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As Trade Tensions Heat Up, Market Outlook Cools Down

Friday, May 31, 2019

Earlier this year, our Global Economic and Financial Market Outlook was favorable based on expectations of a trade agreement with China, a more accommodative Federal Reserve policy, a stronger than anticipated global economy, and surprisingly upbeat corporate earnings. Since the end of April, the positive case for global and US economies has weakened resulting in a 6.0% pullback in both the S&P 500 and the MSCI All-Country World ex-US Index (ACWX). The outlook has become increasingly uncertain and a higher level of caution is warranted for stock investors.

The key negative development in May was a breakdown in trade negotiations and increased tariffs between the US and China. At this point it seems to us that the two sides are becoming further entrenched and we think an imminent resolution is unlikely. The impact of the escalating trade war will be negative for global and US growth and individual company earnings. Since there is no modern-day precedent of a major trade war between the world’s two leading economies, it is impossible to estimate the magnitude of the negative impact with any confidence. [Update: new tariffs on Mexico were announced Thursday night, which underscores this administration’s commitment to tariffs as a policy tool. This also reinforces the level of uncertainty and the fact that circumstances can change at any moment.]

We emphasize that many of the positives that drove the market higher earlier this year remain in effect. The Federal Reserve and other key central banks have turned more supportive. Business and consumer confidence remain high, with unemployment, inflation, and interest rates surprisingly low. Corporate profits have continued to surprise Wall Street analysts to the upside; 2019 full-year S&P 500 earnings and revenues are expected to rise around 5.0%. Stock buybacks are on a record pace and valuations are relatively low, further supporting equity markets. At this point, we continue to expect the US to avoid an economic and/or profits recession.

On balance, it is prudent for investors to be cautious and stay vigilant and flexible.