Policy uncertainty a risk to U.S. growth
Markets are doubting U.S. growth and equity strength. Yet economic conditions don’t signal a downturn. Resilient earnings keep us overweight U.S. stocks.
Global stocks trimmed their losses last week. The S&P 500 was down 1% after briefly entering a technical correction as recession fears gripped markets.
We expect the Federal Reserve to hold rates steady at this week’s policy meeting. Markets have been pricing in deeper rate cuts due to fears about U.S. growth. U.S. stocks slid as markets doubted the strength of U.S. growth and tech. We see a double disconnect. Economic conditions don’t point to recession, yet prolonged policy uncertainty may hurt growth. And the tech sector still has the strongest expected 2025 growth. We stay overweight U.S. stocks as policy uncertainty should ease over a six- to 12-month horizon. We don’t see long-term bonds as reliable portfolio diversifiers, even if growth suffers, given persistent deficits and inflation.
Economic strength.
U.S payroll growth, actual and estimated 2022-2025
The S&P 500 has slid 8% from its February high and 4% this year as investors worry U.S. policy changes will bite growth that has been key to U.S. outperformance. Yet fundamental, quantitative economic data doesn’t indicate a downturn is near. Job gains have slowed since 2022 but remain above the long-term level we expect given an aging workforce. See the chart. U.S. corporate earnings expectations and high-frequency indicators of consumer health like weekly credit card spending are also solid, JPMorgan data show. Yet near-term risks to growth loom: Uncertainty could hit consumer spending, investment and trade. The longer policy uncertainty lasts, the more growth could suffer – but even that’s not certain. U.S. policy is spurring government spending elsewhere, reinforcing our view that developed market policy rates and bond yields will stay well above pre-pandemic levels.
Markets have also questioned U.S. equity strength, especially for the tech sector. U.S. recession fears reignited the selloff in tech stocks. The Nasdaq has fallen 11% from its all-time high hit in February – the biggest retreat since the 2022 equity selloff. Yet we stay overweight U.S. stocks on a six- to 12-month tactical horizon. Earnings expectations are healthy, with 12% growth forecast for the S&P 500 this year versus 14% last September, LSEG Datastream data show. Tech corporate margins, earnings and revenues forecasts are holding up and the sector still has the fastest expected growth this year. Free cash flow for the sector is also at 30% of total sales, the highest share since 1990 – a sign of current strength.
Recent volatility has been exacerbated by policy uncertainty and investors moving out of crowded positions. For example, last week saw a rapid move away from popular trades, like the tech-heavy momentum equity style factor that had some of its sharpest declines since the pandemic. Both could drive more volatility in the near term. But, over time, deleveraging will have run its course and uncertainty will likely ease as we get more policy implementation details, such as the White House’s full tariff plan due in April. Then, some of the risk premium investors now want for extreme uncertainty could be priced out again.
Long-term U.S. Treasuries have briefly buffered against the stock retreat. But their portfolio diversification role has weakened since the pandemic. We think yields can climb as investors demand more compensation, or term premium, for the risk of holding long-term bonds. Recent inflation data has been noisy, but core CPI is still above what’s consistent with the Federal Reserve’s 2% target. That limits how far the Fed will be able to cut. A likely rising U.S. fiscal deficit – even with revenue from tariffs and potential spending cuts – could also lead to higher term premium. In the past, investors saw long-term bonds as low risk even with heavy government debt loads because they believed low inflation and low interest rates were here to stay. But that fragile equilibrium has been disrupted. Germany’s plans to boost fiscal spending reinforce higher-for-longer rates – and bond yields – globally, we believe. We think gold could be a better diversifier than Treasuries in this environment.
Bottom line: We think the biggest risk to U.S. growth is prolonged policy uncertainty. U.S. stocks could face more near-term pressure, but we stay overweight on our tactical horizon. We stay underweight long-term Treasuries as we see yields rising.
Market backdrop
Global equity markets trimmed their losses last week after the S&P 500 briefly entered technical correction territory Thursday, falling 10% from the February record peak. The S&P 500 rebounded on Friday to end the week down 1%, but it has slid 4% for the year near six-month lows as concerns about U.S. tariffs and a U.S. recession gripped markets. Ten-year U.S. Treasury yields were largely steady last week near 4.30% even with the equity selloff and lower-than-expected CPI inflation data.
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