Easy Come, Easy Go

1695 words, a 5 minute read. Please note our Musings will shortly move to Substack. If you enjoy and value our work we hope to see you there.

Talk about a rug pull. Whether one wants to discuss the Trump trade which as the WSJ points has morphed in to the anti Trump trade, or Tesla off 40% from its high, the Crypto dump and on to the heart of American Exceptionalism and the Mag 7 selloff,  its been a pretty intense few weeks. February has lived up to its reputation, especially the 2nd half and even though its my birthday month I am happy to say goodbye.

We took a look at YTD performance this morning and the non US equity outperformance has been meaningful. YTD the S&P is flat, ACWI is up 2%, ACWX up 6% so 600 bps of outperformance vs the US YTD. That outperformance has been led by Europe up 13% FEZ and China with FXI and KWEB up 16% and 15% respectively.

We note both the US and Europe have been led by financials with XLF up 7% ytd, a performance dwarfed by one of our LT favorites EUFN, up 18% ytd. Two last points: KWEB is massively beating the Qs which is down 2% ytd while all three big Asset Allocations buckets: stocks ACWI +2%, bonds AGG up the same and Commodities with GSG also clocking in at + 2% suggesting some confusion amongst the investor community.

Confusion is one thing, uncertainty is another. One can usually deal with confusion if one thinks about it long and hard enough. Uncertainty is another issue and one the markets hate the most. Today, uncertainty clouds the war in the Ukraine, US tech exceptionalism, the Trump tariffs and  perhaps most importantly the outlook for the US economy. Bloomberg notes: “Trump 2.0 has certainly engendered extreme uncertainty across the globe, to judge by the record index levels kept by Baker, Bloom & Davis that is based on press coverage.”

The picture for the US economy has been muddied in very rapid fashion by the erratic nature of the Trump Admin messaging function and the lack of clarity it offers between a focus on beating inflation, boosting growth, cutting spending, bigger tax cuts etc. Today’s PCE data make the case: solid inflation data (2.6% ann, best since 2021) accompanied by weak personal spending and thus rising growth related concerns.

We continue with our Stoic Strategy approach to the Trump Admin – imagine all scenarios and fear none, followed by paying no attention to the President’s verbiage and a lot of attention to what he does and finally focusing not on the news but on the market’s reaction to the news.

What is the Stoic strategy saying now? One has to consider both growth and no growth scenarios in the US given the shifting Trump team focus from stock market performance (Trump 1.0) to lower 10 yr UST rates (Trump 2.0). Focusing on what Trump does suggests sticking close to the tax cut story because that is what Trump did in his 1st term & what he wants to do in his 2nd. Thus, DOGE spending cuts and revenue generating tariffs are two sides of the same coin. Both focused on making space for as big a tax cut as possible given already existing 6% deficits.

Paying attention to the market reaction to the news suggests that at least one large part of the uncertainty picture has been effectively priced in – that is the tariff story. Bloomberg reports how the Euro’s response to Trump tariff threats has been quite muted suggesting much is in the price. EU stock performance suggests the same. 

The Chinese stock market reaction to another 10% tariff on top of the previously announced 10% tariffs themselves on top of the existing Biden era tariffs suggests they too are mostly priced in. It also suggests we are probably coming close to the end of the Trump tariff show given the Admin’s focus on lower US rates and tariffs potential to boost US inflation & thus rates.

The recently floated idea that Trump & US Treasury Sec Bessent favor the 10 yr over stocks as a barometer of success has had an impact on stocks given lower yields usually come with weaker growth and weaker growth implies less earnings growth. For a fully valued US equity market (22x 2025 EPS estimates at S&P 5900 and $265 consensus E) that’s a problem. With Q4 earnings season all but over (JPM notes 90% of S&P has reported with 13% US Y/Y EPS growth vs 2% in Europe and a whopping 20% Y/Y EPS growth in Japan) the market now turns back to the economy and the Trump Admin’s objectives for it.

The good news is that the 5% S&P decline has wiped out the bullish sentiment that followed Trump’s election and replaced it with some significant bearishness. Here’s StoneX: “The ongoing deterioration in AAII sentiment accelerated meaningfully over the past week. Bulls dropped to 23-month lows while bears jumped to 29-month highs, pushing the bull-bear spread to the lowest since September 2022.  There have only been 3 other instances where the % of bulls dropped below 20 while the % of bears rose above 60. Each marked an excellent buying opportunity. The catch is all 3 were preceded by corrections of at least 10%.”

The dispersion away from the Mag 7 continues apace with the most important dispersion being investor appetite shifting away from the US to the non US equity space. Rotation has been the lifeblood of this bull market as it is for most and this is where the US economic uncertainty becomes an issue because it impedes the domestic rotation out of the Mag 7.

We have talked for some time about the narrow needle threading necessary to sustain US economic dynamism while cutting Federal spending, shrinking the labor pool through immigration crackdowns, muffling corporate animal spirts and cap ex by tariff uncertainty while coincidently raising consumer fears over inflation by all the tariff talk and cratering consumer confidence by all the federal layoffs and the potential impact on the long tail of private sector contractors. 

Our fear is slow growth with elevated inflation precluding the Fed from being able to cut and causing real concern over EPS growth which could lead to significant further US stock market weakness. As our buddy Steve Blitz at TS Lombard notes: “Trump can always end up quashing the very spirits he intends to ignite.”

It makes sense given this litany to expect range trading across financial assets as hopes and dreams swing between growth and inflation. Given the power of the algos, such range trading is evident already, especially in the 10 yr UST as rates bounce between 4.25% and 5%. As we noted in last week’s Musings the market action last Friday was an important tell with rates rallying sharply and the S&P falling almost 2% suggesting growth is the concern not inflation. We expect rates will remain in the range especially given the continued tariff imposition coupled with the push for tax cuts funded by expanded deficit spending. If bonds rally further that is unlikely to be good news for US equity.

On the growth side Citi’s US ESI has fallen out of bed, the Atlanta Fed’s Q1 2025 GPD Nowcast has softened back to the 2.3% level two months into the Q and as noted consumer confidence, deal flow, CEO & investor confidence have all taken a hit from the self imposed Trumpian confusion. A Govt shutdown could be up next. Yet Apollo notes that US recession probability remains very low.

Callum Thomas notes: “This indicator combines the signal from the economic surprise index and policy uncertainty index (inverted) — basically the lower it is the more economic policy uncertainty there is and/or the worse economic data is vs forecast. This bad noise appears to be weighing on markets. worst since 2011-12 EU bank crisis (excluding 2020 & Covid).” Noise vs signal?

When we contrast that muddy US picture with the growing sense of clarity in Europe and in Asia it helps explain the strong YTD OP of the non US equity markets. Starting from a very low base of investor interest, valuation, ownership and expectations there was arguably little room for further non US equity downside. Much was in the price.

Going forward, we expect significant European defense spending as a result of the Trump team’s comments re NATO and European security. This activates the 3rd leg of our Tri Polar World (TPW) regional spending competition, first on Climate, won by China, 2nd on AI, led by the US with China stepping up with its DeepSeek moment and President Xi’s very rare public meeting with private sector tech entrepreneurs. Now the action has shifted to Defense in Europe with Germany likely to lead the fiscal stimulus that will boost the European economy.

In Asia we look to China’s upcoming National Peoples Congress (NPC) meetings where we anticipate further policy stimulus to boost consumption, drive higher quality growth & push back against Trump tariffs. The time is right as the real estate bust bottoms, stocks rise and the bond rally reverses. We expect consumer confidence to pick up and consumption to follow.

We remain focused on our capital repatriation thesis, expecting capital to exit the US & return to Europe & Asia as various Govt’s make capital calls to finance the AI, Climate & Defense spending needed to compete in the TPW. One way to finance what is needed is to call domestic capital back home and early signs of this are starting to appear. The US has the most to lose in such an environment given how much of the globe’s liquid capital has migrated to the US over the past 15 years or so.

The Trump team oscillates on its USD view as on so many other issues. We don’t. Dollar weakness is something we expect to build over the course of the year as interest rate diffentials shrink, capital starts to flow out of the US attracted by a better policy mix abroad while US policy confusion supports taking some USD off the table.

Enjoy Wednesday’s 10-minute Schwab Network clip from the NYSE floor. https://schwabnetwork.com/video/deepseek-shot-a-hole-in-the-heart-of-u-s-exceptionalism-exodus-to-international-equities