How quickly we forget. In April, financial markets were in panic mode and I felt compelled to weigh in on the risks that tariffs posed to the economy and stock market. Fast forward 3+ months and it’s Taco Tuesday every day of the week. If you don’t get the reference that is a good sign, implying that you haven’t been buried in financial headlines and perhaps have been on summer holidays or otherwise joyfully or productively engaged. But, to get you up to speed, the TACO trade on Wall Street is short for “Trump Always Chickens Out.” In other words, financial markets are not really pricing in tariff threats because they think the worst of it is mostly talk. I find this to be overly sanguine, and misplaced. My take is that even if the highest tariffs are idle threats, or negotiating tactics if we are being charitable, the political risks remain elevated. Moreover, 10-25% tariffs are a dramatic departure from the near tariff-free past and will be felt by businesses and consumers. The fact that it hasn’t materially added to consumer price levels yet, is more likely a delay than economists collectively getting it all wrong.
I do think, however, that higher prices may not equate to inflation. Let me explain. Say you are in the market for a new car that is made in Europe, let’s use the BMW iX, as an example. That one is made in Bavaria, unlike say the X5, which is made in South Carolina. Because it is built in Germany, it is subject to a 27.5% import tax. So the base price goes from $87,000 to $111,000. Is that inflation? Some would argue “no” because in subsequent years there is no reason to expect additional price increases. It could be a one-time hit, much like a sales tax increase wouldn’t be considered inflationary. However, the person considering a purchase of the vehicle might not see it that way, as she has to dig deep in her pockets for an extra twenty four grand.
To be sure, the US consumer is not going to eat the full tariff. So who pays? To date, US businesses have taken a larger share of the hit than anticipated. This, along with delays and exemptions for certain imports, helps explain why we haven’t seen the full impact of tariffs yet. However, US businesses will ultimately act in their shareholders’ best interest and defend margin, which at some point will compel them to pass on the tariff costs to the consumer.
So what to make of it all? The markets have accepted the outcome, even if tariffs are at their highest level in almost 100 years. At least they are not Liberation-Day-crazy and haven’t completely upended global trade or triggered high inflation thus far. The US economy is resilient, possibly in an AI-fueled productivity boom, and possibly capable of absorbing what essentially is a stealth sales tax. For those anticipating an eventual return to the pre-tariff trade regime, don’t hold your breath. There is such a thing as policy entrenchment: once the government gets used to a certain source of revenue, it becomes very hard to reverse, even when the political winds change.
The Market Leaderboard
The top performing asset classes look very different from what we had grown accustomed to in recent years and it has benefited our clients, if only because we have contrarian instincts. Most often, contrarian thinking makes sense from a risk minimizing perspective, but it can be a headwind when past performance repeats; something that is not guaranteed but often expected. I do think this rotation has some staying power, as the newly crowned top performers have quite some catching up to do and remain very attractively valued. I am referring mostly to international stocks and global bonds. Gold, at the top of the leaderboard, has been on a tear for some time and its recent returns will be hard to sustain.
Could the US Default?
A question I have been asked repeatedly in recent client conversations is whether the US Government could default on its debt, making U.S. Treasuries less appealing as a low-risk investment. I do not believe the US will default on its debt for two reasons:
1. It does not have to. The US is in the enviable position of borrowing in the currency (dollar) that it prints. There is no technical need to ever default. When economists, politicians, and market pundits talk about unsustainable debt levels, there is some nuance that is often left out. High debt levels, paired with interest rates that are no longer rock-bottom, mean more of the federal budget needs to go debt servicing and that is unsustainable. However, the threat is not imminent default, but ever greater interest expenses. That is a problem for citizens, not necessarily for bond investors – though many are citizens too – unless interest rates go up.
2. Default would be self-assured destruction of our economy and an early retirement for government officials. If you go to bed at night without worrying whether the US will launch a nuclear weapon – though I imagine not everybody does – then you can also take debt default off your worry list. Interest rates would spike, credit would freeze, stock markets would plummet, and the US dollar would lose its reserve currency status. Not something any regime wants to happen on their watch.
However, with default off the table, there are still adverse consequences to ever more US sovereign debt, and to irresponsible chatter about not paying certain bondholders like China. It adds to the premium that investors want to get paid, in terms of higher rates, to buy all the supply of debt that is being issued. All this government spending could also prove inflationary, which the bond market hates, because their coupon payments in the future will be worth less.
So what is an investor to do? Personally, I like Treasuries at the moment, because at current rates they are already paying above inflation and if the Fed is cajoled or convinced to lower interest rates, bond prices will go up. Moreover, if all the uncertainty around tariffs leads to a recession, bonds will be a good place to have money. Longer term, it bears watching. Bonds are never “safe”: they fluctuate with interest rates, inflation, and supply/demand dynamics. In summary, there are several risk factors associated with bonds, but default risk, I believe, is not one of them.
A Headscratcher: Cleantech Edges out the Market
You wouldn’t think it, but so far this year, clean energy stocks have beaten the U.S. stock market, be it by only a hair. It is a headscratcher that I can’t quite square, considering all the actions taken by the current administration to put a spoke in the wheel of the clean energy industry:
- The One Big Beautiful Bill curtailed tax credit for wind, solar, and other renewable energy projects.
- Over $22 billion in clean energy investments were canceled in the first half of 2025 alone, including major EV and battery factory expansions.
- The declaration of a national energy emergency to prioritize fossil fuel development.
- A moratorium on offshore wind development and a permitting pause for solar and wind developments on federal lands.
- A Department of Justice order to challenge state-level climate policies and clean transportation programs.
- A redirection of Department of Energy funds from clean energy R&D to fossil fuel projects.
- Sunsetting of the $7,500 EV tax credit by September 30, 2025, rather than 12/31/2032 per the prior legislation.
Perhaps – and I am grasping at straws here – investors see past the next 3.5 years and assume a resumption of the trajectory that was in place until recently, with global investment in clean energy growing at an average annual rate of nearly 10% (source: Allied Market Research). Moreover, if the US is taking a sabbatical on the clean energy buildout front, this is not the case globally. China and Europe are full speed ahead and US companies can export, though they will lack the supportive industrial policy of their global peers.
Less of a headscratcher, is that oil is not doing well. The traditional energy sector, as measured by the SPDR Energy Select ETF (US: XLE), is up a mere 1.5% and that includes dividends. How does that make sense? An analogy that comes to mind is that of a primary school that abolishes its student handbook. If the principal eliminates all rules and standards, the kids might be very giddy. They no longer need to show up on time, they can enjoy unrestricted screentime, consume sweets in class at their leisure and no longer have to do homework, or classwork for that matter. The parents would be less thrilled, preferring their children be well prepared to be productive members of society and equipped to enter the workplace of the future. Similarly, oil company executives (the kids) might like a holiday from regulation, but the investors (the parents) would prefer oil companies are forward looking and invest for success in the inevitable energy transition.
Maybe the above analogy is farfetched, but there is another factor at play. Oil companies actually do not want to Drill Baby Drill and flood the market with cheap oil. They would like to produce up to the marginal cost of extraction – which arguably is a little lower with less regulation – keeping a close eye on demand so as not to flood the market and lower the price of oil. In other words, a friendly regulatory environment and subsidies are nice perks, but what drives profitability is demand and supply balancing at a price favorable to the oil companies.
Since summer is still in full swing, I would like to take a moment to debunk an investing myth associated with the season:” Sell in May and Go Away.” The idea is to stay out of the market during summer months. As it turns out, that would have been an enormously costly trading strategy over the long run. See the below chart that compares staying fully invested to “Sell in May and Go Away” from 1950 through June 2025. On that note, enjoy the Dog Days of Summer, which seem to start earlier every year!
Kindly,
Jan P. Schalkwijk, CFA
JPS Global Investments