Worst case

Every note in my inbox this morning starts with some form of, "this is worse than the worst-case scenario." And, well, it's hard to disagree. Going into the press conference, the consensus was that the Trump administration would implement reciprocal tariffs by putting an across-the-board 20% tariff on all goods entering the U.S. Markets initially breathed a sigh of relief because President Trump mentioned the phrase "10%" in the beginning of the press conference. However, the relief was short-lived once he pulled out his visual aids.

In reality, the country is placing a universal tariff of 10%, and for many it will be much higher. For the "worst offenders," the rate will be half of what the Trump administration deemed the foreign country's tariff rate. The Trump administration said this rate takes into account both tariff and non-tariff barriers into consideration. However, it took social media a full two hours to figure out the actual equation. The "foreign tariff rate" is simply the country's trade deficit with the US, divided by the total imports into the US. This could bring the trade-weighted US tariff rate to around 20-25%. That range is well above the level of the 1930 Smoot-Hawley tariffs, which most people (other than economists) have probably only heard of from that boring high school teacher in "Ferris Bueller's Day Off."

The general consensus is that this will raise inflation anywhere from 1.5% to 3.0% and likely have a strong negative impact on the economy-further increasing the risk that our soft patch could become a recession. If I could give that view a rebuttal, it would be that this math assumes the rates are permanent, and "permanent" is not a word this administration uses often. However, Trump 2.0 seems to have a much higher economic pain tolerance than Trump 1.0.

Along those lines, Treasury Secretary Scott Bessent stated that these were the top rate of tariffs, and they can be negotiated down from here. Perhaps today's reaction will give markets their clearing event and an opportunity to recover as rates are negotiated down. Furthermore, there will likely be legal challenges, so perhaps some of them might not hold. The US is using the International Emergency Economic Powers Act (IEEPA), and the challenges will come about whether this indeed gives the administration the authority. Unfortunately, the idea this is a top rate likely does not take into consideration countries retaliating and Trump's response to those.

In this environment, we think cyclicals, small-caps and beaten-up growth names will perform better in the second half of the year. To remain constructive, we are closely monitoring three key areas: the labor market with the jobs report tomorrow being crucial, credit spreads, which have widened slightly but remain relatively tight, and corporate earnings which continue to show solid estimates.