“If you’re worried about corrections, you shouldn’t own stocks. [People who] get too upset with price fluctuations…shouldn’t own a stock at all.” –
– Warren Buffett
First Quarter Recap
The beginning of 2025 featured a reversal from the trends that characterized 2024. The S&P 500 dipped 4.3%, while the NASDAQ 100 retreated 8.1%. Foreign markets did better, with the MSCI EAFE up 7% for the quarter. Bonds also started the year better, with the Bloomberg US Aggregate Index up 2.8%. Commodities were mixed, with WTI petroleum going up slightly while gold surged 19% during the period.
Analysts attributed most of the moves as a reversion to the mean, as occurs often early in a new year, although there were developments that affected various asset classes. The US economy moderated as consumers retrenched a bit after spending during the holiday season. Inclement weather also had a moderating effect. German elections helped European bourses leading to a new massive fiscal stimulus, with defense spending getting a major boost due to concerns over the future of NATO.
Tariffs Developments
At the beginning of April, the Trump Administration announced new tariffs. Along with an expected 10% levy on imports from all countries, there will be additional (“reciprocal”) tariffs on goods from countries that the U.S. believes engage in unfair trade practices. This second category of tariffs was significant and largely unexpected. In particular, the European Union was assessed an additional 20% tariff, Japan, 24%. China was assessed 34%, in addition to 20% duties imposed during February and March and others imposed during the Biden administration and Trump’s first term. Global equity markets sold off sharply, with many economists and strategists concerned about inflationary and economic growth implications.
A week later, on April 9th, the White House announced significant changes to the tariff plan. The 10% baseline tariff will now remain for most of the world, with reciprocal tariffs paused for 90 days, giving individual countries time to negotiate better terms. Canada and Mexico are excluded but are still subject to 25% duties on most exports to the United States. On the other hand, China was hit with an additional 84% tariff, which puts overall tariffs a whopping 145% higher than before 2018. Beijing has retaliated, raising duties on U.S. goods from 84% to 125%, although it has indicated that it will not go further.
Steeper tariffs will lead to higher inflation at least in the short run, while a lower volume of trade will cause significantly slower economic growth worldwide. If the revised tariff plan continues for the next few months, consumer spending will slow meaningfully. Corporate expenditures will also shrink, and job layoffs may occur. In that scenario, there is a high probability that the U.S. and global economy will enter a recession.
Other Parts of the Administration’s Agenda
The Department of Government Efficiency (DOGE), tasked with cutting the size of the federal government, has proposed wide-ranging proposals. The job, research and other budget cuts have generated numerous lawsuits that will take months and perhaps years to resolve, making the hoped for reductions of $2 trillion much smaller. Elon Musk, the head of DOGE, recently stated that the savings for the fiscal year 2026 federal budget will be $150 billion. In March, White House sources said that DOGE would have its recommendations wrapped up by mid-year, although the President recently said that DOGE teams should stay in place for the “long run” to carry out more cost-cutting.
Prospects of tax cuts must wind their way through Congress, and with razor-thin GOP majorities in both chambers, tax legislation will probably happen late in the year. There has been some progress, with a budget outline bill passed by both the House and Senate, which means that the final bill will require only a simple majority vote by both chambers. However, the more challenging task of designating specific cuts still remains. Deregulation, a positive for the markets, will occur incrementally, with various agencies issuing new directives over the rest of 2025.
The Fed on the Sidelines
Meanwhile, the Federal Reserve remains in a hold pattern due to the very fluid environment, especially with tariffs. Chair Powell and other officials have lamented about making changes with all the uncertainty. The dual prospect of higher than acceptable inflation along with a no-growth economy, known as stagflation, puts the Fed in a difficult position. Additionally, the Fed wants to maintain “dry powder” and be able to cut rates significantly if conditions clearly call for it. The U.S. central bank will probably resume its rate cutting only after inflationary effects from tariffs prove to be temporary, which hinges on inflation expectation surveys over the summer.
The Second Quarter Outlook
The current volatility in the markets is not confined to equities, as Treasury bonds and even the U.S. dollar have been moved lower. However, this has caught the eye of both the Fed and the Treasury and should limit any more wide-ranging policy initiatives going forward.
- The events of the last few months has highlighted keeping a well-diversified portfolio.
- Recent investments changes include expanding European equities, which should benefit from massive fiscal stimulus. Domestic equity changes include moves to less cyclical stocks and lowering exposure to equities with significant tariff risk.
- Our fixed income strategy remains unchanged and has done well, especially during the last few weeks of elevated volatility. Gold has proven its role as a good diversifier in portfolios.
The economy should slow meaningfully due to the short-term tariff impacts. Whether the U.S. goes into a recession depends on whether the tension from tariffs, especially from China, ease in the next few months.
One thing to keep in mind is that the markets have discounted a good bit of the slowdown. Also, any sudden Administration policy change, such as that which occurred on April 9th, can cause the markets to surge. Historically, some of the biggest market rallies occur after sharp drawdowns such that we have experienced recently, which proves the difficulty of short-term market timing. As always, our security selection emphasizes consistently profitable stocks with good cash flow and balance sheets, which have provided particularly good performance over time.