17 Jul 2025
Markets entered the second quarter to extreme turbulence after the announcement of Trump’s Liberation Day tariff on 2nd April. As it turned out, the week following this marked the height of market pessimism and trade uncertainty. The pullback in equities and treasury bonds yields rising above 4.50%, saw the Trump administration tone down its extreme rhetoric on trade – likely triggered by the realisation that the heightened policy financing costs would impact on the administration enacting its pro-business agenda. As in his property dealings, Trump appears focused on initially making extreme demands and then backing off as a negotiating tactic to come up with a deal which he then claims is a huge victory.
The suspension of the extreme levels of tariffs for a 90-day period ushered in market calm and US Treasury Secretary Bessent has seemed to gain sway and influence within the administration. It is likely that there will be a minimum tariff rate of 10% which Trump is reliant on to raise revenue and which he argues (likely incorrectly) will help reduce the massive deficit which his ‘Big Beautiful Bill’ would further blow out.
Within the levels of tariffs, there remain heavier sector tariffs and the exact extent of these at this stage remains unclear, although certain sectors, such as aluminium, copper, steel, the automobile industry and pharmaceuticals, are likely to see higher tariff levels than the general 10% rate. The administration in the US firmly believes that a strong industrial base is necessary to provide the US with both economic and military security, as relying on other countries for raw materials at times of conflict in the future, could leave the US in a vulnerable position. These so-called strategic industries are likely to see higher levels of tariffs maintained. Markets were further encouraged by the de-escalation of the trade dispute with China which had reached levels where Bessent had admitted there was a trade embargo between the two countries. China is in a much stronger position than other countries and refuses to kow-tow to American wishes. China’s population is supportive of this action as they are constantly reminded of the centuries of foreign humiliation China suffered before the CCP took power. China has a strong bargaining hand through its control of rare earths, and it supplies many cheap manufactured goods American consumers have become wedded to.
The US Federal Reserve have had to walk a tight rope between not becoming politically aligned and achieving their dual mandates of full employment and price stability defined as a 2% inflation rate. Chair Powell has made it clear that the Fed, under his leadership, has one central belief - that maximum employment over a full cycle can only be achieved if inflation is at 2% or below and Powell’s statements over the last three years have constantly reaffirmed this view. At post-Fed meeting press conferences, Powell has refused to be drawn on any policies which are political and non-monetary in nature. He has carefully explained how the exact impact of tariffs on inflation cannot yet be understood.
Within the Fed, however, there are now some dissenting voices such as Chris Waller, who has recently argued that rate cuts should be on the agenda at the July meeting. So far, looking at public pronouncements of Fed members, the majority are in the centrist or Powell camp of wanting to wait and see how the longer-term impact of tariffs pans out before embarking on rate cuts, especially when the economy is so close to full employment and the labour market shows no signs of distress.
Overall, the US economy has proved to be very resilient in the second quarter, despite policy uncertainty. Announcements by corporates show earnings have in the main been strong, but especially among the large technology companies whose investment in AI continues apace.
The doomsters who had talked at the start of the second quarter about the end to American exceptionalism misunderstood the underlying strengths of many US multi-national businesses. These companies benefit from strong network effects and their market dominance in respective sectors means it is very hard to see their market shares eroded. There have been higher levels of uncertainty among smaller businesses in the US, and this helps to explain the underperformance of mid- and small-cap stocks versus the technology leaders and the S&P500. Clearly uncertainty will continue but as to the longer-term effects of Trump’s mercurial decision making, the administration now seems to place greater emphasis on the arguments of Treasury Secretary Bessent, and a more pro-business and stock market friendly approach has emerged after the initial chaos and turmoil.
The two areas of the US market where exceptionalism has come under pressure have been US currency and its treasury bonds. The US$ had seen levels of strength in the run up to the year end which were out of line with economic fundamentals and the US currency had traded close to parity with the Euro. The election of a new government in Germany, determined to break the fiscal constraints which had dominated economic policy, and increase levels of spending on defence and infrastructure, both in that country and in Europe, resulted in greater optimism that Europe could break free from its many years of subdued growth. This resulted in European markets strongly outperforming in Q1, although the relative performance in the second quarter of the year has been more muted in local currency terms as investors realised that company fundamentals may not be improving at such a rapid rate. Furthermore, the significant strength of the Euro versus the US dollar and other currencies will subdue profits, economic growth, and inflation, although may give the ECB scope to cut rates further.
US multi-nationals in contrast will see a currency boost form dollar weakness. Both the US currency and bond markets have been adversely affected by macro uncertainty. Investors are also rightly concerned about the US deficit, which is unsustainable over the long-term, although it is unlikely to come into significant focus while the US economy continues to expand strongly. Trump’s ‘Big Beautiful Bill’ has passed market friendly reforms, albeit with significant social costs to poor elements of the population. These social costs are not really a concern of Wall Street, which is focused on more pro-business policies with lower tax rates for corporates and wealthy individuals, and the passing of this act was welcomed. All in all, the US looks well placed to continue to expand this year and avoid recession.
The other factor impacting on the US currency and treasury bonds is uncertainty over future Fed policy and independence when Chair Powell’s term ends in May 2026. Trump has made no secret of his belief in much lower policy rates and is likely to appoint a Fed Chair who will not oppose this. There is a Fed board member retirement in January 2026 which will allow Trump to nominate a successor to Powell. If the market believes that the successor will be a Trump puppet, US financial assets may be negatively impacted.
Geo-politics remain fast moving and messy. Trump has stated he wants to win the Nobel Peace Prize, but he has struggled to secure any progress towards peace in Ukraine and the Middle East. Despite the Israel-Iran war, the oil price only spiked temporarily, which has been a major factor in markets remaining relatively calm during conflict. To date, an uneasy ceasefire holds, and Iran has few friends among the Arab nations. Russia is Iran’s major ally but has been weakened through war efforts in Ukraine and its Syrian backed regime has fallen. The markets have been encouraged by the weakening of Iran’s influence and support for terrorism in the region. If the oil price remains subdued, the conflict’s ability to influence global markets is low.
The Japanese Stock Market is not immune to global trends, so has been hit with volatility on US policy announcements, especially those centred on trade and geopolitical tensions.
The Bank of Japan has exited from its negative interest rate policy, although real rates remain deeply negative. Inflation has come from external factors such as higher food prices, with some driven by growth dynamics from the labour force, including wage inflation, and companies now seeing some mild levels of pricing power. Japan is also not the export-sensitive economy it was. Its ratio of gross exports to GDP is relatively low in an OECD context and ratio of direct exports to the US only 3.5%. Whether it remains true or not, many global investors also view Japan as a leveraged play on global growth and the broad key market index in Japan has a relatively high degree of cyclicality. The main arguments for investing in Japan include changed corporate behaviour with companies now focused on increasing returns to shareholders and better capital management which has resulted in higher levels of M&A, share buybacks, and increases in dividends. Japan is now seeing wage growth for the third year running, initially triggered by the rising cost of imported goods and labour shortages, and wages are now growing faster than inflation.
Emerging markets have survived Trump’s mercurial approach to policy making better than many investors feared in the first half of this year, rising (in local currency) by 11.1% with 8.1% delivered in the second quarter. The landscape has been mixed; Latin America has been a strong performer, India has seen a rebound in the second quarter after a difficult period, and China, especially the domestic ‘A’ share market, has been a laggard in Q2.
On the ground within China the economy has shown continued signs of stabilisation with recent PMI numbers both in manufacturing and the service sector showing modest expansion. It is still unclear how much of China’s exports to the US have been pulled forward into Q2 due to future tariff concerns. Sentiment on the ground in China among consumers is not gung-ho but is now more positive and entrepreneurs and business workers who had left the country are returning.
The January meeting between President Xi and business leaders was very positive for private sector sentiment, and more recently Xi has called for less cut-throat competition among businesses and encouraged companies to improve product quality and close outdated production capacity. Beijing has recognised unhealthy competition can harm innovation and lower efficiency as it can hinder industrial upgrading by companies through an inability to re-invest. Policies in China are now becoming more business friendly for the private sector, although significant consumer inflation is missing and the property market remains mixed, having shown tentative signs of recovery earlier this year. A positive for consumption is that a lot of money in China remains on the side lines and can be deployed on consumption as confidence returns. Within China, officials remain confident that a 5% growth target is achievable. This expansion is far slower than the explosive growth seen in previous years but aims to deliver sustainable improvements to consumers and in the long-term, policy remains committed to improving consumption levels within the economy.
Overall, equities in India have been muted during the first half of the year as valuations, which had run up to optimistic levels in the summer of 2024, are still under pressure, especially if companies disappoint on delivering earnings. However, the second quarter saw a rally as the RBI was able to cut interest rates. Growth at a headline level has been strong in India for several years, but there have been increased levels of inequality and debt. Demographics remain positive but the lack of formal jobs as opposed to informal casual labour in the country means growth of 5-6% will not be enough to lift many out of poverty which explains Modi’s electoral reversals in 2024. At the stock level, some mid and small cap consumer names have disappointed. Despite strong headline nominal GDP growth, some companies delivered negative earnings growth year on year, while the IT service sector (a significant part of the stock market) is facing threats from both AI and its customer’s increasing use of the cloud. On the other hand, private sector banks in India, having seen subdued share price returns in 2024, continue to grow and gain market share and have been among the market’s top performers in 2025.
The election of Trump saw maximum levels of pessimism around Mexico, both on the stock market and currency, but valuations had already fallen significantly, Trump didn’t impose additional tariffs on Mexico and the market has performed well. The administration in Mexico is keen to tighten up on border controls and is clearly looking to manage the relationship with Trump rather than risk antagonism. Mexico continues to gain economic benefits from its close geographical proximity to the US.
Emerging markets faced a significant headwind from a strong US currency for several years. This currency pressure has eased in 2025 and growth rates in the region versus the US also look more positive. Many markets in the region trade at relatively low valuations vs their own history and developed markets on a price to book basis. The macro environment for emerging markets looks more positive and many companies should be able to deliver strong earnings growth over the next few years.
With so much market noise and policy announcements happening daily, investors need to concentrate on hard facts as much as possible as they affect economic fundamentals, market valuations and sentiment. In the US, despite the resilience of the labour market which remains in balance and the unemployment rate low, there is evidence of some weakening of consumption and the Fulcrum nowcast series on the US suggests that growth has slowed from the 3% rate it entered 2025 to around 1.5% today. As a result, the Fed is sounding more dovish for next year and market-forward pricing suggests that the federal fund rate will fall to around its forecast terminal rate of 3% by year end 2026. It remains to be seen how this plays out, but it has been supportive of US equities, as have corporate results, especially for the big index names. In Europe, growth forecasts for 2026 and 2027 have improved on the back of greater fiscal stimulus on defence and related infrastructure. The economic outlook for the emerging markets region overall has either been stable or improved.
Investor sentiment has recovered strongly from post-liberation day lows. Over the quarter, the bull market has climbed a wall of worry to record decent gains. Short-term markets would be vulnerable if tariff news worsened. There are also longer-term structural themes at play in the global economy. The first of these is the continued spend on AI and how companies will use AI to improve efficiency. This will impact on employment in some industries and sectors.
Overall, despite the macro uncertainty, investors outside of recession should remain invested. This is not to suggest that there won’t be continued volatility in both directions in a year where uncertainty has been the only certainty.
*Graham O’Neill, Director, Independent Research Consultancy Ltd (Ireland)
This information is for UK Professional Advisers only and should not be given to retail clients.
The value of investments and the income from them may go down as well as up and investors may not get back the amounts originally invested.
Rayner Spencer Mills Research Limited is a limited company registered in England and Wales under Company Registration Number 5227656. Registered office: Number 20, Ryefield Business Park, Belton Road, Silsden, BD20 0EE. RSMR is a registered trademark.