Moving Cautiously Forward

Moving Cautiously Forward

US stock market averages have enjoyed a sort of tentative recovery phase since washing out earlier this month. Year-to-date the S&P 500 and Dow are down by only about 3%, and the Nasdaq is off by 6.5%. Certainly, it feels much worse than that given the extreme volatility we’ve experienced. Most investors remain very cautious, though some optimism about trade tariff resolution is creeping in.

On the bearish side of the ledger, we still have no clarity, much less resolution, to Trade War 2.0. According to the Wall Street Journal the Trump Administration is scrambling to put together a framework to guide the negotiating process, and hopes to hold talks with 18 major trading partners over the next two months leading up to its self-imposed deadline of July 8. But what if negotiations bog down, extending past the deadline?
What if China remains stubbornly defiant? What if the president unexpectedly alters the plan? It seems likely that “headline risk” will continue to be a problem for stock & bond markets.

Corporations are groping in the dark when it comes to projecting sales & profit impact of trade tariffs. Many CEOs have simply withdrawn forward guidance because they have no way of knowing the degree to which tariffs will actually be implemented. Qualcomm’s (QCOM) CFO said the company hasn’t yet seen direct impact of tariffs, but predicting what might happen down the road is impossible. Bucking the trend, Caterpillar (CAT) says it expects to incur additional costs of $250 mil to $350 mil per quarter if tariffs go through as announced. That’s not pocket change. Given this uncertainty, investors wonder if corporations will pause hiring and capital spending, or even resort to layoffs.

On the bullish side of the ledger, the Trump Administration has adjusted its tone and professes eagerness to negotiate terms with trading partners. Following a sort of intervention by Treasury Secretary Bessent and some corporate CEOs, the president now seems to understand that his initial tariff plan could easily result in significantly higher prices for consumer goods alongside much slower economic growth. Recent pronouncements, such as a 90-day pause on the highest tariff rates and exemption of semiconductors & autos, suggest flexibility.

Next, many big businesses that make up the stock market are doing, well, OK. With over half of the S&P 500 companies having reported first quarter results, aggregate year-over-year sales and profit growth are tracking to 4% and 14%, respectively. And about three-quarters of those companies exceeded Wall Street analysts’ profit forecasts. As Trivariate’s Adam Parker says, “earnings season has been…better than anyone I talk to thought [it would be].” This is certainly the case with Microsoft (MSFT) and Meta (META), which reported excellent results and together make up nearly 10% of the S&P 500 Index.

While the fear on Wall Street and Main Street is palpable, economic data aren’t yet falling off the table. Goldman Sachs’ chief economist  said today that the “most recent information is certainly consistent with the economy not going into recession.“ The key to the situation is the labor market, which so far remains healthy. Weekly new filings for unemployment insurance remain at levels comparable to six months or a year ago. The same can be said about layoffs. Today’s jobs report shows hiring didn’t come to a screeching halt in April. Wages are rising at a 2-4% annual clip and consumers are apparently still spending money. Visa’s (V) CEO said consumer spending was “resilient and strong” despite “much uncertainty” in the first quarter. Bank of America’s research institute said that while income growth is slowing and lower-income households are showing some signs of financial stress, overall consumers were “in good shape through March.”

I’m using the terms “yet” and “so far” repeatedly because the situation remains fluid and Trade War 2.0 isn’t likely to be resolved neatly within the next couple of months. And that is why, although we’re grateful for the recent stock market rally, we don’t necessarily trust it.