally positive YTD. The latest move higher by equities comes after the better-than-expected U.S.-China 90-day respite in early May to begin trade negotiations and extending the deadline for a trade agreement with the EU to July 9th.  

Comprised of the world’s leading growth companies, the global de-escalation in the trade tariff conflict has pushed the NDX back into a bull market (higher by almost 26%) amidst the strong rebound in mega cap tech and artificial intelligence (AI) ecosystem constituents.

Policy and macro volatility are likely to persist in the near-term. However, AI will remain a secular trend and a key fundamental theme for investors globally as AI capex spending is on track to exceed $300 billion in 2025 vs $150 billion in 2022. As a proxy for the U.S. and China AI race and the tech global supply chain—which faced headwinds from trade policies and geopolitics—the PHLX Semiconductor Sector™ Index (SOX) fell by nearly 35% from immediately before the DeepSeek announcement on January 20th to the April 8th equity lows. But SOX has risen by nearly 39% since then.

With equity market volatility falling, the growth factor and cyclical sectors have outperformed since the April 8th lows. Notably, S&P 500 technology, consumer discretionary, and industrial sectors are all higher by at least 22% . These areas had sold off sharply as they represent important segments of the U.S. economy’s exposure to the trade conflict and derive 55%, 34%, and 33%, respectively, of their revenues internationally (per FactSet).

Weaker consumer and business survey data versus resilient lagging hard data

The University of Michigan’s Consumer Expectations gauge hit its lowest level since the early 1980s and the NFIB’s Small Business Uncertainty Index hit its second highest level on record going back to 1975.

It can take time for confidence to reset amongst consumers and companies which can dictate activity. Bloomberg’s consensus 2025 real GDP YoY has dropped from 2.30% at the end of February 2025 to 1.40% today as growth risks skew to the downside. Similarly, consensus 2025 real GDP forecasts have also fallen in Europe and Japan.

The impact on activity may not be as severe due to the de-escalation of the trade conflict. Yet the economy and companies will still need to contend with a higher level of tariffs on U.S. imports. Based on the tariffs currently in place, the Tax Foundation estimates that the U.S. average effective tariff rate would be 12.1%—a nearly five-fold increase from the average effective rate of 2.5% in 2024. This is expected to adversely affect growth and corporate margins, while also exerting upward pressure on inflation due to a supply shock. However, high frequency economic data such as the four-week moving average of initial jobless claims has remained resilient at nearly 231,000. The average level at the outset of the four recessions since 1980 (ex-Covid) was around 380,000.

The improved storyline around trade tariff negotiations, steady economic data thus far, and expectations for moderating but stickier inflation have the markets pricing in around two Fed rate cuts by the end of 2025 versus over four at the end of April. While off their recent high of 4.60%, Treasury 10-year yields have remained above 4.40% for most of the past month. Equities took the initial move higher in stride on the narrative that yields rose for “good” reasons: the less punitive impact on growth from the de-escalation in trade tensions.

However, there are also “bad” reasons behind Treasury yields moving higher. In addition to elevated inflation expectations, there are increased concerns over wider U.S. fiscal deficits leading to even higher debt levels—exhibited by Moody’s Ratings downgrade of the U.S. government’s credit rating on May 16th. U.S. federal deficit concerns have been fanned by the progress of the One Big Beautiful Bill Act (“OBBBA”)—the Congressional Budget Office estimates that the bill as currently written would add $2.3 trillion to the fiscal deficit over the next decade. This has pushed the Treasury 10-year term premium (as measured by the New York Fed) to its highest level since June 2014.

The equity-Treasury bond dynamic will be important for investors to monitor as returns have been positively correlated for half of 2025 (based on rolling 30-day total returns of the S&P 500 and the Treasury-10 year). This has led to increased questions around Treasuries maintaining their historical role as a ballast for traditional portfolios. All at a time when the U.S. dollar, another traditional safe haven, recently hit three-year lows.
 

While extreme trade headline risks have abated, corporates still need clarity

Q1 earnings were stronger than expected: S&P 500 earnings rose 13.6% YoY vs. estimates of 6.6% YoY and NDX earnings grew 21% YoY vs. estimates of 17.4% YoY. This speaks to the resiliency of the U.S. economy and the corporate sector. However, Q1 earnings are backwards-looking and investors are rightfully more focused on corporates’ forward guidance for a sense of how the impacts from the trade tariffs unfold.

Also reflecting corporate uncertainties, forward 12-month S&P 500 and NDX EPS growth estimates are now 7.3% and 10.6% from 13.6% and 1%, respectively, at the end of January. Given lower forward EPS estimates coupled with the recent equity rally, investors are also contending with elevated forward price-to-earnings ratios which are 38% to 40% higher versus 20-year medians for U.S. large cap equity benchmarks.

Despite the scope for an improving earnings outlook given the recent de-escalation in trade tariff risks, corporates and investors still need greater trade policy clarity. This leaves investors cautiously optimistic in the interim but with low conviction and lower risk levels given the ongoing uncertainties. Over the longer-term, though, equity returns will ultimately be driven by those best-in-class companies with the strongest fundamentals such as growth dynamics, competitive advantages, and product innovations.

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