April 2025

This quote is attributed to Vladimir Lenin in 1917, but it feels potentially applicable to our current moment.   While we will discuss the market movements in the first quarter of 2025, President Donald Trump’s announcement on April 2nd of global tariffs of 10% with dramatically higher tariffs assigned to most of the major exporters to the United States represents a seismic event, fundamentally undermining the trading system and global supply chains that have been gradually assembled over the past eighty years.  The immediate impact of Trump’s tariffs is a stagflationary shock to the global economy.  Economic activity will drop while prices will rise.  Longer term, the administration seems to believe that enormous investments will be made in new US manufacturing, and that tariffs will result in a fairer trading system which will produce tax revenues and support employment in the United States.  These predictions are contrary to the views of most economists who believe that the limited amount of new investments in manufacturing will be overwhelmed by declines in economic growth caused by higher prices and retaliatory tariffs.   

The greater concern is that the United States has just voluntarily given away its role as the only benevolent and reliable superpower.  The supremacy of the US Dollar as the world’s only reserve currency could be threatened, and China has just received a welcome helping hand in its efforts to strengthen its global trading relationships.  It is therefore not surprising that markets plunged on April 3rd, as investors attempted to absorb the implications of Trump’s announcements.  Some are still clinging to the notion that the tariffs are negotiating stances that will lead to bilateral agreements on better terms for the United States and that actual damage will be limited.  That view was widely held going into the tariff announcement, but the breadth and scale of the tariff announcement caught markets by surprise, and it is now harder to explain Trump’s actions as part of a negotiation strategy.  It now seems far more likely that we are entering a period of punitive tariffs that will cause prices to rise and will upend supply chains across many industries.  There will be a limited number of temporary winners whose margins will be protected for some time by tariffs, but there will be far more companies whose products will no longer be competitive in international markets. 

Many market observers have now turned their attention to the question, “when something breaks, will Donald Trump change course?”  The Dow Jones Index fell 1,600 points on April 3^rd after the tariff announcements, and four Republican US Senators broke with the President to support legislation that would return the sole power to implement tariffs to Congress.  The legislation has little chance in the House of Representatives, but this represents the first break in Republican unity.  It will likely take a lot more broken glass to force Trump to reconsider his tariff strategy, but we do not realistically have insight into what exactly would cause him to change course.     

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First Quarter 2025

The first quarter of 2025 was a period of growing uncertainty about the intentions of the Trump Administration.  Markets were relatively benign in January and most of February.  The Trump Administration was targeting undocumented immigrants, research universities, government workers and agencies and the LGBTQ community, but it did not appear likely that these actions would impact corporate profits in the near term.  Market participants appeared to hold onto the assumption that Trump was fundamentally pro-business, and that his talk of tariffs represented a manageable risk, because he was presumably intent on using tariffs primarily as a negotiating tool.  Trump actually signed his first executive order on tariffs, imposing 25% tariffs on Mexico and Canada and 10% supplemental tariffs on China, on February 1^st.   But two days later, he announced 30-day delays in the tariffs on Canada and Mexico, strengthening the argument that tariffs were just a means to negotiate more favorable trade terms.  Markets peaked on February 19th when the S&P500 was up 4.7% for the year.   But when no agreements to eliminate the tariffs on Canada and Mexico appeared forthcoming, investors began to get the message that the Trump Administration intended to implement a tariff regime that was broader and more permanent, and equity markets began to falter.  By the end of the quarter, notwithstanding generally benign inflation readings and resilient employment statistics, the S&P500 had declined 4.6% and the NASDAQ had declined 10.4%.  Contrary to the pattern of the past decade (and contrary to our expectations), international equities fared better, returning 6.86% for the first quarter in part because Trump’s move away from Ukraine and Europe caused European leaders to announce more aggressive targets for military spending.  Whether they will ultimately follow through on these commitments remains an open question.  In fixed income markets, the ten-year US Treasury yield declined modestly over the quarter, as tariff fears gradually caused markets to focus more on the potential for slowing economic growth, finishing with a yield of 4.2%, down from 4.39% at the beginning of the year.

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Artificial Intelligence

While the barrage of executive orders and now tariffs coming from the White House has dominated the news cycle during most of the first quarter, adoption of artificial intelligence continues at a torrid pace.  OpenAI, the corporation behind Chat GPT, most recently reported over 400 million weekly users and over 12 million subscribers paying $20 per month.  Further, Open AI raised $40 billion of additional capital at a $300 billion valuation.  But AI is spreading far beyond just Chat GPT.  Microsoft now supports over 1800 large language models on its Azure AI Foundry ecosystem.  And major corporations, particularly those with large troves of proprietary data, are investing heavily in building AI applications that will enable them to use their own proprietary data either to bring efficiency to internal work processes or offer new and enhanced product offerings to clients.  Meanwhile, tech savvy investors are raising capital to acquire traditional businesses in hopes of streamlining their cost structures through the use of AI, thereby driving higher margins.  So, while AI may have been out of the headlines during the first quarter, the work of bringing AI capabilities to all of us in our jobs and in our personal lives continues to spur enormous investment and innovation.  We believe the technology revolution will continue to transform our lives and that the pace of change is still accelerating.

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Where Do We Go From Here?

The Federal Reserve now finds itself in an especially difficult situation.  Trump’s tariffs pose a substantial risk to economic activity and hence employment.  But they will also certainly cause sharp price increases, resulting in a pop in inflation statistics.  The Fed will have to decide whether to sit tight while evidence accumulates on the impact of the tariff regime, which risks acting too late to buffer an economic downturn or head off an inflationary spiral, or move in one direction or the other, which of course risks moving in the wrong direction.  Chairman Powell is likely to remain “data dependent”, watching for further statistical evidence of both economic activity and inflationary pressure to avoid making a catastrophic mistake.  But that means investors cannot be fully confident that the Fed will lower interest rates if economic activity begins to falter.

Given such an uncertain and volatile environment, clients’ allocations to fixed income become central to effective risk management.  In January, we worked to rebalance client portfolios to ensure target fixed income allocations despite substantial appreciation in equity portfolios over the prior two years.  Interest rates have declined slightly in the first quarter, so fixed income portfolios have performed well, earning just slightly more than their coupon rates.  Another strategy that is producing satisfactory results is a ladder of ibonds, in many cases matching client expenditure needs for the next several years.  The risk of owning equities declines dramatically as the timeframe over which they will be held expands.  Even in today’s tumultuous time, this rule applies.  If an appropriate fixed income portfolio is in place, our clients are less likely to be forced sellers of equities at a disadvantageous time.  This is an important goal of the asset allocation work that our relationship managers do with each client.

The coming weeks and months may, as Lenin foretold, be as consequential as an entire decade.  Trump is unpredictable, and it is not reasonably possible to predict how he will react to the tidal waves he has unleashed.  But US companies, particularly the large cap US companies in the S&P500, enjoy fortress balance sheets, durable competitive moats and generally competent managements.  They will adjust and adapt and very likely emerge stronger.  We advise asset allocation that enables each client to sleep at night – plus perhaps some antacid.