SUMMARY
US tariffs are negatively affecting domestic sentiment and US assets. We consider the potential impact on markets.
KEY TAKEAWAYS:
US tariffs on Canada and Mexico are proceeding
Smaller reciprocal tariffs may ensue from those nations
The resulting uncertainty may not pass quickly
We favor global diversification faced with the turmoil
Some shock is setting in that President Trump is indeed imposing very large tariffs on North American trading partners. While he campaigned on tariff increases of as much as 60% on Chinese imports, the surprise this year has been the 25% tariffs on the free trade zone of the US’s neighbors Canada and Mexico (10% on Canadian petroleum).
Mexico and Canada’s currencies have slipped about 4% since Trump’s election with greater weakness in anticipation. But US assets are now taking the brunt of the impact as domestic consumer confidence slides on inflation concerns.
The US dollar index (vs major currencies) has slipped more than 3% from this year’s high. US equities are underperforming global equities, with the S&P 500 down 2.3% year-to-date as of March, 4. The Trade Policy Index - a measure of trade policy uncertainty - has risen above levels hit during the extreme supply chain disruptions of the pandemic.
The rise in tariff concerns and some unrelated consumer price spikes have pushed US consumer confidence lower this year and business confidence should follow. With “tariff avoidance” impacting business activity, a key measure of US manufacturing orders fell into contraction in February. In comments reported by the Institute for Supply Management yesterday, seven of 10 industry comments called out tariff impact, with other comments loosely related.
S&P 500 companies earned nearly $2 trillion in operating profits last year. The same firms will face much of the tariff cost. They will absorb or pass on these costs in coming months if the tariffs are held in place or expanded. With all these issues in mind, we cut our US equity allocation for a second time since November last week. Our investment grade US bond allocation was raised to 6.2 percentage points overweight vs 4.2%. With yields far above pandemic levels, a bond market rally is helping offset the US equity weakness.
How far have markets adjusted?
Last August, we added quickly to US equities after an 8.5% drop. At the time, we believed the modest correction did not represent material economic risk. Today, the tariff increases are a more fundamental challenge, even if they are discrete. If the US administration reaches new trade agreements quickly, it could limit damage to business confidence, but it is difficult to argue the uncertainty will pass quickly.
With this said, it is important to point out that the tariffs on Mexico and Canada are far larger in scope than most “reciprocal” tariffs likely to be announced in a month’s time. Such measures could add another $50 billion to tariff collections beyond North America and China. A focus on a range of particular industries such as pharmaceuticals, autos, and metals could possibly double that figure, but still represent a much smaller additional tariff imposition than $300 billion (see FIGURES 1-2).
| 2024 nominal US dollars ($Billions) | |||
|---|---|---|---|
| US Trade Partner | US Imports from… | US Exports to… | Country's Exports to the US as % of GDP |
| Canada | $413 | $349 | 18% |
| Mexico | $506 | $334 | 27% |
| China | $439 | $144 | 2% |
| All US Trade Partners | $4,110 | $3,192 | |
| US Consumer Spending | US GDP | Proposed Tariffs as % of US GDP |
|---|---|---|
| $20,263 | $29,720 | 1.01% |
| Revenue to US from Proposed Tariffs ($Billions) | ||
|---|---|---|
| Reciprocal Tariffs | Country/Industry Specific Tariffs | Total Tariffs as % of US GDP |
| $94 | $307 | 1.35% |
Source: Haver Analytics and Citi Wealth Investments as of March 3, 2025. All forecasts are expressions of opinion and are subject to change without notice and are not intended to be a guarantee of future events.
| Top 10 US Trade Partners (%) | ||||
|---|---|---|---|---|
| Trade Partner | Effective Tariff Rate | Trade Partner's Effective Tariff Rate on US | Trade Partner's Exports to the US as % of GDP | Potential Revenue to US from Reciprocal Tariffs ($BB) |
| China | 2.86 | 7.13 | 3.20 | 24.58 |
| Euro Area | 2.22 | 1.50 | 3.57 | -- |
| Mexico | 0.01 | 5.17 | 32.47 | 23.69 |
| Canada | 0.12 | 1.08 | 20.87 | 4.28 |
| Japan | 1.58 | 3.90 | 3.65 | 3.59 |
| Vietnam | 4.63 | 2.85 | 33.24 | -- |
| South Korea | 0.01 | 14.39 | 7.26 | 17.38 |
| India | 2.99 | 9.45 | 2.69 | 5.88 |
| United Kingdom | 1.32 | 0.69 | 2.11 | -- |
| Thailand | 0.85 | 6.19 | 12.72 | 3.36 |
| Top 10 Total | 82.75 | |||
| Rest of World | 2.15 | 3.57 | 1.47 | 10.77 |
Source: World Integrated Trade Solution and Citi Wealth Investments as of February 12, 2025. All forecasts are expressions of opinion and are subject to change without notice and are not intended to be a guarantee of future events.
Fast markets, but for a reason
US equities are weakening rapidly but from a high level. Measures such as the VIX and industry correlation suggest a correction is ongoing but could extend further depending on how the administration proceeds. If the pace of share price declines continues, we would look for opportunities much as we did in August of last year. First-quarter EPS estimates are very weak and likely to be exceeded. However, we would tend to look for industries and firms that have been indiscriminately hit by risk aversion. Thus far, the selloff in equities has not taken that shape.
We believe investors diversified across regions and asset classes are better able to face idiosyncratic risks, even as large as the US’s new tariffs. The gains in non-US equities and US bonds are helping such portfolios generate a positive return in the year-to-date even with the 6.5% drop in the S&P 500.
