Liberation Day Compounds Policy Uncertainty
The U.S. stock market experienced a tumultuous first quarter in 2025, marked by significant rotations and heightened volatility. The S&P 500 notched its worst quarterly performance since the third quarter of 2022, falling by roughly 4.3%. The key contributing factors to the downturn included policy uncertainty, weakening investor sentiment, and geopolitical tensions.
Stocks took another leg down after Tuesday evening’s rollout of a 10% additional U.S. “baseline” tariff on all imports due to take effect Saturday, with additional tailored “reciprocal” tariffs scheduled to go into effect April 9th. President Trump’s new tranche of tariffs will take average levies to their highest levels in more than a century. Trump is attempting the follow through on campaign promises to reorder the global economy and rebalance U.S. trade, but the breadth and magnitude of the new tariffs far exceeded mainstream assumptions, and has amplified the risk of a U.S. and global recession.
The administration’s escalating trade war portends a tariff-induced supply-side shock, which will bring both higher prices and higher unemployment. This will make the Federal Reserve’s job exceedingly difficult as any tariff inflation will limit the Fed’s capacity to cut rates. Their stance on monetary policy will play a critical role in shaping market dynamics in the coming months.
While U.S. trade policy has been predominantly responsible for the latest move down, that is not the entire picture. The U.S. consumer, which has been the key driver propelling the U.S. economy post-COVID, appears to be losing momentum. This is evidenced by weakening Conference Board and University of Michigan surveys. The concern is that slower consumer spending leads to a softer labor market. This was not as relevant a couple of years ago as the job vacancy rate was high, but that is not the case anymore as the job openings rate came in at 4.5% in February. It has also been mirrored in an increase in the U-6 unemployment rate, which includes discouraged and underemployed workers. The U-6 rate rose to its highest level in more than three years last month.
Above-target inflation and trepidations over the passage of even more unfunded tax cuts will keep the 10-year U.S. treasury yield elevated over the coming months. Financing the ballooning deficit continues to be a concern in the face of higher real yields. As a share of GDP, interest expense on federal government debt has doubled since 2016. Meaningfully reducing the deficit is difficult in light of the fact that spending on defense and mandatory programs such as Social Security, Medicare, and Medicaid account for 85% of non-interest government spending. Nearly $3 trillion of U.S. debt is set to mature this year, with a significant portion comprising of short-term instruments. The Treasury Department’s strategy to extend the duration of this debt has raised concerns about the market’s ability to absorb the new issuance. This dynamic will continue to add to volatility to the bond market backdrop throughout the balance of the year.
As such, we continue to favor high quality fixed income- particularly agency mortgage-backed securities, short treasuries, and investment grade municipal bonds. They continue to act as ballast against stock market volatility while providing income. While it is too early to fully comprehend how the shift in U.S. policy will impact the economy, ultimately what matters for risk assets is whether growth can hold up. The sizable scope of yesterday’s tariffs signaled more uncertainty to come for markets. We remain constructive that the latest tariff rates represent a starting point for negotiations. Tomorrow’s March employment report represents the next set of crucial data for markets to digest.
Ryan Babeuf, CFA
Market Strategist
Ryan.Babeuf@EdgeWealth.com
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