Top of the Morning: CIO Strategy Snapshot - From uncertainty to Risk
The FX desk anticipates a volatile market environment as uncertainty lingers over impending tariff announcements from the Trump administration, coupled with critical economic indicators such as the March employment report. Per the full note from UBS, these developments could amplify existing investor anxiety regarding slowing growth and potential recession risks. While the exact impacts on currency pairs are yet to unfold, positioning recommendations from UBS's April House View suggest strategic adjustments may be necessary as traders navigate this heightened uncertainty. Historically, tariff announcements have led to significant market reactions, underscoring the importance of watching these developments closely.
What the desk is arguing
The desk posits that uncertainty from US trade policy, particularly regarding reciprocal tariffs, will create ripples across foreign exchange markets, influencing trader sentiment and positioning. As highlighted by UBS in their recent commentary, investor concerns are solidly rooted in the broader narrative of slowing economic growth and anticipated recessionary conditions.
Additionally, the focus on the March employment report will serve as a critical gauge for economic performance and could influence Federal Reserve policy decisions. Traders should monitor job creation numbers closely, with any significant deviations potentially prompting shifts in market expectations regarding monetary policy.
Where it sits in our coverage
Current consensus targets place expectations for key currency pairs in a range around 1.075, with a lower bound at 1.04 and an upper bound at 1.12. Specific targets from banks include:
The desk's view appears aligned with jpmorgan, resting at the higher end of the consensus range, indicating a belief in the potential for upside movements if job data supports stronger growth narratives.
How other firms see it
Firms aligned with the desk include jpmorgan, advocating for a more optimistic outlook, while bofa presents a contrary perspective, expressing caution over the potential for further declines.
Watch current trends in USD/EUR as they are likely to reflect adaptability to U.S. economic indicators, also considering the influence of Federal Reserve policy changes prompted by labor market data.
01Tariff announcements could lead to heightened market volatility.
02March employment data will be crucial for determining economic resilience.
03Investor concerns about recessions continue to shape market sentiment.
04Current targets vary widely, reflecting differing views on market direction.
Market implications
Traders should focus on the immediate response to the employment report; any signs of significant job growth could strengthen risk-on sentiment, while disappointing data might heighten bearish pressure across currency pairs. Keep an eye on June Fed meeting expectations as economic data unfolds.
Risks to this view
A stronger-than-expected employment report or a delay in tariff implementation could mitigate investor concerns and lead to a rally in risk assets, which would challenge the current bearish sentiment and potentially invalidate the desk's outlook.
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Hi everyone, Dan Cassidy here. Welcome back to Top of the Morning on the UBS Market Moves podcast channel. After much anticipation, this week the Trump administration is set to reveal the reciprocal tariffs on April 2nd.
There is also important economic data set to be released, headlined by the March payrolls report coming out on Friday. Also interesting political developments worth monitoring. So joining us here today in studio to discuss this all, glad to welcome back the Head of Asset Allocation for the Americas with the UBS Chief Investment Office, Jason Draho.
Jason, thank you for dropping by here in studio and for spending some time with our listeners and clients here on this Monday morning. Good morning, Dan. Good to be back after a week remote.
Definitely. Jason, as I alluded to, there is a lot on deck for this week, a lot top of mind for investors. Let's begin with the tariff announcement coming up on April 2nd, which did seem to rattle markets a bit this past Friday.
What does CIO expect to hear from the White House this week? Well, it's continued to rattle markets this morning as futures are kind of opening down. Look, there's a lot of conjecture at this point in time in terms of what they will announce.
There's a decent chance the administration themselves may not have finalized exact set of numbers on the approach they want to go based on at least reporting over the weekend. And I also want to flag a report that a team in CIO, our risk team, published overnight. Basically, like, literally, it's a preview for what to expect with these reciprocal tariffs on April 2nd.
So I'll cite some of that because I think it's kind of the best way to kind of think about where we are right now. So I guess the first question is, like, what to expect in terms of actual tariffs? These reciprocal tariffs are likely to target a range of countries.
You know, the administration has said, you know, they'll emphasize the 80 percent. The bulk of the trade definitely comes with a handful of countries, like, you know, 15 percent of countries. And they'll be the kind of main, let's call it, recipients of these reciprocal tariffs.
But the focus is also likely to be on Europe and Asia ex-China, given that there's already been significant tariffs announced on China and also tariffs on Canada, Mexico, you know, certainly auto tariffs from last week. And also maybe some product-oriented, you know, specific tariffs, whether it's pharmaceuticals, semis, lumber, copper, similar to what was announced last week with autos and various auto parts. So, you know, pretty broad scope of what it could be, exactly how it's sliced and diced, you know, that remains to be determined.
The question is just how much, you know, will the tariffs actually go up? So as a practical matter, instead of thinking about it could be a 10 percent tariff here and a 15 percent tariff there, ultimately what does it matter in terms of the economic implications are, what is the effective tariff rate on all the imports coming into the U.S.? And by that I mean if you take the tariff rates across different goods, you weight how much those goods come into the U.S., like what percentage of imports are those different goods, you weight and you multiply that by then the different tariff rates applied to those goods or countries, then you can say effectively the tariff rate on all imports into the U.S. is X percent.
Well, if we came into this year, we've already seen the effective tariff rates on imports increase from 2.5 percent to 9 percent based on the increase for China, for Canada, Mexico, for auto parts. We would expect that reciprocal tariffs will push that another four percentage points higher. So now you're looking at roughly in the mid-teens rate for effective tariffs.
To go much higher, you risk kind of, you know, kind of getting out of a sweet spot for tariffs. By that I mean if the administration wants to raise revenue of a certain amount, not have a recession, but also influence where companies and businesses invest, if you go too high, you risk that you may actually not generate incremental revenue because you slow down the economy, you tip into a recession, so you lose more on the other side. So to go too far, too aggressive, you know, this has too much downside risk.
So that's why we think it's somewhat measured, all things considered. Then the key question and some of the bigger questions is how long does this last? Because we could get, you know, sort of a maximalist approach on Wednesday, meaning high, you know, absolute numbers announced with delays in terms of when stuff actually goes into effect, whether it's, say, March 1st, June 1st, which provide time for negotiations, potential off-ramps.
I guess what we can say with maybe some confidence is that this is likely to be sort of peak uncertainty. So we'll at least know what the administration is going to do. They kind of lay their cards on the table.
And then things could certainly change before implementation, there could be negotiation, but it's likely to be, you know, kind of the peak level and things kind of go lower. Because there are numerous potential sort of off-ramps available to kind of bring down tariffs through negotiations, particularly, we'll say, with Canada and Mexico with the free trade deal. So very fluid at the moment, Jason.
You suggested a few moments ago that the White House still may be in the process of figuring out what the announcement this week will exactly consist of. It's interesting, I did notice in your most recent blog title, From Uncertainty to Risk, you said that political considerations could factor into tariff decisions. So what exactly do you mean by that, Jason?
So I think this matters not so much what's announced on Wednesday at the absolute level, but how long they stay in place and what sort of happens with negotiations. Looking at tariffs, we'll have, at least in the near term, a negative economic consequences. We're already kind of seeing that.
We're seeing in financial markets, you know, it'll be directionally inflationary, it could impact growth negatively, and it could start to show up relatively quickly based on past episodes where tariffs were implemented. We already see sentiment for the consumers, for businesses, dropping quite a bit. Could this start to manifest in sort of unhappiness with an approval ratings for President Trump, but also Republicans in general.
So it's interesting, this week, it's getting less attention, but for example, tomorrow in Florida on April 1st, there are two special elections to fill seats that were vacated in a post-election. They're Republican seats, fairly safe Republican seats, but one of them, I think where Trump had won by 30%, the candidate is viewed as perhaps not the strongest candidate, and some of the polling suggests it's almost within the margin there. They won't lose it, but you can be uncomfortably close.
We saw last week in a state Senate election in Pennsylvania, a Republican seat, the Democrat won surprisingly. President Trump asked his nominee, Elise Stefanik, who was for UN ambassador, to basically step down to stay in Congress. Certainly Republicans have a small margin to pass legislation, but they can have her stay in Congress to pass legislation and then go to the UN job.
So the fact that they actually kept it signals some concern that perhaps in a special election, they would lose that seat as well. So this week will provide a bit of a quick early gauge in terms of public approval of Trump, particularly I think the economic policies. But as we go further, as the tariffs are implemented, as is their economic consequences, again, you might see approval ratings decline.
Then it's a question like, well, does the administration, if that happens, stay committed to it? Does it give them sort of a justification, well, we did this and now we'll back off on some tariffs. We'll be more willing to do deals.
This is a conjecture, but I think that's something that has to kind of factor in given what we might learn this week in terms of the public support or disapproval, as it were, of some of the economic policies thus far. There's a lot there factoring into these decisions, it sounds like, Jason. If we put tariffs on hold for a moment, I do want to turn to the economy.
Concerns do persist about a slowdown and rising risk of a recession. What does the latest data say about the health of the U.S. economy? Well, if you look at sentiment data, you'd really be worried about the strength of the economy because it's both consumer sentiment, business sentiment, are rolling over relatively sharply.
In context, they're not at the lows they were a couple of years ago, but definitely not moving in the direction where you expect things to be getting better. The sentiment is getting worse, but the actual activity data, the hard data, hasn't really shown much weakness just yet. Some softening, but not comparable to what we're seeing with the sentiment data.
The latest data that we got for consumer spending on last Friday for February, the personal consumption expenditure data, it was below expectations. The January number was also revised lower, feeding into these concerns about consumer spending. Now, a couple of caveats to that data.
This is coming after a very strong fourth quarter where annualized real spending was over 4%. We're also seeing some seasonal quirks at the start of the year, whether it's inflation or spending data. We saw the same pattern last year where spending in the fourth quarter of 2023 was very strong, growing almost at 5%, and then you actually saw a negative growth in January and February.
Not quite as negative as this year, but also negative. Same story this year or this past five months or six months, very strong fourth quarter consumption, weakness in Q1, Q2. There could be some seasonal adjustments that are also overstating the weakness we're seeing in consumer spending, just keeping that in mind.
The flip side is if you look at the income piece of the data, it was better than expected. Incomes are still rising steadily. Again, maybe some moderation on a year-over-year basis, but still, you're relatively strong.
We also saw an uptick in the savings rate. In February, it's up to 4.6%. For context, in the fourth quarter, average 3.7%.
If we look at the savings data, the spending patterns, where the income is, what it suggests is that consumers are being cautious because of this high uncertainty on policy, on the economy, not necessarily because they can't afford it if income growth is coming in, that people are just willing to dial back a little bit. The other thing that's critical to the economy is the state of the labor market. It has certainly been cooling over the past, well, frankly, couple of years, but there are a few signs of imminent cracking.
The initial jobless claims that come out every Thursday morning, they're hovering around 225,000. That's actually lower than the level it was for much of the second half of last year, so not a sign of real uptick. The announced job cuts, there's been a bit of a surge there in the challenger job cut announcements, but it seems to be skewed by the government cuts.
That's definitely jumped quite a bit. If you look at other sectors, it's not, in some cases, nothing out of the ordinary. Some of those cuts aren't in the U.S.
They could be abroad overall, so again, a little bit of inflection, but not really bad results. The key will be, does job growth continue to be strong because layoffs are low? That's why what we get on Friday for the March payrolls report is going to be critical.
The consensus forecast is around 140,000 down from about 150,000 in February. There's a pretty good relationship between where are jobless claims going into it, where are the prior months. All that would suggest, again, a number in the mid-150,000 range is kind of reasonable.
If that number comes in, it shows the economy is generating jobs, layoffs are low. If the labor market is solid, that supports ultimately consumer spending. It supports the economy.
It supports the job market. It's kind of a bit of a virtuous cycle. If you get crocks on either side, certainly that kind of creates downside risk, but as long as they hold up, I think the risk of a significant slowdown in the economy is somewhat limited overall.
So, in terms of what this means for the market outlook and positioning, I know last week, Jason, the chief investment office, did update the House view, so a good timing that you're joining us here this morning. What are some notable changes and key messages in focus within the latest House view? Well, the overall message, I'd say, is still largely the same.
We've been saying for a while, and we'll continue to expect that the markets are going to be volatile in the long term as investors navigate all this U.S. policy and economic uncertainty. Of course, this week, we have these two major kind of risk events with the tariffs and also jobs data. So, getting through that, at a minimum, it reduces some uncertainty.
At least tariffs might be high, but we know what they are, and you can start to calibrate and adapt accordingly. But ultimately, we kind of expect that the news flow from here will become more positive towards the second half of the year. On the economic fundamentals, what I just covered in terms of the consumer, the labor market, show that ultimately, the economy is relatively resilient.
As that happens, then the downside tail risks start to get truncated to the markets. If they're already pricing in a decent amount of slowdown, that allows them to move higher. But then also, policy, whether it is Trump 2.0 policies or monetary policy, should also inflect to be more supportive for financial markets, possibly before the end of the second quarter.
Now, in simple terms, there's a saying like, don't fight the Fed. If they're hiking, that's not great. If they're cutting, that's a tailwind.
Now, same thing from a Trump policy perspective, if the policies such as tariffs or cutting government spending are viewed as negatives near term for growth, it's hard to be overly constructive in the very near term. On the other hand, if they pivot to more growth-enhancing or growth-friendly policies, which I think they will want to do at some point, and perhaps soon, that, again, will be a tailwind for the markets. So you could say, when will the Trump and Fed puts be exercised?
And maybe more simply, when will you see policy pivot in a more friendly way? On the Fed, we still expect the Fed to cut twice this year, starting in June. This is very data-dependent.
It's very policy-dependent. There is some concern by investors that the Fed could perhaps be behind the curve, like they're going to be reactive to what tariff policy is, see how this impacts the economy, because they know tariffs will be inflationary. But if there's any signs of weakness in the labor market, we already saw last September the Fed was willing to be aggressive with a 50-basis point cut on the side of some labor market last summer.
So I think the Fed could move and probably would move fairly quickly if they see the labor market weakening. And on that front, I think you get the administration then, again, would probably try to pivot more towards some growth-friendly policies, perhaps dial down what's happening on the trade front. If you get those inflections just in the direction of policy, that alone would be favorable for the markets.
When it's going to happen, it's hard to predict. But it's somewhat contingent on the economic data, but a good chance it happens, certainly by the summer, maybe as soon as the end of the second quarter. When that happens, that is ultimately, I think, favorable for financial markets overall, for equities overall.
And as policy uncertainty is at a peak right now, it does not stay at this level persistently. At some point, you kind of get clarity of what the policy is. As that declines, volatility tends to decline, and that's generally kind of supportive for risk assets overall, which is why when we have some of the key messages in focus, one of them is take advantage of U.S. volatility.
And by that, I mean if you get pullbacks, phase into the markets, kind of buy these dips because ultimately, we do think after this kind of volatility plays out that the fundamental story for U.S. stocks, for the tech stocks that have been hit quite hard, the fundamentals for AI are still very much kind of in place. So use these market swings not as a kind of sell the rally, but more as a kind of buy the dip in terms of ad exposure. Kind of related to that, a lot of interest certainly in international markets that have outperformed the U.S.
But we think a lot of that sort of good news, whether it is on policy pivots and fiscal policy in Germany, potential ceasefire in Ukraine, the China kind of internet development news on AI-related stories, a lot of it is already kind of priced in versus the U.S. is a fair amount of pessimism. So typically when that happens, that's actually you get some reversals in that. So we'd be cautious on, we'd be selective on Europe.
We look at Europe as kind of six different ways, especially ways that are not going to be tariff sensitive because it's unlikely that we don't think that European equities are really fully pricing in the consequences of higher tariffs on Europe. Thinking about other parts of the asset classes, you're navigating political risks and we've seen gold be a very good hedge and we think it will continue to be a good diversifier and hedge in this uncertain political environment. And then on fixed income, kind of seek durable income, given there's kind of these growth concerns out there, credit spreads still remain relatively tight.
If there's downside risk, there's a significant reason for spreads to widen. So stay up in quality overall, higher quality fixed income, whether it's treasuries, higher quality investment grade corporate bonds, agency MBS, things that again would be a little more immune to some of the economic weakness. And if we're right about sort of things will get a little bit better as the year goes on, interest rates, you know, given where the 10-year is, could easily kind of move higher.
So not so suggesting taking a lot of interest rate risk at this time, sticking more at the intermediate part of the curve, like the five to seven-year point. Given that if rates back up, then of course you're more exposed from that perspective. Well, Jason, thank you for keeping our listeners, our clients current on CIO's thinking when it comes to the market outlook, positioning recommendations, as we spoke about, it will be a very busy few days ahead.
So it will give us, of course, a lot to talk about during our next conversation next Monday, though. Thank you, Jason, for previewing what will be a very busy week for the markets and look forward to picking back up with our conversation next week. You're welcome.
Have a great week. Likewise, Jason. Thank you again.
Today we have been speaking with Jason Draho, the head of asset allocation for the Americas with the UBS chief investment office. Again, I do want to highlight Jason's blog, which we have been making reference to during our conversation today. Title is From Uncertainty to Risk.
This along with the latest UBS Houseview Investment Strategy Guide, the Houseview monthly update can now be located up on UBS.com forward slash CIO. From UBS studios, I'm Dan Cassidy. Thank you for joining us.
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