One week / one topic: Your margin is my opportunity

What happened?

The US presidential inauguration came and went, and firm announcements on trade tariffs were conspicuously missing amid the barrage of ‘day one’ executive orders.

Yes, President Trump declared that he is planning to impose 25% tariffs on Mexico and Canada by February 1st – which is quite different from immediately doing so, a reasonable concern going into the event – and there is still (yet) more talk about a universal tariff on all foreign imports to the US.

(China and the EU were perhaps facing only 10% tariffs, but then again Trump said ‘he’d rather not’…? Good luck keeping track)

Markets so far are taking such threats literally but not seriously, i.e. with the expectation that tariffs might be more of a bargaining chip than the intended destination – hence all the posturing and self-imposed deadlines.

The most visible manifestation of this is in the decline of FX implied volatility in line with investors’ relief that the worst-case scenario did not materialize on day one.

However, there are at least two main challenges with the above.

First of all, the fact that tariffs have not been announced during the first week does not mean that they never will be of course.

Treasury Secretary Bessent and others were widely expected to moderate Trump’s tariff policy, but this could ultimately be just a timing issue… with actual tariffs being imposed soon enough.

Additionally, Jeff Bezos’ quote (“Your margin is my opportunity”) naturally comes to mind: Trump remains convinced that other countries are ripping off the US, and tariffs (‘the most beautiful word’) need to be imposed ASAP.

In other words: “You are making so much money off of us… I want some of that back.”

No matter how many economists are 1) up in arms saying that tariffs are inflationary and ultimately self-defeating and 2) dusting off their game theory textbooks to point out that targeted countries can – and most likely, will – retaliate… The negotiator-in-chief does not care.

While equities and bonds have for now seemingly come to terms with whatever Trump 2.0 might bring, the reaction in FX – arguably the most immediate transmission mechanism in case of trade wars – stands out in particular as potentially complacent.

How to position portfolios then, now that policy uncertainty looks set to remain elevated for a potentially long time?

Our observations

• Fundamentals: Forget it. If Trump’s first term in any guide – and signs are that the second iteration will be even more unpredictable – we are dealing with noise here, not signal…

• Price action: Our best hope is for either overreaction or complacency here, with the aim of taking the other side. Some currencies are displaying signs of the latter, but nothing too extreme yet.

  Investor beliefs: While there is clearly a lot of focus on the first actions of the new president, many investors are in wait-and-see mode for now

So what?

Over the last few years, the relative decline of US strength has emboldened many regional players to strike out in the quest for more power.

At the same time – on the back of the very strong recent performance for US equities and the dollar – many investors consider ‘American exceptionalism’ not only a fait accompli, but increasingly as the inevitable path forward.

Clearly, the interlink between sovereign wealth and sovereign power is immensely important and nuanced – good luck disentangling it.

And yet – while the two observations are seemingly at odds with each other – there is almost nobody left who is not overweight US assets at this stage…

Policy uncertainty, extreme positioning and expensive valuations ultimately leave us concerned about the return potential for US equities and the dollar in the near term.

Time will tell of course, and indeed out-of-the-blue announcements could present us with opportunities to add more… Stay tuned.

Mood music: Coolio – Gangsta’s Paradise

(DT on lead vocals as Coolio, Scott Bessent as LV with the chorus)