The Art of Dealmaking

As time goes by, it has become more and more obvious that President Trump is using tariffs to negotiate better trade deals with his counterparts; at least that is what the market is currently pricing. What remains to be seen is how much leverage he has over specific countries and what would be the retaliation response.

Last weekend, President Trump introduced a new 25% tariff on all steel and aluminum imports into the US, on top of existing metal duties. China’s retaliatory tariffs on some US exports have taken effect, with no signs of progress between the two counterparts and still waiting for a date where the two presidents will meet to discuss any further developments. On the other side of the pond, EGB (European Government Bonds) supply dominated flows with EU, Italy and France holding syndications away from the regular auctions, hitting the market with €49.5bn, up €26.2bn from last week. On the back of the duration sold into the market, we saw a retracement of the EGB yield levels by around 10-15bps. On the equity side, the out performance of European indices remains intact, with more positive news arising from the Ukraine-Russia situation. President Trump is planning a meeting with President Putin where he will try and manifest a solution to end the war. There are a few schools of thought of how this would affect Europe with regards to defense spending levels but it will all depend on what type of deal would be agreed. President Trump has pointed out a few times so far that the trade balance deficit with the EU is not something that will go unnoticed, and it remains to be seen what type of action will take place and if there will be any specific tariffs assigned to the EU.

There was another winner in the market this week with Gold prices surging to all-time highs, currently at $2934 per ounce. This is a representation of how uncertain the market feels around the global political agenda with continued hedging taking place. The US CPI number came out as well on Wednesday, which added worries around sticky inflation. Economists in the market have pointed out that this specific US CPI report was potentially impacted by several sources of volatility, including residual seasonality, avian flu-related food shortages and tariff linked uncertainty. Headline CPI YoY came at 3% vs 2.9% expected and Core CPI YoY excluding Food and Energy came at 3.3% vs 3.1% expected. Moreover, on Thursday we saw the US January PPI numbers which surprised to the upside with the headline number coming at 3.5% y/y. PPI components though, that are relevant to the core PCE (the FED preferred measure of inflation) printed weaker than expectations, revising forward estimates lower by a few economists. On the back of that, we saw a move tighter in US and EGB yields. Currently, 10yr Treasury is anchored around 4.55% and 10yr German bunds trades at 2.44%. Both are 10-12bps wider than local tights.

One point of data which I follow is the US 10yr breakeven levels currently at 2.45%. This refers to the difference between the nominal yield on the 10-year US Treasury bonds and the 10yr Treasury Inflation Protected Securities (TIPS) yield. It is an indication of inflation expectations in the market which have been rising in the last few months for obvious reasons. (see graph below)

What this implies to me is that there is a decent level of hawkishness applied in the market, and this is also obvious from the US rate cut expectations priced in the market which currently imply 32bps of cuts by year end. A change in the rhetoric in US data could easily see a short squeeze in the Treasury yield levels from here. Either data retreat or DOGE manages to cut government spending which will alleviate a lot of budget deficit worries.

Furthermore, we saw the UK surprising on the upside in their GDP number topping the 0.1% expected for the last quarter of 2024, but the details of the release were less reassuring as private demand remains weak with government spending acting as the chief growth driver. Lastly, on late Thursday afternoon, President Trump ordered his administration to consider imposing reciprocal tariffs on numerous trading partners which was seen as an opening bid for negotiation as they will only take effect from 1^st April forward.

Looking ahead…

Going forward, we remain of the same view that there is still a lot of hawkishness priced into the market, and we expect that to normalize going into the second quarter. We view credit as a safe spot to be invested as the total return perspective is appealing versus the last 5 years perspective. We have a blended balanced approach in equities across geographical regions with a particular bias towards the banking sector. Higher for longer, steeper rates curves and potential US deregulation are strong narratives to help the banking sector to outperform even further from current levels. All these views are shared across all our managed accounts and our recently issued Athlos Balanced Strategy AMC. If you need any more information about market views and allocations don’t hesitate to contact any members of our team.

Written by: Michael Konstantinou, Senior Portfolio Manager