Insights and Strategies
Liberation Day Tariff Package Hits Hard Around the World
Macro Highlights for March
- The Canadian economy was stronger than expected through 4Q24 and into the start of 1Q25. January was helped by the GST/HST tax holiday and advanced ordering from U.S. manufacturers front-running tariffs that will likely lead to 1Q25 GDP growth in the 1.8% range. However, uncertainty driven by U.S. tariffs and overall long-term trade expectations will likely lead to growth slowing through the remainder of 2025. Despite a slight bump up to 2.6% CPI inflation in February, we remain within the 1-3% comfort band.
- In the U.S., the current tariff plan would put the average effective tariff rate at over 20%, and if maintained for an extended period, could increase the likelihood of a recession, but for now our U.S. economics team is currently expecting 1.8% growth for 2025. A lot will depend on how permanent these tariffs are, and what kind of rate relief comes from negotiations in the coming days and weeks. The rule of thumb is that a 10% increase in the effective tariff rate would lead to a 1% decrease in the GDP growth rate and 1% increase in the inflation rate. Inflation had been slowly decreasing towards the Fed’s 2% target, although the risk if now towards a re-acceleration upwards.
- The Bank of Canada (BoC) reduced its policy rate to 2.75% on March 12, in large part due to the uncertainty and risk of tariffs on the economy. The Federal Reserve (Fed) held its policy rate at 4.50%, as expected, in its March 19 announcement.
Financial Markets in March
- In March, the TSX Composite, Canada's main stock market index, recorded a -1.9% price return and -1.5% total return. Meanwhile, the U.S. large-cap benchmark, the S&P 500, saw a decline of 5.8% in price return and 5.6% in total return, all in local currency. YTD total returns to March 31, were +1.5% for the TSX Composite and -4.3% for the S&P 500.
- U.S. markets have been particularly hard hit by the tariff uncertainty so far this year, with a further decline the day following the April 2 announcement, of 4.8% on the S&P 500, while the TSX Composite was down 3.8% on the same day. While we have been expecting earnings growth to support equity markets in 2025, towards a 6,375 target on the S&P 500 and 26,300 target on the TSX Composite, the prolonged application of tariffs as laid out on April 2 could impact those assumptions.
- Top Canadian sectors in 1Q25 were Materials (with half the sector exposed to gold, which generally benefits from uncertainty), Utilities (as a defensive play with minimal exposure to tariffs), and Energy. The weakest sectors included Information Technology (with cooling enthusiasm around A.I. and rotation to more defensive sectors), Industrials (with significantly exposure to tariffs from transportation/intermodal, equipment supplies and distribution, automotive, and manufacturing, although front-loading of orders in 1Q25 is expected to boost immediate sales and earnings), and Real Estate (which could be under pressure from slower economic growth and potentially declining population).
Upcoming
- The Bank of Canada’s April Monetary Policy report on April 16 is expected to provide additional clarity on economic impacts of tariffs and retaliatory tariffs, and the potential path for policy rates. We are expecting 25 bp rate cuts at the next two meetings on April 16 and June 4, bringing the BoC policy rate down to 2.25%.
- Our U.S. team expects three rate cuts from the Federal Reserve in 2025, to end the year at 3.75%. The Fed's decisions will be complicated by slowing growth and a likely rise in the unemployment rate over the intermediate term, which should lead to more or faster rate cuts. However, the expected boost in inflation due to the spiked tariff rates, which may appear first in the economy, should result in the Fed holding rates steady at least for the next meeting.
- As we soon start 1Q25 earnings season, we will be watching for forward-looking commentary and guidance from companies that might be most impacted by rising input costs, and those with export markets that might be impacted by retaliatory tariffs. With a weaker U.S. economy and margin compression from higher costs to U.S. companies, we could see the S&P 500 EPS forecast moving down to the US$250-255 level, from our current US$265 estimate. Our S&P 500 target could be faced with a decline of ~9% to 5,800. We will have a better idea about the longevity of these tariffs over the next days and weeks, although given the U.S. administration’s goals of generating extra government revenue and enticing companies to commit to multi-year projects to move manufacturing operations, the initial intent seems to be that these will be effectively permanent, but with room for negotiation as to the rates. We will similarly weigh adjustments to our TSX target as the longevity and breadth of tariffs become more certain, and as we consider the potential impact to the Canadian economy from a slowing U.S. economy, which could become clearer with the BoC’s updated analysis in its April 16 report.
