Our Global Head of Fixed Income Research and Public Policy
Strategy explains why conflicting news on tariffs and government
spending may point to a case for bonds.
----- Transcript -----
Welcome to Thoughts on the Market. I’m Michael Zezas, Morgan
Stanley’s Global Head of Fixed Income Research and Public Policy
Strategy. Today we’ll be discussing recent U.S. public policy
headline noise and the signal within that for investors.
It’s Friday, February 28th, at 12:30 pm in New York.
For investors paying attention to events in Washington, D.C., the
past few weeks have been disorienting. Tariff announcements have
continued, but with shifting details on timing and
magnitude. And Congress passed a bill to enable substantial
spending cuts, but subsequent media reports
made clear the votes to actually enact these cuts later this year
may not be there.
Our recent client conversations have revealed that investors’
confusion has reached new heights, and there’s little consensus,
or conviction, about whether U.S. policy choices are set to help
or hurt the economy and markets.
Net-net, it's a lot of policy noise, and very little signal. That
said, here’s what we think investors can anchor to.
For all the headlines on potential new tariffs for China, Mexico,
Canada and on products like copper, actual tariff actions have
followed a graduated pace, in line with our base case of ‘fast
announcement, slow implementation’ – where tariffs on China start
and continue to climb, but tariffs on the rest of world move
slowly and are more subject to negotiation. Tariffs on Mexico and
Canada appear, in our view, likely to be pushed out once again
given progress in negotiation on harmonizing trade policy and
progress in reduced border crossings.
On the other hand, tariffs on China, already raised an
incremental 10 percent a few weeks back, seem likely to step up
again as there are much bigger disagreements that the two nations
don’t appear close to resolving.
But even if tariffs move according to the pace that we expect,
that doesn’t mean they come without cost. The U.S.’s goal is to
bring more investment onshore, with an aim toward increasing
goods production, thereby reducing trade deficits, securing
important supply chains, and growing industrial jobs. The theory
is that higher tariff barriers might incentivize more direct
investment into the U.S., as companies build supply chains in the
U.S. to avoid the higher tariff costs.
But even if that theory plays out, there’s a cost to that
transition. In a recent blue paper, my colleague Rajeev Sibal led
a team through an analysis demonstrating that the next phase of
supply chain realignment would be considerably costlier to
companies, given the complexity of production that must be
shifted. So either way, companies take on new costs –
tariffs, CapEx, or both. That challenges corporate margins,
and economic growth, at least for a time. And there’s plenty of
execution risk along the way.
So what’s an investor to do? Our cross asset and interest rate
strategy teams think it's time to lean more heavily into bonds.
Equity markets may do just fine here, with investors looking
through these near term costs, but the risk of something going
wrong with, for example, tariffs escalation or broader
geopolitical conflict, may keep a ceiling on investors’ risk
appetite.
Conversely, a growth slowdown presents a clearer case for owning
bonds, particularly since it wasn’t that long ago that better
economic data helped the Treasury market price out most of the
expected monetary policy cuts for 2025.
Thanks for listening. If you enjoy the show, please leave us a
review wherever you listen and share Thoughts on the Market with
a friend or colleague today.
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