In this short video, Pendal’s Income and Fixed Interest team outline the expertise, diversity of thought and disciplined decision-making processes that drive outcomes for clients
An excerpt from the team’s interview
Pendal’s Income and Fixed Interest team bring together deep experience, specialised knowledge and a collaborative structure that help set it apart in the market.
In this video, the four lead portfolio managers — Amy Xie Patrick, Tim Hext, Steve Campbell and George Bishay — explain the advantages of specialisation.
“We don’t want people covering too much – true expertise takes time and depth,” says Tim Hext, head of government bond strategies.
“We focus on depth, and we back that with strong quantitative models and real-world insight from markets, central banks and beyond.”
Pendal maintains a unified approach to cash, credit, income and government bond strategies which encourages richer discussions and stronger risk awareness.
“We’re constantly cross-pollinating ideas,” says Steve Campbell, head of cash strategies. “Every portfolio decision benefits from diverse perspectives and a shared understanding of risk.”
Further supporting this model is the team’s top-down process, which George Bishay – head of credit and sustainable strategies – says blends quantitative modelling with real-world experience and market insight.
“It’s this combination that helps us actively manage risk and seize opportunity,” he says.
Whether supporting institutions, advisers or individual investors, the Income and Fixed Interest team prioritises strategic thinking, active risk management and – importantly – strong client partnership.
“From sovereign wealth funds to everyday investors, we work hard to understand each client’s needs and help them build stronger portfolios for the long term,” says Amy Xie Patrick, head of income strategies.
Get to know our portfolio managers better in these individual profile videos:
Find out about
Pendal’s Income and Fixed Interest funds
About Pendal
Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.
Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia.
Australia’s March-quarter inflation data signals good news for Australia’s economy in 2025, says Pendal’s head of government bonds TIM HEXT
AFTER a chaotic April, it was great to focus on the Australian economy again following the release of today’s inflation data.
The March-quarter data showed all inflation indicators within the Reserve Bank’s target zone of 2% to 3%: headline at 2.4%, underlying (trimmed mean) at 2.7%, and the April monthly indicator at 2.4% year on year.
More importantly, services inflation – largely domestically driven and two-thirds of the inflation basket – has fallen to 3.7% from its 2023 peak of 6.25%. Goods prices remain below 2%, having corrected far quicker in 2023 than services.
The good news
In terms of detail in the inflation release, let’s start with the good news.
The two main culprits of very high inflation a few years ago are now well behaved.
Prices on new dwellings (7.6% of the CPI basket) fell for a second quarter. This is measured by costs of new project homes, where there is evidence of discounting.
Given the housing shortage though, this may be as good as it gets.
Rents (6.6% of the CPI basket) grew at 1.2% and are now growing at a more manageable annual rate of 5%.
Also keeping a lid on inflation were further falls across a wide range of goods. Clothes, footwear, household items and computing equipment all had decent price declines.
Finally, international travel prices fell almost 8% in the quarter, partly a roll back of pre-Christmas price hikes.
The not-so-good news
On the not-so-good news side of the ledger, electricity prices are rising once again, as subsidies roll off (CPI is measured on a net of subsidies basis).
Prices increased 16% over the quarter and will continue to rise as other subsidies expire.
Education prices were up over 5% as private schools, as always, took the opportunity to hike fees more than 6% for this year.
Education, health, insurance and council rates largely only change annually. This is all great news for the new government and the Reserve Bank.
Interest rate relief should be a consistent theme throughout the year, with cuts in May, August and November likely.
This would leave cash rates at 3.35% by year-end, around the level considered to be neutral or “natural” through the cycle.
Markets still have more than 1% of cuts, so short end bonds are vulnerable to slightly higher yields near term. Longer-dated yields should remain supported by lower yields offshore.
By year-end, the economy should be growing near trend at 2.5%, unemployment at a still-low 4.25%, underlying inflation should be near the 2.5% target, and wages should be growing around 3.25%, allowing for modest cost of living relief.
What’s not to like?
Clearly, offshore developments will remain the big story in May. Whether global developments bring new shocks to the market remains the risk.
But beyond all the noise, the Australian economy is in pretty good shape with reasons to be optimistic in 2025.
The shocks of Covid have fully passed through inflation, wages, employment and GDP, and normal transmission has been restored – at least for now.
Learn more about Tim in his latest Pendal profile interview, as he explains why the case for bonds – and active management – has never been stronger.
explains why the case for bonds – and active management – has never been stronger
About Tim Hext and Pendal’s Income & Fixed Interest boutique
Tim Hext is a Pendal portfolio manager and head of government bond strategies in our Income and Fixed Interest team.
Tim has extensive experience in banking, financial markets and funding including senior positions with NSW Treasury Corporation (TCorp), Westpac Treasury, Commonwealth Bank of Australia, Deutsche Bank, Bain & Co and Swiss Bank Corporation.
Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia.
The team won Lonsec’s Active Fixed Income Fund of the Year award in 2021 and Zenith’s Australian Fixed Interest award in 2020.
Find out more about Pendal’s fixed interest strategies here
About Pendal
Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.
In 2023, Pendal became part of Perpetual Limited (ASX:PPT), bringing together two of Australia’s most respected active asset management brands to create a global leader in multi-boutique asset management with autonomous, world-class investment capabilities and a growing leadership position in ESG.
Here are the main factors driving the ASX this week, according to analyst and portfolio manager ELISE McKAY. Reported by head investment specialist Chris Adams
THE market has taken some comfort in rhetoric emerging from Trump’s camp regarding negotiations for more favourable tariff outcomes – and refraining from firing Fed chairman Jay Powell.
As a result, last week – while a short one for us in Australia – was a good one for markets, with the S&P/ASX 300 up 1.9%, the S&P 500 up 4.6% and the NASDAQ up 6.7%, almost wiping out all the drawdown since Liberation Day on April 2.
The VIX (a measure of equity market volatility) also moved sharpy lower. However, the risk of a bounce in volatility and further equity sell-offs remains high.
Broad investor positioning, while improved, is still not great.
Neither we nor the market have sufficient conviction in the macro data to make a big call either way on the economic outlook.
Complicating this further is a potential change in the global order and an end to the narrative of US Exceptionalism, leading to capital flow migration out of the US with subsequent effects for the US dollar (USD) and gold.
We saw this in the Aussie market last week, with anecdotal evidence that global asset allocation decisions are contributing to ASX 20 outperformance.
US policy
The past two weeks have been characterised by classic Trump brinkmanship, leading to significant volatility as the market questioned the strength of US institutions.
In a scene straight out of The Apprentice, Trump floated firing Fed Chair Powell on April 16.
Markets took the news badly, effectively painting Trump into a corner and illustrating the market’s role as a moderating force on political overreach. By April 22 Trump had reversed course, stating that he had “no intention of firing Powell”.
Tariff rhetoric developed over the past two weeks, adding to market uncertainty.
- While the sweeping Liberation Day tariffs (including 145% tariff on Chinese imports) were announced on April 2, the rhetoric sharpened further mid-month.
- On April 16 Trump warned that countries failing to finalise trade deals in the next 2-3 weeks would face new tariff measures and specifically singled out European autos as a potential target.
- Meanwhile, China’s 125% retaliatory tariffs on US goods, implemented on April 11, remained in place.
- By April 23, Treasury Secretary Bessent attempted to soften the tone, suggesting the trade war with China was “unsustainable” and hinting that some tariffs could eventually be negotiated lower (from 145% to ~50-65%).
- European leaders also responded, publishing countermeasures against US tariffs on April 14, but pausing implementation for 90 days to allow negotiations.
Overall, while no new tariffs were enacted over the past fortnight, heightened trade tensions reinforced volatility and amplified concerns over the global growth outlook.
Using the current “best case” scenario of 50-65% tariffs for China and 10% for the rest of the world, this would still equate to 16.5-18.5% blended tariff rate – or a US$480-540bn incremental “tax” on US consumers.
Market positioning and flows
Amazingly, the S&P 500 is now only down 2.6% from Liberation Day, though it remains 10% below peak levels in February.
Volatility has also improved, with the VIX halving from the peaks seen post-Liberation Day.
That said, market breadth remains poor, with relatively few stocks driving the rebound.
Hedge funds remain highly active, with gross leverage above 200%. But a modest 47% net exposure suggests positioning is heavily relative rather than taking a directional view on markets.
This suggests we are still operating in an environment with elevated crowding risk and the potential for forced de-risking if volatility spikes again.
The potential impact of liquidity is evidenced in the S&P E-mini market. S&P E-minis are electronically traded futures contracts for the S&P 500, which is one-fifth the size of a standard S&P 500 futures contract.
Volumes of buy and sell orders at the best bid and ask prices are very thin, raising the risk that even modest order flows could drive sharp price swings.
This backdrop has also driven hedge funds to lean more heavily on ETFs for hedging and risk management, amplifying the risk that macro-driven flows (rather than fundamentals) could dominate near-term market moves.
Anecdotally, long-only managers have been raising cash, though that started to shift last week as the selling of mega-cap tech slowed and there was some scattered interest in the Mag-7 following the results from Intel and Alphabet.
Capital flows have also started to shift away from the US and into other global markets, shaping the trajectory for the USD and influencing the gold price.
Within Australia, there is commentary around global asset allocators moving away from the US and into other markets – including Australia, where the ASX 20 has benefited and outperformed.
Evidence of some more constructive flows was seen mid-last week, where hedge funds looked to cover shorts and bought single stock names. But this is still very early days and the fundamentals are unclear.
We await greater certainty over tariff outcomes and earnings resilience to restore confidence in the market.
Meanwhile, the retail buyer has not cracked and Corporate America should also start returning to the market this week with US$1.35 trillion authorised buybacks in place and an estimated $1 trillion execution for 2025 (up 5% year-on-year).
Find out about
Crispin Murray’s Pendal Focus Australian Share Fund
So, what are the fundamentals saying?
US earnings season has not been as bad as feared.
About 35% of the S&P 500 have reported 1Q results with revenue growth of 4.9% and earnings up 20.6%, beating expectations.
Forty per cent of market cap is reporting this week, including Apple, Amazon, Meta and Microsoft (we will be watching closely for readthrough for data centre demand from these “hyperscalers”).
But earnings data is backwards looking, and it takes several months before we start to see the effects of tariffs flowing through.
Historically, according to work by Goldman Sachs, the Philadelphia Fed Manufacturing Index, the ISM Services indices, jobless claims and the unemployment rate have been the most accurate and relatively real-time signals of growth slowdowns.
In past recessions with a clear precipitating event – such as we saw with Liberation Day – it takes roughly three to four months for clear signs of deterioration to show up in the hard data, with surveys of expectations first showing signs of decline.
While we are still in the first few weeks following Liberation Day, there are some signs that survey-based expectations have moved significantly lower.
The Evercore ISI Company Survey – which looks to capture a real-time snapshot of economic activity and trends – came in at 48 last week, which is firmly in the “Struggling” zone of 45-50. Less than 45 is classed as “Recession.”
The decline was led by retailers and the capital goods sectors, suggesting the recent bumps relating to pre-buying ahead of tariffs have abated. Restaurants have also declined as consumers pull back on discretionary spend.
Alternative data like the Freightwaves Outbound Tender Volumes Index (a measure of how often shippers request carriers to move loads) has trended down. Tender volume is now down about 15% year-on-year (YoY).
Ocean booking volumes out of China into the US are also currently down about 25% YoY.
The Port of Los Angeles stated last week that it expects a 35% drop in import volumes in two weeks, “as essentially all shipments out of China for major retailers and manufacturers has ceased”.
Meanwhile, shipping liner Hapag-Lloyd is currently observing an estimated 30% decline in bookings out of China and a surge in bookings out of South East Asia as importers look to build inventories before the pause on tariffs for the world ex-China ends in early July.
The key conclusion on the macro situation – it’s complicated.
Therefore, we take recent macro data with a grain of salt; we need more time to see how meaningful the effects of recent events have been on the economy.
The Purchasing Managers Index (PMI) released by S&P mid-last week suggests a sluggish economy rather than one heading straight to recession.
- The flash composite PMIs of 51.2 in April declined from 53.5 in March and was below consensus (52) but is still consistent with a growing economy.
- And whilst businesses are more pessimistic about demand, they are also driving net employment growth with the employment index of 50.8 above the 12m average of 50.2.
- The output price index of the manufacturing survey at a 29-month high of 60.8 suggest the US is on track for core goods inflation rising from 0% in March to mid-3s.
- In contrast, services sector inflation indicators were benign, within the 18-month historical range.
The University of Michigan Consumer Sentiment Survey was weak, falling to 52.2 – the fourth lowest monthly reading since the 1970s.
Existing home sales are at extremely low levels, dropping to 4.02m in March, versus 4.27m in the same month last year and below consensus expectations for 4.13m.
The US housing market remains subdued, with new mortgage rates at 7% dwarfing that of average existing mortgage rates at around 4.3%.
However, jobless claims remain in their recent historical range and continuing claims track sideways.
A changing world order?
With so much up in the air and markets still at risk of meaningful volatility events, this all begs the question: what has caused this change in the world order and how sustained will it be?
Since the GFC, the theme of US Exceptionalism has reigned supreme.
This is the concept that strong institutions, better technological innovation and a growing population have contributed to higher productivity, and superior US corporate profitability and GDP growth versus the rest of the world.
This attracted global capital flows – foreign investors entered 2025 with a record 18% ownership of US equities. US equities have grown from 45% of global markets in 2008 to more than 70% today.
However, this narrative has been challenged in 2025 by:
- Trump’s focus on fixing the fiscal deficit, which has reached 7%
- China’s potential threat to US technology dominance with the disclosure of DeepSeek’s AI capabilities
- An improved outlook for European growth following the election of a pro-growth German government.
As Trump’s term has progressed and the tariff war has escalated, economies outside of the US appear increasingly attractive – and capital flows have followed.
This – exacerbated by fears around the sanctity of Fed independence and of recession – has seen underperformance of the S&P 500 versus other key regions, a rise in US Treasury yields and a fall in the currency, with the US Dollar Index down 4.5% in April and 8.3% since the start of the year.
Goldman Sachs estimates that foreign investors have sold an estimated US$60bn of US stocks since the start of March.
The reallocation of capital away from the US has substantial implications for the USD and gold.
Again, Goldman Sachs estimates that the USD is ~20% overvalued, with the real value of the dollar about two standard deviations above the average since it floated in 1973.
We have only seen similar valuation levels in the mid-1980s and early 2000s, both which subsequently saw depreciations of 25-30%. The latter provides a helpful case study to understand how a global synchronised asset allocation shift away from the US can lead to a substantial devaluation of the USD.
This suggests further downside beyond the depreciation we have seen to date.
With an estimated $22 trillion in US assets owned by foreign investors, any widespread decision to reduce this exposure would likely contribute to significant additional dollar depreciation.
The key takeaway is consistent with our long-held view that flows matter to markets.
Australian equities
What does this mean for the Australian market?
We are a potential net beneficiary of flows. We saw the S&P/ASX 20 outperform last week, up 2.5% versus 1.9% for the S&P/ASX 300 and up 0.3% for the S&P/ASX Small Ordinaries.
This is possibly an outcome from global asset managers reducing US equities exposure and upweighting global exposures, of which Australia is a beneficiary.
The gold sector has been volatile, reflecting concerns around geopolitical tensions and uncertainty, a weakening USD and still-strong central bank demand.
Macro headlines and quarterly results were key drivers of this week’s stock specific performance.
About Elise McKay and Pendal Australian share funds
Elise is an investment analyst and portfolio manager with Pendal’s Australian equities team. Elise previously worked as an investment analyst for US fund manager Cartica where she covered a variety of emerging market companies.
She has also worked in investment banking and corporate finance at JP Morgan and Ernst & Young.
Pendal Horizon Sustainable Australian Share Fund is a concentrated portfolio aligned with the transition to a more sustainable, future economy.
Pendal Focus Australian Share Fund is a high-conviction equity fund with a 16-year track record of strong performance in a range of market conditions. The Fund is rated at the highest level by Lonsec, Morningstar and Zenith.
Pendal is an independent, global investment management business focused on delivering superior investment returns for our clients through active management.
Here are the main factors driving the ASX this week, according to Pendal portfolio manager PETE DAVIDSON. Reported by investment specialist Jonathan Choong
LAST week, we witnessed peak uncertainty with daily changes in tariff policies creating a roller-coaster week for equities. A steep sell-off was driven by China’s retaliation against the United States’ tariff escalations.
This was soon followed by President Trump’s announcement of a 90-day pause on reciprocal tariffs for 70 countries, excluding China.
On what has come to be known as “Pause Wednesday,” 30-year bond yields touched 5.0%, marking the third widest range for Treasuries in modern history, trailing only the worst moments of the Global Financial Crisis (GFC) and COVID-19 pandemic.
This spike in yields prompted Trump to pause tariffs, as the risk of significant contagion in markets had heightened materially.
Late in the week, China increased tariffs on US goods from 84% to 125%, essentially creating a trade embargo between the two largest economies.
Markets now eagerly seek an off-ramp from this “tariff ping pong,” with Xi and Trump expected to negotiate.
Equities responded positively to the pause, with a strong rally starting from Wednesday onwards. Follow-up buying on Friday from retail investors lifted US indices higher, even as China raised tariffs to 125%.
Surprisingly, the S&P and Nasdaq had their best weekly performance since November. In the US market, every sector ended the week in the green. Materials, Technology, Energy, and Industrials outperformed, while Utilities, Communication Services, and Consumer Discretionary were relative underperformers.
Last week had the third-largest spike in 5-day realized equity volatility since the market crash of 1987, trailing only the GFC and COVID-19. This rising volatility reflected the markets adjusting to the medium-term implications of the highest tariff rates since the 1800s.
The VIX surged above 43, and US high-yield spreads also widened significantly, reflecting a risk-off environment. Higher German and Japanese yields relative to the US also suggest a reversal in carry trades, likely putting pressure on equity markets.
Amongst this volatility gold increased by 7.0% for the week, reaching new record highs as investors flocked to the safe-haven asset. In AUD terms, gold has risen by 40% over the past year.
Before “Pause Wednesday,” basis-trade concerns rose about leveraged players holding approximately 10-20% of the US bond market, causing sensitivity among hedge funds with significant treasury exposure.
Looking ahead, a volatile 90-day negotiation period on reciprocal tariffs is expected, with many leaders and treasurers engaging in talks. Discussions will likely include FX rates, Non-Tariff Barriers (NTBs), and overall disposition toward the US.
Tariff background
President Trump’s 2.0 strategy includes higher tariffs, bilateral trade deals, a lower USD, reshoring, and domestic tax cuts.
The overarching goals appears more politically motivated than economic, given that The US has witnessed a steady decline in its manufacturing sector, particularly in the rustbelt regions, and has held long-term trade deficits with mercantilist trade partners.
The desire therefore to address the persistent trade deficits, which had exceeded $1 trillion post-COVID, and to curb the strength of the USD.
In addition, the US fiscal position remains vulnerable, with a year-to-date deficit of $1.307 trillion, a significant increase from $1.065 trillion the previous year.
Receipts rose by 3.3%, while outlays increased by 9.7%. Public debt to GDP stood at approximately 120%, surpassing post-WWII levels and posing sustainability concerns.
Government interest payments in March amounted to $93 billion, marking a 17.5% increase and becoming the second-highest spending line after Social Security. This fiscal vulnerability underscored Treasury Secretary Bessent’s focus on managing US bond yields to prevent exacerbated financial instability.
China has already been decreasing its Treasury holdings since 2015. Trump’s 2.0 approach is guided by his 2018 experience where tariff hikes led to a 17.9% increase in effective tariffs and a 13.7% fall in the CNY. Note this time around the trade war has accelerated much faster than in 2018/19.
The proposed solution
In his first term, tariffs resulted in heightened use of layover countries for re-exports, such as Vietnam, Mexico, and Canada, to address trade imbalances. This time around, there’s a push for a more major reset lot meaning more bilateral trade deals, more focus on shifting supply chains to bring back manufacturing back to the US.
Higher tariffs and reshoring efforts are expected to shift US spending patterns from goods with high tariffs to those with low tariffs and services.
While this strategy is estimated to generate $700-750 billion annually from tariffs, net new annual revenues are likely around $500 billion (1.7% of GDP) due to the restraining effect of tariffs on real GDP growth.
The goal is to use tariff revenues to offset tax cuts and foster a recovery in domestic manufacturing.
However, the proposed solution is not without complications.
The US had been overspending relative to other developed nations, leading to persistent per capita GDP growth at the expense of current account issues and fiscal deficits.
Even with an increase in the trade balance and the manufacturing share of employment under Trump’s administration, the efficacy of this policy remained debatable.
For instance, despite Germany’s long-standing trade surplus over two decades, it still faced a decline in manufacturing employment, illustrating that a shift toward onshore manufacturing might not be sufficient to improve the trade balance.
There is also a risk of capital flight if the rest of the world reduces holdings of USD assets.
Macro and policy US
The US inflation rate showed signs of slowing, with March CPI data delivering a second consecutive month of downside surprises.
Core CPI inflation decelerated to 0.06% month-over-month (2.8% year-over-year), while headline CPI posted a deflation of 0.05% month-over-month (2.4% year-over-year), helped by a drag from energy prices.
The 90-day tariff pause is expected to slow growth as households and firms rush to complete overseas purchases before potential tariffs take effect.
This surge in imports could drag on Q2 growth but may be offset by stronger consumer spending in Q2, followed by a slowdown in Q3.
Uncertainty among businesses remains high, potentially leading to a pause in hiring and investment. Planned price increases due to tariffs might also be delayed.
The ongoing DOGE-government layoffs and hiring freeze are affecting approximately 8 million out of the 171 million workforce (~5%).
Federal job stability is now in question, with spending freezes and disbursement delays impacting sectors like education. Foreign travellers and students are opting for destinations outside the US, which could affect local spending. Consumer confidence is down, although household spending has increased by 1.1% year-over-year.
Indicators of financial stress, such as the Philadelphia Fed report, show that 11.1% of active credit card holders are only making minimum payments—the highest in history.
US consumers’ expected change in their financial situation is near a record low, and buying conditions are weaker. Business optimism and capital expenditure plans are down, likely to recover once Trump’s policies become clear. The extent and location of reshoring remain uncertain, affecting the timeline for recovery.
China
China faces significant challenges if its goods exports are largely cut off from the US market, with the drop in exports equating to around 2.5% of the country’s GDP.
To counteract this, the Chinese government is likely to implement stimulus measures to encourage domestic consumption, helping to absorb some of the excess production.
Additionally, Chinese goods are expected to increasingly find their way into other foreign markets, particularly the EU. This shift could support ongoing disinflation and provide central banks with additional capacity to ease monetary policy.
Australia
In Australia, markets are now pricing in 4-5 rate cuts over 2025, with most expecting a 25-basis point cut in May due to recent market turmoil.
CPI forecasts have been lowered to 2.7% by June, down from the previous 3.2%.
On the import front, tariff changes are anticipated to create a surge of cheaper Chinese imports, benefiting inflation and the rates outlook as Australia has little manufacturing to displace.
However, the export outlook appears weaker due to a lower Australian dollar and trade-weighted index. High Chinese tariffs are not favourable, with the effective tariff rate faced by our trading partner now at 59% compared to the global average of 26%.
Rate cuts in 2025 are expected to benefit leveraged plays with reliable income growth, particularly in the REIT sector. The yield curve in Australia has dropped, which will help underpin the property market.
In terms of ASX market performance last week, the market ended up slightly down from where it started. IT, Communications and Consumer stocks were all stronger over the week while Financials and Health Care lagged. Energy and large-cap materials stocks were under pressure due to lower oil prices and softer commodity prices while the Small Ordinaries, with its high proportion of gold stocks, outperformed the broader market.
About Crispin Murray and Pendal Focus Australian Share Fund
Crispin Murray is Pendal’s Head of Equities. He has more than 27 years of investment experience and leads one of the largest equities teams in Australia. Crispin’s Pendal Focus Australian Share Fund has beaten the benchmark in 12 years of its 16-year history (after fees), across a range of market conditions.
Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.
So far US tariffs are a mixed bag for bonds. But understanding Trump could help investors navigate markets, writes Pendal’s head of government bonds, TIM HEXT
PRESIDENT TRUMP’s “reciprocal” tariffs caught many – me included – by surprise last week.
Until then, I mistakenly believed tariffs were all part of the art of the deal.
Tariff talk, which was seen as a tactical ploy to get a better deal for the US, suddenly seemed to have larger ideological aims. How else can you explain the ridiculous calculation method for reciprocal tariffs?
There is still a lot of water to go under the bridge in the weeks and months ahead as negotiations go bilateral – but understanding Trump (always a difficult exercise) will help navigate markets.
When China entered the World Trade Organisation in 2001, the US trade deficit with China was $84 billion. The US had a $300 billion deficit overall in manufacturing. Over next two decades, the manufacturing deficit grew $1 trillion to $1.3 trillion by 2022.
China accounted for almost $600 billion of this growth.
Overall, this was seen as a win/win. China got to develop on the back of hard work and exporting to the US. And US consumers got plenty of cheap goods from China, protecting a standard of living in the face of slow wage growth.
The bonus for the US was that in an attempt to keep its currency lower, the Chinese government bought US dollars and became huge buyers of US Treasuries. Its FX reserves went from $300 billion to over $3 trillion during this period.
Let’s not forget the most important thing: since 2000, around 500 million Chinese people have emerged from poverty to middle incomes.
By 2018, however, geopolitics started to kick in. As China started to flex its muscle globally, not all in the US were happy. The narrative began to change.
In his first term, Trump launched a trade war with China, causing negative equity returns. Helping the Chinese economy was now seen as a negative, not a positive.
That trade war now seems tame. It seems the narrative from Trump is effectively that the US can handle some pain if it means achieving a longer-term new world order. The US will retreat back to some supposed golden age. Time will tell.
Implications for bond markets
As evidenced this week, all these actions from Trump are a mixed bag for US bonds.
Firstly, economic weakness should mean Fed cuts and rallies in bonds. However, tariffs will mean higher inflation – at least near term.
Throwing more confusion into the picture is foreign buying (or more likely selling) of US bonds. Smaller trade deficits mean smaller capital surpluses and therefore, at best, smaller inflows into US capital markets.
Where it gets more interesting, though, is the weaponisation of financial flows – not just trade flows. Rumours have been circling that China is dumping part of its US Treasury holdings.
Other countries may follow – after all, like any investments, you want to know the CEO knows what they are doing, and simply put, credibility and confidence has evaporated. Who would want to lend money to an entity that is acting so aggressively against your interests?
Therefore, the flight to quality is more of a flight to cash and short bonds, not long bonds. Yield curves are steepening faster than economic fundamentals suggest.
It was only late last year when US exceptionalism became the investment theme for this decade. That exceptionalism remains but is quickly being redefined from a positive to a negative.
Implications for our portfolios
We have been leaning into duration for a number of months, but are very disappointed by the lack of a reaction from our long end. Short-end duration has worked, but unlike Covid and the GFC, the long end has been left behind.
The RBA will also be cautious.
The expected low CPI print on 30 April will give the central bank cover to cut at its 20 May meeting, but unless it keeps getting worse, its recent form suggests only a 25-basis-point (bps) cut.
It will then adopt a wait-and-see approach for how it all impacts Australia. But given there are six weeks till then, markets are right to price some risk of a larger cut – though, current levels of 40bps of cuts looks a little too much.
The random nature of announcements mean we are generally keeping risk close to home. Our caution around credit means we are avoiding the major drawdowns that will be hitting more aggressive investors.
Now is not the time to charge in. However, we are still looking for relative value opportunities in a volatile market to keep adding value in these stressed times.
Liquidity
And just like that – liquidity in many sectors dries up in a puff of smoke.
Our portfolios at Pendal Income and Fixed Interest have always operated at the more liquid end of markets. We leave the less-liquid, high-yield chasing to others.
Government bonds remain highly liquid. Semi-government bonds are hanging in there though bid/offers are widening. You can transact senior bank paper assuming manageable size and paying a wider spread.
However, as we have often warned, beyond there it gets very tricky.
Everything is liquid in good times, but it is a shortlist in a time of crisis. The RBA sets the liquidity rules and its world is one of cash, bank bills/NCDs and government bonds (all known as High Quality Liquid Assets).
These remain open for business, but beyond that point, it is buyer-beware for liquidity.
About Tim Hext and Pendal’s Income & Fixed Interest boutique
Tim Hext is a Pendal portfolio manager and head of government bond strategies in our Income and Fixed Interest team.
Tim has extensive experience in banking, financial markets and funding including senior positions with NSW Treasury Corporation (TCorp), Westpac Treasury, Commonwealth Bank of Australia, Deutsche Bank, Bain & Co and Swiss Bank Corporation.
Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia.
The team won Lonsec’s Active Fixed Income Fund of the Year award in 2021 and Zenith’s Australian Fixed Interest award in 2020.
Find out more about Pendal’s fixed interest strategies here
About Pendal
Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.
In 2023, Pendal became part of Perpetual Limited (ASX:PPT), bringing together two of Australia’s most respected active asset management brands to create a global leader in multi-boutique asset management with autonomous, world-class investment capabilities and a growing leadership position in ESG.
Here, Pendal’s head of equities Crispin Murray dissects the key questions for investors and explains how to respond following the latest slew of US tariffs
- An unprecedented event with many unpredictable factors
- All the questions investors need to consider
- Find out about Pendal Focus Australian Share fund
PRESIDENT Trump went hard on tariffs, defying market expectations that he would blink.
A historic market price adjustment followed, as “liberation day” became “liquidation day.”
Effective tariffs have risen from 2.5% at the start of year to 24%. Given tariffs are effectively taxes, this equates to a US$700bn tax hike or 2.4% of US GDP – the biggest in history.
Not only were the size of tariffs well above expectations, but the design had nothing to do with matching pre-existing tariffs. Instead, there was a blanket approach based on the size of trade deficits.
This led to higher-than-expected tariffs on the EU (20%) and China (an incremental 34% to 54%).
The message is that tariffs are designed to force companies to shift production to the US.
Investor Howard Marks – who is 78 years old – noted that the move from a system of free trade and globalisation to one with significant restrictions on trade is “the biggest change in the environment probably in [his] career” and “a step towards isolation”.
The shock from the tariff announcement was compounded when China retaliated with its own 34% tariff on US goods, signalling the beginning of a trade war.
The market’s immediate reaction was to cut economic growth forecasts and raise inflation expectations, which equates to lower earnings and valuations. The starting point for tariffs is so high that even large, negotiated concessions will not prevent the economic shock.
Markets adjust quickly, with moves compounded by the need for some investors to unwind leverage and access liquidity.
Such market dislocation becomes self-perpetuating as correlations spike, with factors driving relative returns and volatility surges (the VIX – a measure of market volatility – rose to 45%) which force investors to further liquidate positions.
The result was a 9.1% drop over the week in the S&P 500 and a 10.0% fall in the NASDAQ. The S&P/ASX 300 fell 4.0% and the Australian Dollar was down 3.8% versus the US Dollar.
These falls spilled into other asset classes – for example, Brent crude oil fell 11% and copper fell 14%.
Despite the inflationary impact of tariffs, bond yields fell on expectations that central banks will be forced to ease as we skirt with recession.
For investors, the question is how to respond to this new landscape. The challenge is that this event is unprecedented and there are many unpredictable factors.
We will dissect some of the key questions below and explain how we view them.
The details
Trump announced a baseline 10% universal tariff, which can be thought of as a subscription fee to access the US consumer.
In addition, there were sixty individualised rates – the key ones being 34% on China and 20% on Europe.
There are some exemptions for specific sectors and relief for goods that comply with USMCA (United States-Mexico-Canada Agreement) requirements.
The weighted tariff is moving to 24%, which is the highest in more than 100 years. This will probably rise to 27% when the section 232 tariffs are announced on strategic products such as pharmaceuticals, microchips and copper.
Understanding the why
Everyone knows tariffs are bad.
US economic history is scarred by the Smoot Hawley Act of 1930, which imposed 20% tariffs and – in combination with the wrong Fed response – triggered the Great Depression.
Tariffs are a tax on consumers and producers, which lead to higher prices, diminish disposable income, and eat into corporate profit margins – affecting employment and investment.
Tariffs of 22-25% equates to a U$700bn tax hike, which is hugely damaging to the US economy.
So if this is so well understood, why do it?
The logic, when you listen to the Trump Administration and key influences like former US Trade Representative Robert Lighthizer, is that this is better than the alternative.
They believe there has been a failure of the system. Treasury Secretary Scott Bessent refers to it as the “steroid economy”, which looks good on the outside but is killing your internal organs.
To summarise the Administration’s perspective:
- The US is effectively transferring a US$1trn of wealth a year as it borrows to fund unsustainable spending. Much of this is going to their greatest geopolitical rival, China.
- Millions of jobs have been lost as production shifted offshore.
- The US is falling behind as a technology leader. They cite the Australian Strategic Institute, which claims the US is behind China in 57 of 64 critical technologies.
- The loss of jobs and technology leadership has led to declining productivity, affecting growth and wages. There has been median wage stagnation for decades.
- This has led to unsustainable income disparities. The top 1% have more wealth than the middle 60%. And 88% of the stock market is owned by the top 10%, the balance by the next 40% the other 50% of people are in debt. Scott Bessent noted that last year was a record for both the number of Americans travelling on European vacations and the number of Americans having to use food halls to get by.
- The US is strategically vulnerable. They see Covid as a beta test, which demonstrated the economic vulnerability in the event of a kinetic conflict.
Citing Alexander Hamilton, the first US Treasury Secretary (1789 to 1795), tariffs protect industry and help fund the building a new America. Under Trump, they also act as a negotiation tool.
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This is a dramatic change in economic policy and how the global economy will operate. It is trying to force companies to move back to the US, so products can be sourced there and jobs created.
This means there can’t be special deals or major exemptions, as all this does is shift production from one low-labour-cost nation to another.
Universal and permanent tariffs are required to solve the problem. To quote Lighthizer, “you can’t have a hole in the net to allow all the fish to swim out of.”
So, while there may be some dilution of tariff rates to lower levels, it will still probably equate to at least 15%, which has a major impact on the economy.
Absent a major shift from Trump, the intention appears that tariffs will remain in place and force companies to shift production.
How will other countries react?
This is a significant factor in assessing the overall economic and market impact.
China went hard and early. Tellingly, it imposed a blanket 34% tariff – matching the US – which is more substantive than its response to previous US tariffs.
It also expanded export controls on rare earths (7 of 17 elements), which are used in the defence industry.
The logic for this is that even if there can be some agreement to bring the tariff rate down, it will take some time. The G7 meeting in late June may be too soon – then it may be as late as around the G20 summit in November. So, China feels it needed to send a strong signal.
We note they didn’t play their real card, which is to forego law around intellectual property and go after US companies that way.
The market is watching for the US reaction.
Washington was clear that it would punish any retaliation, so there is the potential for a tit-for-tat counter from the US this week. But no action from the US could embolden other countries to retaliate.
China is in a difficult position – only 7% of US exports go to China, so the US estimates that the effect of tariffs on the Chinese economy is around three times that of the effect of reciprocal tariffs on the US. Some estimates put this at 2% of Chinese GDP if they remain in place.
The Chinese will need to stimulate – and the earliest likely announcement could come at the Politburo meeting in late April.
Expectations will be for stimulus of around 1% of GDP, probably orientated to industry and infrastructure.
The other challenge for China is that other countries will become wary of Chinese product dumping as the US market closes for them, which could lead to additional tariffs.
At the other end of the reaction curve, Vietnam raised the white flag and said it wanted a deal to potentially remove all tariffs. Trump acknowledged this and there are discussions to see what sort of deal can be done. While Vietnam is small, it is a relevant test.
Part of any deal could involve shifting key communications technology from Chinese to US suppliers. If there is a deal, it will be interesting to see if it does represent a hole in the proverbial fishing net. We note stocks like Nike were up Friday on this hope.
What is the impact on the US economy?
Estimates for the impact on US GDP range from 1.5% to 2.0%, with the lower end of the range relying on some walk-back of tariff rates.
In addition, it leads to around a 1% rise in the expected inflation rate over 12 months.
The Administration is claiming this will not be the case. It acknowledges there will be a near-term slowdown but blame this on the effect of weaning the country off the artificial stimulants of the Biden economy.
It points to a few mitigating factors regarding growth and claims tariffs will increase growth towards 3% in the medium term. The argument for growth includes:
- Proposed tax cuts. These go beyond the extension of the previous Trump tax cuts, which will have no economic benefit as they sustain current tax levels. Rather, it points to US$400-600bn revenue from tariffs to fund election promises of no tax on tips and overtime and tax deductibility on loans for US-made cars. This will underpin consumer spend, it says.
- Investment as companies reinvest in US capacity.
- Lower energy prices – oil prices fell last week on increased OPEC supply and concerns over demand.
- Lower bond yields and interest rates.
The Administration believes the inflation effect will be contained, with companies absorbing 40% of the hit and a higher currency another 40%, leaving the consumers wearing 20%.
So far, the currency has not moved that way (the US Dollar Index fell 1% last week) and most economists see a more material inflation effect.
It also notes that the current situation is very different to 1930. Then, the US had run trade surpluses for 60 years and were more vulnerable to the impact of tariffs and to retaliation. While this may be true, the scale of the tariffs still represents a material economic shock.
Further, a number of mitigating factors like tax cuts and investment are not going to kick in until late this year – at best – so will not fill the hole created by the tariff policy.
The market focus is now on what may change in response to lower growth – either a “Fed Put” or a “Trump Put”.
How will the Fed react?
Federal Reserve Chair Jerome Powell spoke on Friday and, according to language modelling by JP Morgan, it was his most hawkish speech in years. The Fed’s key challenge is that:
- The economy is currently still in good shape – the jobs report on Friday was positive, as were global ISM surveys in general. It is believed there has been a good recovery in consumer spending in March after a softer January and February. So there is no immediate issue the Fed can point to justify cutting rates.
- The Fed’s stated key focus is on inflation expectations and ensuring they stay anchored. Recent inflation data has picked up and surveys have indicated consumers are anticipating a rise in inflation. To quote Powell, “Our obligation is to keep longer-term inflation expectations well anchored and to make certain that a one-time increase in the price level does not become an ongoing inflation problem.”
Powell’s cautious message is tied to trying to keep those expectations down.
The Fed knows the economic effects are material and that a slowdown will help contain the flow-on effect of the tariff price rises, which opens the door to easing monetary policy.
The economy is expected to fall away very quickly. We may see evidence of this as early as April’s employment data, which comes out prior to the next Fed meeting on 7 May.
The market has moved to pricing a 47% chance of a May cut, up from 19% last week.
In a recession, the average cutting cycle is 350 basis points (bps). Given the 100bp move already, that still leaves another 250bps of rate downside.
The market now is expecting four more cuts this year, down to a range of 3.25% to 3.50%.
While the Fed will not worry too much about equity markets, a credit market dislocation would prompt action. Here, we are now beginning to see some strain – with a spike in the two-day move in credit spreads.
Debt issuance has dried up and this is also a key consideration for the Fed, as it represents a tightening of financial conditions which compounds the effects of tariffs. The Fed has reacted to issues in the debt market in all crises over the past fifteen years.
The market’s challenge is that given the Fed’s focus on inflation, it will need to see bad economic news first before it can move. So, we need to be mindful of the sequencing of events.
Ultimately, we see the Fed Put as real and it does represent the most likely counter to the bearishness. There is a scenario that, come the second half of 2025, we get the trifecta of:
- material rate cuts
- tax cuts
- lower negotiated tariff cuts.
This could lead the market to rebound quickly – the issue is, from what level?
Could something else break the tariffs?
There is some speculation that other factors could see a reversal on tariffs. These include:
- Political pressure. Republicans are concerned, and this will build as the economic data deteriorates, but there is a little they can do. Also, compared to the last Trump Administration, there are more MAGA Republicans in Congress.
- Legal pressure. The court cases are beginning and will grow, some focusing on the fact that Trump is utilising age-old emergency powers to enact these changes. There are precedents for this – Biden used similar powers to wipe out student debt. The issue is these challenges will take time and the damage to the economy will be done before any could potentially take effect.
- Economic and market pressure. The “Trump Put” in response to opinion polls could still be the source of major U-turn. A market observer close to the Trump team notes his background in TV, where he was obsessed with ratings. Similarly, if he saw he was losing his base of working-class Americans he would probably pivot quickly. The key point here is this is not a stock market-related level. Rather, it would be in response to losing the messaging as a result of economic weakness. So this possibility is further off than the Fed Put.
The market’s reaction
Friday saw the first tangible evidence of capitulation selling in the US.
- Sentiment extremes. The CBOE Volatility index (“the VIX”) spiked to 47% intra-day and the VIX forward curve (Spot VIX minus the three-month forward expected VIX) inverted to a degree not seen since Covid, which suggests an expectation of extreme near-term volatility. There was US$30bn of flows into the inverse S&P ETF and a wholesale raising of recession probability risks with, JP Morgan moving to a 60% chance of recession.
- Indiscriminate selling. 72% stocks on the S&P 500 had a downside move two standard deviations beyond the mean. Friday was also the largest single day of stock-trading volumes in the US and we saw large selling of gold – which is a sign of investors seeking access to liquidity. The fall in the Australian Dollar can also be seen in that light, as there is the added issue of Super funds having large currency hedges getting margin called, which can compound moves.
- Capitulative price action. 77% of S&P 500 stocks were trading at 20-day lows
The equity market move on Thursday and Friday is estimated to equal a 1.2% adjustment down in US economic growth.
For technical traders, Friday’s US close broke through trendline support, the Yen carry trade low from August 2024, and the Fibonacci 38.2% retracement of the 2022-25 rally.
On a technical basis, that opens up potential downside to around 4800 and then 4500 for the S&P 500.
Markets don’t move in straight lines. As one technical analyst describes it, they move initially with a “bang” and then a “whimper”.
So we have had the big “bang” move and we may see a period of consolidation and an attempt to bounce, particularly if we get any positive signals from the Fed. However, the next phase could be the “whimper”, where the market eventually grinds lower and often volumes dry up until all hope is squeezed out of market sentiment.
Clearly this path depends on the economy and policy.
One unique aspect of this situation is that it is self-induced, so there is always the chance of some unwind.
Also, the effect on the rest of the world may not be so material if they react with lower rates – which is easier to do as they don’t have the inflation impulse – and fiscal stimulus.
The US market does not yet have valuation support. It is trading at ~19x price/earnings, having peaked at ~22x, but in recessions this falls to 15x on average – which is consistent with the 4500 targe S&P 500 index range.
The other issue is earnings risk. Goldman Sachs has cut its S&P 500 2025 earnings growth expectations from 11% to 3%.
The market consensus still sits at high-single-digit growth. If we get a recession, there is further downside risk here.
What does this mean for Australia?
Factoring in the pre-market futures fall for today, the Australian market is down 9%. This is better than the US but behind Europe. Our view is that the Australian economy is well protected and should avoid recession.
Factors supporting this include:
- Fiscal stimulus. Unlike the US both sides of politics support higher government spending. This is adding over 1.5% to GDP growth in CY25, both through direct spending and also some tax cuts. Government spending represents around 29% of the economy and is growing around 8-9% in nominal terms.
- Rate cuts. The RBA has left the door open for rates to fall in May, on the premise of a global shock and domestic inflation being close enough to target, subject to the March inflation report. Beyond that, the market now sees at least three cuts this year and our economy is still sensitive to this.
- Weaker currency. The Australian Dollar has moved down in advance of an anticipated terms of trade shock from commodity prices falling.
- Direct exposure. There is limited exposure to US exports and our tariffs are relatively low.
So, this would help sustain consumer demand, while government spending would support investment.
The main risk is a global recession affecting the local economy as financial conditions tighten and companies and consumers react with caution. Also, there is a risk of a terms-of-trade shock form lower commodity prices.
While we saw a sharp drop in copper last week, it is still up 10% year-to-date. Coal is weaker, while oil is down 12% for the month (also affecting LNG pricing), but iron ore has remained flat so far.
So, this has not yet occurred – and should China do another round of stimulus, we me be spared.
The local market has reacted as other markets have – correlations are rising and price action is dominated by thematics, positioning and liquidity.
The rotation in this environment is savage and unrelated to stock specifics.
Tech, miners and energy are the worst hit due to their perceived cyclicality. Banks, telecom and consumer staples were the best performers, partly due to their more defensive earnings (but also positioning is skewed away from these sectors).
Unlike the US, consumer discretionary stocks have held up quite well. Despite reasonable prospects for the domestic economy this sector still looks vulnerable, in our view.
Impact on portfolio positioning
This is a major test for the thematic exposure of our portfolios and a reminder of why we carefully manage these risks.
While our broad-cap Australian equity strategies have generally given back some relative performance in April given the substantial rotation to defensives, it is contained and relatively muted.
Generally speaking, our underweights in supermarkets and banks have detracted, but the defensive positions such as Telstra and CSL – plus reasonable cash levels – have helped offset this.
We have held back so far from stepping into heavily sold-down stocks given the degree of change in the global outlook. Given the scale of moves and liquidity available in the funds we may well start deploying some of this.
The focus here will not be on the high-beta names such as tech, where the market remains over-exposed. Instead, we are likely to be looking at well-positioned industrial names with strong cashflow and no exposure to tariff risk.
About Crispin Murray and the Pendal Focus Australian Share Fund
Crispin Murray is Pendal’s Head of Equities. He has more than 27 years of investment experience and leads one of the largest equities teams in Australia. Crispin’s Pendal Focus Australian Share Fund has beaten the benchmark in 12 years of its 16-year history (after fees), across a range of market conditions.
Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.
US tariffs will affect different emerging markets in different ways and investors must understand where each country sits on a spectrum of geo-economic risk. Pendal’s emerging markets team explains
- Current events suit one group of EM countries better than others
- Find out about Pendal Global Emerging Markets Opportunities fund
IN this highly dynamic environment it’s important to maintain a longer-term view on the performance of emerging markets rather than react to short-term market moves.
It’s also important for investors to understand how the Trump administration’s tariff policies will affect different emerging markets in different ways.
Emerging market countries can be thought of as sitting on a spectrum — ranging from higher-risk, USD-sensitive, current-account-deficit, carry-trade markets to lower-risk, global-demand-sensitive, current-account-surplus, mercantilist markets.
The first category includes emerging markets such as Brazil, Mexico, smaller Latin American markets, Indonesia and South Africa.
The second category encompasses South Korea, Taiwan, Thailand, Malaysia and (to some degree) China.
European markets (Czech, Hungary, Poland, Greece) and Arabian Gulf markets (Saudi, UAE, Qatar, Kuwait) sit towards the middle of the spectrum, but also have their own drivers.
India also sits towards the middle.
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Pendal Global Emerging Markets Opportunities Fund
We believe current events significantly favour the first group over the second.
“US dollar weakness, particularly when tariffs might have been expected to strengthen the dollar, suggests a weakening of investor belief in US exceptionalism, leading to increased capital flows to the rest of the world,” the team says.
“The outperformance of non-US equities over US equities adds to this narrative.
“This is extremely beneficial to those USD-sensitive markets, particularly when put alongside the generally cheap equities and currencies in many of those countries.”
Where to use caution
The second group, meanwhile, have focused on an export-led, mercantilist development model that is extremely challenged at present.
“There is no obvious demand source that can replace exports to the US for these countries, and many companies in them are likely to face significant earnings downgrades,” the team continues.
“It’s also worth noting that the weakening of US defence commitments to countries previously thought of as allies poses some of the starkest geopolitical challenges to Korea and Taiwan.”
This broad analytical framework does not remove the need to focus on country-specific risks and opportunities, the Pendal team cautions.
“In particular, we note China has a relatively low export/GDP ratio, and has high capability and economic headroom to provide offsetting stimulus.
“Where we are looking at new ideas, they are focused on the huge opportunity a weaker US dollar gives to some emerging markets and the potential for very strong returns from stocks in these markets if capital continues to flow from the US to the rest of the world.”
About Pendal Global Emerging Markets Opportunities Fund
James Syme, Paul Wimborne and Ada Chan are co-managers of Pendal’s Global Emerging Markets Opportunities Fund.
The fund aims to add value through a combination of country allocation and individual stock selection.
The country allocation process is based on analysis of a country’s economic growth, monetary policy, market liquidity, currency, governance/politics and equity market valuation.
The stock selection process focuses on buying quality growth stocks at attractive valuations.
Find out more about Pendal Global Emerging Markets Opportunities Fund here
Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.
The US has announced a slew of tariffs based on a reciprocal tariff ‘formula’. Head of government bond strategies TIM HEXT breaks down the latest
TODAY, President Trump announced a baseline 10% tariff on all goods into the US. This was widely expected.
Less expected, however, was the basis for “reciprocal” tariffs.
You would be forgiven for thinking this meant that whatever rate of tariff other countries imposed on the US, the US would impose back.
After all, Trump’s tariff board said “Tariffs charged to the US”.
However, rather than being actual tariffs, they made up a number based on a reciprocal tariff formula – that is, the trade deficit that the US has with a country divided by the size of imports the US takes from that country.
For example, Indonesia has a trade surplus (deficit for the US) of $17.9bn on total exports (imports for US) of $28 billion – so, its supposed tariff on the US is 64%.
What this highlights is that the US is more focused on their poor current account position and will use tariffs to fix it.
This meant the reciprocal tariffs being imposed by the US were higher than most expected, with markets reacting with an old-fashioned risk-off move.
What do these tariffs mean for the US economy?
There is more to play out as bilateral trade talks take place, so final tariffs may yet soften. Mexico and Canada were not mentioned today, but both still await 25% tariffs.
However, the current net increase in tariffs for the US is around 20%, translating to around an extra 2% to inflation. Part of that may be absorbed by exporters or retailers, but it would be hard to see inflation not being hit by at least 1%.
For growth, the US consumer is 70% of their economy.
If consumers spend the same amount of money, their volume of consumption would fall – leading to a roughly 1% lower GDP than anticipated. Employment should be softer near term as the boost from onshoring will take longer to come through.
Put together, we have stagflation-lite in 2025.
The US Federal Reserve is caught between higher inflation and lower growth, but would more likely see through the one-off inflation impact and react to the lower growth.
The Fed Funds Rate may yet end up near 3%, or “neutral”.
What about Australia?
We have a small trade deficit with the US. Under the Trump formula, our $14bn deficit on $88bn of imports should mean we tariff the US 16%.
Try that for “reciprocal”. Alas, Prime Minister Albanese is not one for such moves.
Our economy will take any hit through Asia, especially China. Almost 90% of our exports go to Asia, so any slowdown there will have an impact here.
However, we should not see any direct inflation hits. In fact, exporters may look to replace some US demand in other markets, which could even see some import prices fall.
Australian financial markets, however, will continue to be buffeted by global events.
Finally, bonds may once again perform their role as a defensive instrument. Today’s moves offer some hope.
About Tim Hext and Pendal’s Income & Fixed Interest boutique
Tim Hext is a Pendal portfolio manager and head of government bond strategies in our Income and Fixed Interest team.
Tim has extensive experience in banking, financial markets and funding including senior positions with NSW Treasury Corporation (TCorp), Westpac Treasury, Commonwealth Bank of Australia, Deutsche Bank, Bain & Co and Swiss Bank Corporation.
Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia.
The team won Lonsec’s Active Fixed Income Fund of the Year award in 2021 and Zenith’s Australian Fixed Interest award in 2020.
Find out more about Pendal’s fixed interest strategies here
About Pendal
Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.
In 2023, Pendal became part of Perpetual Limited (ASX:PPT), bringing together two of Australia’s most respected active asset management brands to create a global leader in multi-boutique asset management with autonomous, world-class investment capabilities and a growing leadership position in ESG.
Here are the main factors driving Australian equities this week, according to portfolio manager JIM TAYLOR. Reported by head investment specialist Chris Adams
- Find out about Pendal Focus Australian Share Fund
- Register now: watch Crispin Murray’s Beyond the Numbers – on demand
MEASURES of economic policy uncertainty are approaching four-decade highs, just as quickly as US business and consumer confidence fall to new lows.
To use a financial analogy, the US government is in the very early stages of a “de-grossing” strategy and reducing its exposure to the economy.
After an unprecedented run-up in government spending during Covid and then (via Treasury Secretary Janet Yellen) in the lead up to last year’s Presidential election, the private sector has been crowded out.
As government spending is stripped back, we will get a much better gauge on the underlying health of the ex-government economy.
The key risk is that the private sector swings from being “crowded out” to a voluntary “stepping out” in the face of a government strategy that no one has ever experienced before – and for which no rule books have been written.
On some calculations, something like 70-80% of US economic growth over the last three to five years has been driven by deficit-funded government spending.
We are on the cusp of learning about the relationship between the US government’s deficits and corporate profitability. Some have postulated that 6% deficits equate to US$2Tr of excess spending across the economy.
The impact of current uncertainty is being seen in the data.
The Fed’s indicators of recession risk have picked up marginally, from the low-20% range to the mid-20% range.
Expectations for Q1 CY2025 earnings growth for the S&P 500 have fallen from 11.7% on 31 December 2024 to 7.3% on the 28 March. Unusually for recent times, US earnings revisions are falling faster than other major developed economies.
A key observation point from here will be following capital flows, spurred by either better relative opportunities or policy grievances – likely across the Atlantic toward Europe.
Tariffs remained very topical, with some negative news – such as the 25% tariff on non-US produced cars – somewhat offset by comments out of the EU on areas where they may offer concessions, as well as Trump commentary about being “very lenient” in terms of the first round of reciprocal tariffs.
We expect further developments this week, with 2 April looming as the point at which a new round of tariffs will be implemented – perhaps marking the point at which uncertainty peaks.
After providing a tailwind for market sentiment for much of the past three years, inflation has largely stalled in the mid-to-high 2% or low 3% range, depending on the measure. The Fed’s view is that more cuts are on the way, but fewer than previously thought and weighted to the backend of 2025.
The S&P 500 fell 1.5% for the week. In an unusual twist, the US Dollar is falling as the S&P 500 retraces, for reasons discussed later in this note. The S&P/ASX 300 rose 0.63% during this time.
FedSpeak
As Atlanta Federal Reserve President Bostic – a non-voting member of the FOMC – flagged some of the challenges for forecasts amid the current uncertainty.
He currently expects prices to move largely sideways for the rest of this year, given less progress of inflation and the impact of tariffs.
This would mean that “the appropriate path for policy is also going to be pushed back”, with Bostic shifting his dot plot forecast from two cuts in 2025 to one.
He also cited increasing concerns from contacts on the economic trajectory which have yet to be reflected in data, but added that it is not yet clear whether weaker consumer sentiment will play out as a leading indicator.
On tariffs, he was cautious about labelling any impact on inflation as “transitory” but noted that historically they have been a one-off impact, with businesses passing through additional cost. Consumer sensitivity to this remains to be seen.
St. Louis President Alberto Musalem said it is unclear if any inflationary impact from tariffs will prove temporary. He also noted that secondary effects could see the Fed hold interest rates steady for longer.
He said there is an increased risk inflation could stall above the Fed’s 2% goal – or move higher due to tariffs and other factors – and emphasised the importance of inflation expectations remaining stable.
The Fed is no longer on the “golden path”, Chicago President Austan Goolsbee said, adding that the next rate cut will take longer than anticipated.
Macro and policy Australia
Headline year-on-year CPI inflation fell by 17 basis points (bps) to 2.38% in February, below consensus expectations of 2.5%. This means headline CPI has been within the 2-3% target band for seven consecutive months.
The monthly decline was driven by seasonal price falls in the holiday travel and accommodation basket – which was down 7.6% month-on-month – as well as lower fruit and vegetable prices (down 0.5% month-on-month).
Electricity prices fell 2.5% month-on-month – versus expectations of a 0.5% rise – with all Victorian households receiving subsidy payments after some missed out in January.
The baskets seeing the highest annual inflation are food (+3.1%), alcoholic beverages and tobacco (+6.7%), rents (+5.5%), education (+5.6%) and finance and insurance (+4.5%).
Housing-related components such as rents and new dwelling prices have eased significantly from where they were mid-2024, but are flattening out at current levels.
The largest price falls have come in electricity prices (-13.2%), fuel (-5.5%) and travel (-7.6%).
The year-on-year trimmed-mean CPI fell 10bps to 2.7%, above expectations of 2.5%.
The CPI excluding volatile items (fresh food, fuel and holiday travel) fell from 2.9% in January to 2.7% in February.
Elsewhere, there was little in the 2025-26 Federal Budget to shift perspectives.
The deficit of $42.1bn was a touch larger than the $40bn consensus expectation and well ahead of the $27.6bn for 2024-25, but lower than the forecast of $46.9bn from the midyear update.
This equates to 1.5% of GDP. Forward projections suggest a deficit ranging from 1.1% to 1.3% through to 2028-29.
The main surprise was a modest tax break totalling $17.1bn over five years through a slight increase in the lowest tax bracket.
The government expects the economy to grow 1.5% this fiscal year (down from 1.75% previously), 2.25 in 2025-26 and 2.50% in 2026-27. It is also forecasting CPI inflation to remain in the 2-3% target band, though rising to its top end next year.
Macro and policy US – policy uncertainty now leaking into the hard data
The March Composite Purchasing Manager’s Index (PMI) came in at 53.5, which was a three-month high ahead of consensus 51.7 and up from February’s 51.6.
The Services PMI of 54.3 was also at a three-month high. It also beat consensus (50.8) and was up from 51.0 in February.
The Manufacturing PMI of 49.8 was below consensus expectations of 51.9 and hit a three-month low as new orders growth slowed.
Forward-looking components revealed a degree of pessimism. The Future Activity Index component of the PMI fell to its second-lowest level since October 2022 given a cautious economic outlook and policy uncertainty.
The Conference Board Consumer Confidence Index fell from 101.1 in February to 92.9 in March – its lowest level since January 2021 and below consensus forecasts of 94.0.
The expectations component (down 9.6% to 65.2) and the present situation component (down 3.6% to 134.5) both declined.
The survey’s measure of 12-month ahead inflation expectations increased by 0.4pp to 6.2%, which is the highest level since April 2023. Tariffs were cited as the reason. While high, we note that the Fed is more focused on medium-term inflation expectations.
Other data points to note:
- New home sales in February rose 1.8% from January on a seasonally adjusted annual rate, slightly below consensus expectations.
- Initial jobless claims fell from 225K to 224K, marginally below the consensus (225K).
- Continuing claims fell to 1,856K, from 1,881K, below consensus of 1,886K.
- Real consumption rose 0.1% in February, below consensus (0.3%). February’s very modest rebound from a weak January suggests the emergence of a real slowdown in demand. Weakness was fairly broad based. A gain of ~0.3% in March see a 1Q annualised growth rate of about 0.5%, the lowest since 2Q 2020.
- Nominal personal incomes rose by 0.8%, well ahead of the 0.4% expected by consensus. Government transfers to households grew 2.2% while increases in personal taxes rose just 0.1%.
- The Core Personal Consumption Expenditures (PCE) deflator increased by 0.4%, above the consensus of 0.3%, and lifted the inflation rate to 2.8% from 2.6% in January. These numbers are less relevant until the impact of tariffs gets absorbed into the base.
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Markets
Evidence of the dramatic reversal in sentiment towards equity markets is seen in the positioning of US institutional asset managers, which have gone from the one-hundredth percentile of net long equity positioning in November 2024 to the 58th percentile in March.
US dollar
It is also interesting to note that of the 13 drawdowns of at least 10% in the S&P 500 since 2010, the US dollar has been at least flat – and usually up as part of a flight to safety – except in the current episode.
There are two factors that have changed.
First, on a short-term perspective, the story at the start of the year was a strong US economy and a weak Europe.
Since then, US growth expectations have dropped as uncertainty weighs on investment and spending, while European growth expectations have improved on the back of large German stimulus.
That led to the reversal of an undervalued Euro versus the US dollar. There is a view that this could begin to unwind if the tariffs begin to eat into growth of other countries more so than the US.
The second, longer-term case for a weaker US dollar goes to the argument outlined by Stephen Miran, chair of the Council of Economic Advisers within the Trump Administration.
The argument is that the US dollar is chronically over-valued as a result of all the payments being received by exporters in China and the EU being recycled into US assets.
There has been a very large increase in foreign ownership of US equities in last decade, which is now at all-time highs. If countries start to believe that the trade compact with the US is now broken, they are less likely to keep buying – and may actually sell – US assets, thus creating a long-term headwind for the US dollar.
This helps explain why the long-term negative correlation between equities and the US dollar has broken down.
The near-term outlook for the dollar remains unclear, because of the relative impact on tariffs.
However, we think the long-term trend may well be for a weaker US dollar, with the caveat that this is mainly against the Euro.
The Australian dollar may underperform the Euro given our own issues with government over-spending eventually requiring some response, which may lead to a headwind for growth.
Data centres
There was further negative news flow on data centres (DCs), as a US sell-side analyst flagged Microsoft is not proceeding with 2 giga-watts (GW) of data centre options in the US and Europe.
We understand that Microsoft has over procured around 1GW of capacity, given they have altered their exclusivity agreement with OpenAI on training generative AI models. OpenAI is now also partnering with Oracle. This is equivalent to roughly six months’ worth of supply.
Anecdotal feedback suggests that other hyperscale customers are stepping up to take capacity.
Lease agreements already agreed with global data centre operators in the G20 nations are ironclad, with no ability to back out. However, DC operators may be amenable to adjusting capacity to another location particularly, if they can sell the unlocked capacity at a higher price.
The DC market remains in balance for now.
In Australian equities, Financials (+2.5%) and Energy (+1.9%) were the best performers for the week, while Technology (-2.9%) and Real Estate (-2.2%) underperformed.
About Jim Taylor and Pendal Focus Australian Share Fund
Drawing on more than 25 years of experience investing in top-performing Australian companies and a background in accounting, Jim manages our Long/Short Fund and co-manages our Imputation Fund. He is a Chartered Accountant with membership of the Australian Institute of Chartered Accountants.
Pendal Focus Australian Share Fund is managed by Crispin Murray. The fund has beaten its benchmark in 14 years of its 18-year history (after fees), across a range of market conditions. Find out more about Pendal Focus Australian Share Fund here.
Pendal is an independent, global investment management business focused on delivering superior investment returns for our clients through active management.
Here are the key takeaways from the Federal Budget and February’s inflation data, according to head of government bond strategies TIM HEXT
- Watch now, on demand: How to prepare for rate cuts in a shifting global economy
- Browse Pendal’s fixed interest funds
INTERESTED readers may want to pore over the many details of the Budget by themselves. But here are the three things that matter for the bond market.
1. Gross debt will hit $1 trillion by next year
There is nothing important about this milestone as such.
But with a $62 billion headline cash deficit and around $90 billion of maturing debt to refinance, the Australian Office of Financial Management will need to issue more than $150 billion next financial year.
This is $3 billion a week (as it takes Christmas and New Years off), which is double the pace of this financial year.
Can the market absorb these higher amounts? Of course they can.
And with arbitrage players buying bonds (then financing them with banks on repo) and selling futures in massive volumes, the government can fund itself easily. This is one way the US government is getting itself huge issuance volumes away.
However, term premiums will continue to go up and yield curves should steepen further.
2. Big government is here to stay
The government continues to spend any savings it finds.
The Budget forecasts are highly sensitive to employment predictions. Not only do workers pay taxes, but you also don’t need to pay them welfare. Therefore, a fall in the unemployment forecast from 4.5% to 4.25% helped make the government $36 billion better off over the next five years.
However, new spending and modest tax cuts used up $35 billion of this. As a result, government spending remains above 27% of Gross Domestic Product – the highest since the 1970s (Covid aside). And this is only Federal government – including the state governments only makes it bigger.
The following graph is courtesy of ANZ – a larger version can be seen here.
3. There is very little in the Budget to help productivity
This Budget was not supposed to happen, with only Cyclone Alfred stopping an April election.
One hopes that both parties are holding back their bold initiatives for the campaign proper, which will begin next week. However, a pessimist may also suggest that both are trying to be small targets, as in the modern age, reform is viewed as just too difficult.
The thinking is a small number of losers will make far more noise than a large number of beneficiaries from any reform.
In the meantime, productivity in Australia is hard to come by, at least over the last decade. There are few signs we will be able to boost it anytime soon, though we are doing better than our friends in New Zealand.
This matters for markets and should make investors cautious that we can sustain real returns (over inflation) around the 3-4% level.
Recent years have left investors confident that the good times will keep rolling, but expectations should be moderated – disappointment will not be too far behind.
Inflation
Today, we also received the February monthly CPI numbers. This compares levels with February last year.
Prices are up 2.4%, almost right on the RBA’s target. If a trimmed mean is applied to CPI (that is, removing the top 15% and bottom 15% on a weighted basis) this number is 2.7%.
This is good news for the RBA. While electricity subsidies are keeping headline inflation down (these run out next year), there is plenty of good news in the items.
Importantly, new dwelling prices are only up 1.6% over the past 12 months, having been above 10% in 2021 and 2022. Rents were 5.5% higher – still too high, but down from 8% peaks.
In fact, apart from excise-impacted alcohol and tobacco, the only pinch points of high inflation remain health, education and insurance.
Lower wage growth should help health and education fall, though structurally they will remain elevated. Insurance is only a small part of overall CPI but should follow – down moderating car repair and building costs.
The Q1 2025 CPI numbers, due out 30 April (RBA meets 18 May), should show trimmed mean inflation at 0.6%. Headline may be nearer 0.8% or 0.9%, but either way, it will provide the RBA with a very good reason for another cut.
If the polls are right in suggesting post-election mayhem and both parties try to woo the independents to form a government, we may not have a government by 18 May.
However, whoever does become prime minister will be handed a gift from the RBA.
About Tim Hext and Pendal’s Income & Fixed Interest boutique
Tim Hext is a Pendal portfolio manager and head of government bond strategies in our Income and Fixed Interest team.
Tim has extensive experience in banking, financial markets and funding including senior positions with NSW Treasury Corporation (TCorp), Westpac Treasury, Commonwealth Bank of Australia, Deutsche Bank, Bain & Co and Swiss Bank Corporation.
Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia.
The team won Lonsec’s Active Fixed Income Fund of the Year award in 2021 and Zenith’s Australian Fixed Interest award in 2020.
Find out more about Pendal’s fixed interest strategies here
About Pendal
Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.
In 2023, Pendal became part of Perpetual Limited (ASX:PPT), bringing together two of Australia’s most respected active asset management brands to create a global leader in multi-boutique asset management with autonomous, world-class investment capabilities and a growing leadership position in ESG.