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The start of the third quarter brings a familiar level of uncertainty surrounding U.S. tariff policy, yet financial markets appear far less jittery than at the start of the prior quarter. While high-conviction predictions on tariffs are scarce, and understandably so, the immediate economic headwinds facing the U.S. have notably eased. This abatement is largely thanks to the passage of a significant fiscal stimulus bill, the structural robustness of the corporate sector, and the looming prospect of the first Federal Reserve rate cut in 2025.
Emerging markets are facing challenges due to recent U.S. tariff adjustments, which have led to currency fluctuations and inflationary pressures globally. However, this situation has created opportunities for U.S. asset management firms as there is increased demand for U.S. dollar lending.
There are two competing narratives regarding the future economic outlook. The optimistic one anticipates a path towards a fairer global trading system, through creative destruction, with the U.S. securing concessions from its trading partners and potentially benefiting from looser monetary policy and tax cuts.
The first quarter of 2025 is likely to be etched in the memory of market participants. This period witnessed not only a marked recalibration of the prevailing narrative surrounding the U.S. economy, but a swift unraveling of long-held tenets of the global economic order- an unravelling that meaningfully accelerated in the beginning of the second quarter. The consequence was a notable sell-off in U.S. equities and a stark underperformance relative to their European counterparts, and a U.S. government bond market caught in the crosscurrents of subdued growth and elevated inflation. There was also considerable pressure on commodities, with indications of some forced portfolio de-leveraging.
The world enters 2025 facing a consequential economic challenge: It must broaden its growth engines amid high debt, large deficits, and unusual policy uncertainties. Meeting this challenge is integral to maintaining the shield against harmful spillovers from messy geopolitical conditions. It is also closely related to unleashing productivity opportunities associated with exciting innovations in transformational sectors such as technology and life sciences.
Thanks to consistently accommodating financial conditions, the relatively elevated market valuations of recent months have been able to sideline these uncertainties, benefiting instead from the attractive prospect of a U.S. soft landing AND sizeable Fed rate cuts in the next 12 months. This is also why we believe that cautious security selection and solid structuring are key to the resilient portfolios needed to navigate what on the surface appears to be a favorable equilibrium, but underneath, has notable elements of potential volatility.
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