The markets are chewing on a lot of information to start 2025. This week started with a new AI model out of Asia which sunk semiconductor stocks and ended with the news of Tariffs on China, Mexico and Canada. In the middle we had a slew of earnings reports and an uneventful Fed meeting on Wednesday.
Idling In Neutral
At this meeting, the Fed took a neutral stance and kept interest rates unchanged. This was not a surprise to the bond markets as you can the T-Bill curve (blue line) is flat as a pancake. As you may notice, the 1YR tenor does indicate further cuts perhaps this summer but it could be that this rate-cutting cycle that began in September has already concluded. The jobs number for January will be out next Friday, FYI.
The Rangebound Stock Market
I post the chart below during the week for my clients and it shows the S&P 500 futures contracts which trade overnight. As you can see, since October we have been in a choppy and rangebound market (5800 to 6180). Why is this happening? From a technical standpoint, it could be a consolidation period before another push higher or maybe the market needs new leadership as the AI stocks all topped out over the summer.
Or, it could be that the market is pausing as the Fed moves to the sideline combined with the policy changes of the new administration.
Trade Policy
Over this weekend, the Trump administration imposed tariffs on China (10%), Mexico (25%) and Canada (25% except for oil at 10%). In response, Canada plans to put a 25% tariff on $155B worth of US goods which is not a lot in the big picture. Mexico’s President, Claudia Sheinbaum Pardo, ordered retaliatory tariffs on the US but there is no detail on their response.
All of these countries benefit greatly from selling their goods across their borders to the United States so they may not have much negotiating leverage. China said that they are unhappy but have not announced any intention to respond probably because their country is in a recession and they are in talks with the new administration on trade terms. Plus, China has more to negotiate with as a fellow superpower.
Other Thoughts
There is no precedent on a trade war like we will see in the coming months and the disruptions it may cause with certain sectors like agriculture imported from Mexico. However, Canadian oil futures did drop in response to the tariff announcement so it is possible foreign producers will need to cut their profit margins in order to maintain the same level of exports to the United States.
Of course, this is on a case-by-case basis as some manufacturers will need more time to move production domestically and avoid the tariffs. This means that prices for some sectors will rise until domestic production can ramp up and replace those imported goods. In the meantime, prices may go up where there is little domestic production and remain the same where there is ample domestic production.
If you never studied economics, you are going to be living in a live situation where the interplay between supply and demand will be directly observable when you pay your bills. The other factor is cutting the federal deficit as that is an inflationary force within our economy and we have yet to see permanent changes, but they look to be on the way.
Of course, things could morph into something else with this new tariff policy, but it does seem that this may be a lasting situation. If combined with a neutral deficit the tariffs may not be so harmful as many are predicting but this dance could take many months or longer to play out. Stay tuned for more next week!
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Paul J McCarthy III CFA
President, Kisco Capital
