Data dependence
Incoming economic data takes on a more important role in light of the changing international trade environment, providing insight as to how large the adverse impact has been. There has been good news on this front of late with a strong rebound in US consumer confidence following the announcement of tariff pauses, although a fair amount of this can be attributed to pessimistic expectations being surpassed rather than a rosy outlook.
Survey-based indicators have been flashing warning signs for a while, but they were also sending negative signals for much of 2022-24, a period when a much-anticipated US recession failed to transpire. There is also a growing partisan bias to survey data, suggesting that responses may be swayed by political allegiances. Hard data, such as employment figures and consumer spending, is inherently slow to show weakness but until we see a significant softening in this area it is not clear that a worrisome slowdown is in place. Much like the tariff levels, there is a growing feeling that best- and worst-case scenarios will be avoided, and economies could muddle through with lower growth but avoiding recession.
Bonds dip
After a good showing in April, bonds moved lower in May due to delayed interest rate cut expectations, and the re-emergence of fiscal concerns. The market turmoil that followed Trump’s “liberation day” tariff announcements had seen derivatives markets price in lower base rates, in the expectation that central bankers would need to act to prop up faltering economies. Recent de-escalatory steps have seen this reverse, and the market is now positioned for a tighter Federal Reserve than it was before 2 April.
A broad-based gilt index returned -1.4% in May, with longer-dated (Gilt 15year+: -2.5%) and inflation-linked (-2.3%) underperforming. While equity investors welcomed the tariff de-escalation bond markets were less enthused by the lower potential revenue generated and also Trump’s “big, beautiful” tax bill passing through the House of Representatives. The bill is expected to increase the budget deficit and has drawn criticism from Elon Musk, who says it undermines the work done by his government cost-cutting team.
A weak US Treasury auction served as a market warning to the US fiscal position just days after Moody’s stripped the US of its triple-A credit rating on concerns over rising debts and deficits. There are similar concerns elsewhere, with Japanese bonds attracting attention after 30-year yields surged to an all-time high following a 20-year Japanese Government Bond (JGB) auction attracting the softest demand at any sale since 2012. This led to officials discussing the possibility of trimming issuance of long-dated bonds in a move that would limit yields, with reports of similar discussions underway at the UK’s Debt Management Office. The Bank of Japan (BoJ) owns around half of the country’s sovereign debt and its scaling back of purchases will weaken demand. Also, Japan has a debt-to-GDP ratio of approximately 250% (for context the UK is under 100%), and there is the potential for negative developments that could reverberate further afield
Welcome UK growth pick-up
The UK economy grew faster than expected in the first quarter of 2025, with the 0.7% increase the highest GDP growth reading in a year. After successive quarters of meagre or no growth, the return to a respectable pace of expansion is a welcome development. The level of growth was comfortably higher than the equivalent readings in the Eurozone (0.3%) and US ( -0.1%). There was further good news on consumer spending, as UK retail sales rose 1.2% in April, beating consensus forecasts.
That said, one swallow does not make a summer and with heightened uncertainty surrounding global trade and an expected slowdown in the US there are challenges to the recent run of data. Furthermore, the UK unemployment rate rose to 4.5% in the three months through March and Bank of England rate setters have sounded more cautious on further cuts this year, given the persistent high levels of wage growth and recent rise in inflation.
Summary
Stock benchmarks have now fully recouped the weakness in April and moved higher, demonstrating impressive resilience despite increased tariffs and heightened uncertainty going forward. A higher expected path for interest rates and fiscal concerns have weighed on bonds but we believe they still offer good historical value at these levels and can provide ballast should the environment deteriorate. The pound has appreciated to its strongest level versus the US dollar since February 2022 (the month Russia invaded Ukraine and drove up inflation) and is up around 9% year-to-date. This has provided a headwind for UK investors in the US, but this would turn into a tailwind should the pound depreciate.
