U.S. President Donald Trump’s flurry of executive orders since taking office represent potentially massive shifts in trade policy and geopolitical alignments, affecting countries around the world. Others are aimed domestically, to alter the size and scope of the U.S. federal government’s role in the economy or to test the limits of power exercisable by the executive branch alone. While some of Trump’s policy initiatives, such as tariffs, were well telegraphed in advance of inauguration day, the pace and degree of changes — and the manner of implementation — have been breathtaking.
To some extent, markets also appear to be holding their breath. Positive expectations flourished after the November election as the business-friendly promises of deregulation and tax cuts for corporations pushed U.S. stocks higher. However, Trump’s widespread use of large tariff increases began to introduce market headwinds in January.
Some, like the tariffs he has threatened on Canadian goods and energy exports, are difficult to understand from a policy perspective, having been announced under the guise of addressing what amounts to a relative trickle of fentanyl crossing the Canada-U.S. border.
Beyond economic policy, Trump’s America First vision represents the prospect of major geopolitical shifts. His threats to leave the NATO alliance are well known from his first term in the Oval Office. This time, he appears willing to upend long-standing regional alliances in favour of an isolationist posture — rearranging the world order into spheres of influence dominated by China, Russia and the U.S. That includes the use of economic or military annexation if needed.
What comes next
Markets have begun digesting these possible changes, but they’re not fully there yet. Stock market volatility is up, reflecting growing uncertainty among investors. U.S. inflation expectations have risen across both consumer and business surveys. We also see it in the break-even rates calculated from U.S. Treasury inflation-protected securities.
In February, U.S. consumer confidence dipped significantly, and businesses ramped up imports to get ahead of the announced tariffs before implementation. Underwhelming U.S. retail sales and housing activity data points suggest Q1 U.S. GDP growth could be sluggish. The U.S. labour market has shown some softening too, even before taking into account government worker layoffs.
For now, it appears that the U.S. Federal Reserve will remain on hold with its monetary policy rate over the next couple of meetings. Like investors, the Fed is waiting to see how the economy — particularly inflation and employment — reacts to President Trump’s moves. The yield curve is pricing at about a 0.75% reduction in the federal funds rate by year-end.
What this means for Canadian investors
For Canada, tariffs represent a headwind for growth. Supportive fiscal policy measures will be needed to help Canadians adjust to this trade reality. Advisors should expect the Bank of Canada to also signal additional rate cuts. Fiscal and monetary policy supports together can have a powerful impact on economic growth, and may work to counterbalance some tariff risks. The recent announcement of a very large infrastructure and defense spending package by Germany is a great example.
Advisors should remind Canadian investors that there is significant risk in trying to trade based on the latest headlines. Ensuring that the portfolio is aligned with their risk tolerance is job number one when short-term market outcomes are subject to more volatility.
As for portfolio construction, diversification across asset classes and market sectors can help build resilience to market uncertainty.
Recent years have seen concentrated bets on U.S. growth stocks rewarded, as evidenced by the price gains of the so-called magnificent seven. These stocks have achieved higher multiples as a result when compared to the average of the rest of the market.
If growth slows in the coming quarters and inflation remains above the U.S. Federal Reserve’s target of 2%, investors with a more diversified portfolio — which includes exposure to a variety of businesses with differing characteristics — can mitigate some of the bigger valuation swings.
Steve Locke is chief investment officer, fixed income and multi-asset strategies, with Mackenzie Investments.