Special Report written by LGT Crestone Chief Investment Officer Scott Haslem, Senior Asset Allocation Specialist Matthew Tan and Head of Public Markets Todd Hoare.
It’s been a turbulent week across financial markets as investors, corporations, and policymakers were buffeted by US President Donald Trump’s ‘Liberation Day’ assault on global trade. Throughout the market volatility, we have steadfastly focussed on parsing macro, market, and political developments through our constraints-based framework and our disciplined set of macro and market signposts.
Last night, we received a clear signal that Trump has finally realised that material constraints matter, even to the US President! In combination, a rapidly approaching near-term policy-induced US recession (which for all his bravado, the Trump Administration cannot actually tolerate) and bond market vigilantes that sparked a historically large intra-day spike in US bond yields overnight have, in our view, forced Trump into making a U-turn on the trade aggression front. He has announced a 90-day reprieve on reciprocal tariffs for every nation bar China, leaving the current baseline at 10% across-the-board tariffs and 125% on Chinese imports.
In effect, the material constraints of the economy (and voter anger) and the bond market have forced Trump to blink. Accordingly, we have updated our signpost analysis below, and based on this framework, we have gained sufficient confidence that the second derivative (the momentum or impulse) of trade policy uncertainty has likely peaked, and justifies leaning into still-battered equity markets on our six to twelve month tactical basis.
In this instance, the more moderate tone from the European Union compared to China makes European equities (on a relative basis) a more attractive entry point, at least until trade uncertainty between the US and China peaks. In addition, from a fundamental perspective, the Eurozone has more scope for both fiscal and monetary easing than the US at this juncture. We are continuing to watch our other signposts closely, including hard data that may signal a Fed pivot, credit spreads, and further developments around US trade policy.
While there is still significant near-term uncertainty and potential downside from the escalating US- China tit-for-tat, we believe that we may have passed the peak negative impulse from trade uncertainty.
Could we be a bit early? Maybe, particularly if trade tensions re-escalate in 90 days, if tariff negotiations are drawn out, and/or if the ‘uncertainty shock’ from ‘Liberation Day’ metastasises into a deeper global slowdown. Unfortunately, none of us will ever be able to time the exact bottom; the best we can do is stick to the signposts and look to stage our actions as and if they get ticked off. We continue to maintain a flexible and nimble stance given the still-extreme levels of volatility and uncertainty that are likely in coming weeks and months.
In the meantime, as we wrote in our 9 April 2025 Special Report Staying the Course, we continue to encourage investors to adopt a disciplined, staged approach to rebalancing towards their appropriate strategic or tactical asset allocation targets. Amid all the noise and chaos, discipline and composure will be the astute investor’s best friend to chart a path through.
Trump Blinked! The constraints that we thought would bind him look like they’re starting to work
We acknowledge this highly unique backdrop but we like to remind investors that ‘the fate of the equity market is essentially in the hands of an individual who can single-handedly soften or worsen this shock’. As such, the range of outcomes for risk assets is atypically wide (and somewhat binary).
We believe that this has created an opportunity for patient and longer-term investors to increase their exposure to European equities.
The historical anchor for European equity investing has often centred on valuations. The MSCI Europe Index traded at a 40% discount to the S&P 500 to begin the year which is much larger than its 23% discount over the past decade (of course, there are valid structural reasons for this discount).
This gap has since closed somewhat but weakness in European equities gathered pace over the past 1-2 weeks, caught up in the on-again off-again tariff uncertainty. European equities are down ~17% in a little over a month which has resulted in European equities now trading more than one standard deviation below their 10-year average – at 12.3x 12-month forward P/E. The STOXX 600 is trading close to the 12x P/E it did during the depths of the 2018 trade war. Tariffs do pose a risk and will create ongoing volatility however Citi strategists estimate that European equities (and also Japan, another region we are overweight) are now pricing in EPS growth that is well below expectations—about 50% of what consensus is expecting (Japanese equities are pricing in less than 20% of consensus expectations), providing a relative cushion vis-à-vis other regions.
The recent weakness has unwound a large degree of the enthusiasm for European equities, providing a better risk/reward for what was emerging as a seminal moment in the outlook for continental Europe.
On March 4th, the German Government announced an overhaul to its fiscal spending regime, marking a significant change in what has historically been one of the world’s most conservative fiscal regimes. The new fiscal package includes three major undertakings:
If approved and implemented, the provision of billions of euros in spending would bode well for Europe’s largest economy, and Europe more broadly. As well as stimulating economic growth (albeit perhaps not until 2026) and providing “cover” for other economies to spend, especially on defence, the passing of the French budget in February avoided the collapse of yet another government. If a long- lasting resolution to the Russia-Ukraine conflict can also be found, its reconstruction and the easing of geopolitical risks would also bode well for equity market performance.
Structurally, events of the past month have the potential to reshape capital flows. The US has been the largest beneficiary of an accumulation in European savings and current account surpluses. The logic for excess European savings to flow to the US, at the margin, is now being challenged on several fronts – relative growth differentials are narrowing, and Germany’s increased fiscal spending will lead to an increase in bond issuance (i.e., investors can source relatively more attractive yields in Europe than the US versus historically).
Cumulative outflows from European equities have been significant, Citi estimate USD 150bn in cumulative outflows since the start of the Russia-Ukraine War. A reversal in capital flows, structurally higher yields and trend growth, as well as more supportive valuations should see European equities recover quicker from this recent bout of volatility than other regions.
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