As we get to the end of the week, risk sentiment is draining from markets. President Trump seems to have called time on trade negotiations before next Wednesday’s deadline and said that he will be sending letters out to 10 or 12 US trading partners, and that tariffs would range in value between 10% and 70%.
Tariff rates could exceed expectations
While Trump said that most countries would then be covered, the top rate of tariffs might be higher than what he set out on ‘Liberation Day’ on 2nd April. We don’t know which countries will receive a letter, or what tariff rates they will receive, but Trump said that the tariffs will come into effect on 1st August. The President said that a ‘couple’ of deals could be announced, but that his ‘inclination’ is to send letters out. This suggests that at this late stage he is willing to play hardball rather than negotiate.
We expect a deal with India to be announced before the 9th July deadline, but it seems unlikely that Japan will get a deal, and the silence around an EU deal is also weighing on investor sentiment.
US stocks set to continue to outperform Europe
The 4th July Independence Day holiday means that US equity and bond markets are closed today, and we expect markets to be quiet. However, a key theme is emerging as we lead up to the reinstatement of Trump’s reciprocal tariffs. As US equities hit record highs earlier this week, they have left European stocks behind. The Dow Jones is higher by more than 3% in the past 5 sessions, the S&P 500 by 2.2% and the Nasdaq by 2.1%. This compares with a 0.75% decline in the Eurostoxx 50 and a 0.05% decrease in the FTSE 100.
Tariff threats hurt key European sectors
While European stocks are selling off, there are some notable under performers. The weakest performers on the Europstoxx 50 on Friday include LVMH, European banks, ASML and some big European exporters like car maker Stellantis. The German Dax index is also coming under pressure with only 5 companies positing gains in their share prices on Friday. The weakest performers include Adidas, BASF and Siemens. German car makers are also under pressure. Volkswagen is lower by 1.6% and Porsche is also down 1.7%, suggesting that even luxury cars may not be able to withstand US tariffs. This is a clear sign that European equities are impacted by tariff fears, and they could remain under pressure until the market has digested what tariff rates have been set for the EU, and which sectors are most at risk.
UK fiscal risk premium set to keep yields elevated
European bond yields continue to fall on Friday. The contrasting economic fortunes between the US and Europe and the UK means that bond yields could move in opposite directions as we move into Q2. The UK bond market has not fully recovered from Wednesday’s sell-off. The 10-year yield is down 12 bps, but it is still 10 bps higher than it was earlier this week. The Labour government’s inability to cut public spending means that there could be a permanent risk premium attached to UK bonds. Especially as the Chancellor hinted that tax rises could be coming down the line.
FX view
The FX market is open today and trading as normal. So far, the dollar is mixed. The prospect of fewer rate cuts from the Fed after yesterday’s better than expected payrolls report has boosted the dollar, however, it is still down vs. the yen and the Franc, the euro is also higher as is the pound, which is continuing its decline. The issue for the pound is the fiscal risk premium attached to UK bonds, which could limit GBP upside in the medium term. GBP/USD may struggle to get back to the $1.3780 highs from earlier this week. The euro is also less impacted by tariff fears compared to stocks. EUR/USD has bounced off $1.1708 lows from Thursday and is now trading just below $1.18 at $1.1780. If we hear about EU tariff rates later today, we expect volatility in the euro, which could be at risk if the tariff rates are deemed negative for the Eurozone economy.
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