The incredible bull market continues, with the S&P 500 closing at a new all-time high each day last week. November 2021 was the last time we saw that usual feat. For the year, the S&P 500 is now up 8.6%, a long, long way from down 15% back in early April. We remain optimistic that this bull market is alive and well, but be aware August is right around the corner and this is one month that tends to be volatile and historically has seen some scary events appear out of the blue.
Remember last year? We had something called the ‘yen carry-trade unwind’ grip global markets in early August and we saw massive selling for three days. Who knows what this year may bring, but be ready for some potential late summer volatility.
This Year Is Normal, Which Is Bullish
With the S&P 500 up nearly 9% so far in 2025, we’re already at about your average year, as the average since 1950 has been up 9.5%. But here’s the interesting catch—there is no such thing as average when it comes to investing.
Incredibly, the S&P 500 has gained 8–10% for the year only four times the past 75 years! Digging in more, stocks have gained more than 20% 22 times and been lower only 21 times, suggesting the odds of a 20%+ gain are higher than of having a down year. We are asking ourselves, do we really think stocks will stick around average this year? We don’t and this is another way of showing why higher prices are likely before 2025 is over.
Two More Bullish Things To Know
We keep hearing how market breadth is weak, but this simply isn’t true. To see new highs from technology, financials, and industrials is a great sign. Then toss in that various global stock markets are hitting new highs and this is a very broad-based global bull market. Sure, some sectors and groups are lagging (like healthcare and consumer discretionary), but that happens every year. We don’t quite understand where the media obsession with weak breadth is coming from, but you don’t need to worry about it.
The S&P 500 equal weight index just made new highs, another healthy sign. Many claim that only large cap stocks are going higher, but this index isn’t cap weighted (all stocks count the same), so it shows this rally is anything but top heavy.
Lastly, the S&P 500 has closed above its 20-day moving average for more than 60 consecutive days, another rare and bullish development. Stocks have never been lower three months later after this has occurred and over the past 50 years we’ve seen gains of 20%–26% a year later. Add this to the growing reasons to expect this bull market to continue.
The Trade War Is Over
The trade war is over. There may be more tariffs to come, especially a few large tariffs on August on a bunch of countries (50% for Brazil!), plus sectoral tariffs on things like copper, pharmaceuticals, semiconductor chips, and electronics. But even those may be postponed (in fact, pharma tariffs may actually be pushed out to 2027). Yet the latest trade deal with Japan is quite telling with respect to the direction of the administration’s trade policies, more so than the deals with the UK, Vietnam, and Indonesia.
The shape of the deal tells us that the administration wants to close deals sooner rather than later and be done with all the trade chaos. (We received further confirmation of this over the weekend with a trade deal announced with the European Union and a 90-day extension of the tariff pause with China.) The best way to get there is to lower the tariff rate from Liberation Day rates (with a floor of about 15%), while securing commitments for investment in the US, and/or cutting some export deals. In fact, the US appears to be pursuing this same strategy with China too. The tone has softened a lot in those negotiations, and in addition to the extension of the August 12 deadline, the US is now allowing Nvidia to sell its less advanced H20 chips in China once again.
Deals with Japan, China, and the EU, along with Canada and Mexico, are in the books or progressing, and that pretty much covers 80–85% of US trade. In other words, we’re done with the trade war.
Eighth Time Is the Charm with Japan
It’s taken a while for the US and Japan to reach a deal, with the Japanese side slow-walking things. Ultimately, it took eight rounds of talks to get a deal, with President Trump coming in to close. Things were barreling toward the August 1 deadline, and assuming no “TACOs,” Japan was facing a big increase in tariff rates. The US was probably feeling some pressure too to avoid yet another deadline pushed further out. The final details are yet to be hashed out, but here’s a broad outline.
What the US got was broader market access for American rice and cars. American cars will be built to US safety standards, rather than being subject to additional requirements. Japanese tariffs on US vehicles will be zero (though it was zero already).
Japan also apparently committed to $550 billion in investments in the US, although there’s not much clarity about what exactly it’s going to be invested in and what the timeline is. We’ll have to wait for final terms. The White House says that the funds will be spent at Trump’s discretion, which makes things even less clear since there’s going to be a question of how exactly it’s going to be structured (presumably, Japan would want a say too). On the other hand, the Japanese side says they’ll guarantee loans on investments up to $550 billion in areas relevant to their national security, including semiconductors, steel, shipbuilding, aviation, energy, and AI.
What the Japanese got was basically tariff “relief” with a 15% tariff rate on exports to the US. This is especially big for autos. Japanese vehicles currently face a 2.5% tariff when exporting passenger cars to the US, and a 25% tariff on light trucks (like SUVs) and commercial vans. But that was slated to go up by another 25% with the administration’s special sectoral tariffs on autos. Instead, Japanese vehicles will face a 15% import duty, a very good outcome for Japanese auto manufacturers given what they were facing. Meanwhile, US automakers still face a slew of tariffs on various inputs, including steel, aluminum, copper, and non-compliant USMCA goods (which amount to over 50% of imported goods from Canada and Mexico).
The Japanese ultimately ended up with more tariffs than before all this started, but a 15% tariff rate is far from the worst case, especially relative to the announced Liberation Day reciprocal tariffs. And all things considered, their automakers have come out in good shape—there’s a reason why Toyota’s stock surged 16% and Honda almost +12% on news of the deal.
The Nikkei 225 soared 5.5% after the deal was announced, powered by the automakers, and underlining what a relief this deal was for investors in Japanese stocks. In fact, the Nikkei is once again knocking on the door of all-time highs, hopefully putting any major threats to its 36-year recovery (since the 1989 highs) firmly in the rear-view mirror.
What Did the US Get Out of the Trade War?
This is the big question. The war may be over but there are consequences, and a bit of a hangover. After all, we do have more tariffs than at the start of the year, including 50% tariffs on steel, aluminum, and copper (upcoming).
We thought it’d be useful to recap some of the original rationale(s) for imposing tariffs and use these to assess what the US got out of all this.
- Reshore manufacturing and shrink the trade deficit. To be clear, this would work via tariffs raising prices on imported goods, and so Americans would “buy American.” These goods would be more expensive than before but not as much as imported goods given the big tariff costs.
- Raise revenue. The cost of imports rise thanks to huge tariffs, filling government coffers. But this assumes that Americans continue buying imports without substitution.
- Level the playing field. Have other countries reduce trade barriers, boosting US exports and shrinking the trade deficit (even as US imports continue as before).
One concrete thing the US is getting is tariff revenue, to the tune of $100–$200 billion per year additional revenue from new import duties. That is not nothing, as it adds up to about $1–$2 trillion in additional revenue over 10 years. That offsets some of the cost of the $3.4 trillion tax bill that Trump signed into law on July 4 (the cost will balloon to $4.7 trillion if temporary provisions are made permanent). The original claim was that tariffs would bring in about $700 billion of revenue per year, more than offsetting the cost of the tax cuts over the next decade.
At the same time, more tariff revenue means higher prices for goods. After all, someone is paying the tariffs, and it looks like the brunt of it is falling on consumers, rather than foreign exporters or even US businesses. However, the price increases are likely to be a one-time event, which is not a bad thing, although it could show up in inflation data over several months because of how things are measured and how and when companies choose to push costs to consumers. Also, the price increases are not expected to be significant given the level of tariffs we appear to be settling at, or at least nothing like what we saw in 2022 amid the supply chain crisis. But it also means there’s not much incentive for Americans to substitute purchases away from imported goods to American goods. So, imports are unlikely to fall significantly (unless we go into a recession and demand falls, reducing imports).
In short, we don’t expect much reshoring because of tariffs. All in all, the tariff rate is not high enough to make a big impact one way or the other, whether to offset the cost of tax cuts or incentivize reshoring of manufacturing, but it’s high enough that consumers will feel it in prices. At least temporarily.
There have been announcements of new investments intended to be made by foreigners here in the US, including Japan and the EU but also from the Middle East. The timeline is very unclear, and the devil will be in the details. But here’s the thing—if more capital is flowing into the US, that means the current account deficit (which is mostly the trade deficit) is increasing. There are no two ways around it, as it’s a national accounting identity. The current account deficit is the opposite of the capital account surplus. If there’s more fixed direct investment (FDI) flowing into the US, that means the trade deficit is likely getting larger, not smaller.
With respect to leveling the playing field, tariffs and non-tariff barriers were never really a problem for US exporters. In fact, US companies that want to sell products abroad make those products abroad (like iPhones, drugs, and even cars). Crucially, the profits actually accrue to the benefit of shareholders in the US (though not taxes on these profits, thanks to profit shifting).
As an example, American auto makers are not going to make a car in the US and export it to Japan, especially with metal tariffs of 50%. Non-tariff barriers like safety standards are not especially cumbersome to get around if an automaker wanted to. European automakers do it all the time when exporting their vehicles to Japan. Also, most Japanese prefer smaller and more fuel-efficient vehicles (gas prices are much higher in Japan), rather than light vehicle trucks (SUVs, minivans) that US automakers mostly manufacture here in the US. Add to that, the US-made vehicles are left hand drive, whereas Japanese cars have their steering on the right. Finally, these large vehicles would hardly fit on Japanese streets—it’s not very appealing to do seven-point turns to make a U-turn, let alone finding parking for these relative behemoths.
As for emerging economies, they’re simply not wealthy enough to afford goods made in the US. The Vietnamese and Indonesians aren’t going to turn around and buy US-made goods, or if they do buy American goods, it’s going to be those that are manufactured abroad (and as I noted above, profits on these accrue to US shareholders).
The Real Hangover: Higher For Longer Rates
In our view, the main impact from the trade chaos of the last few months is that we have higher rates for longer. Fed Chair Jerome Powell himself admitted that they would already be cutting rates if not for tariffs. And given we’re starting to see some tariff impact in official inflation data, we may not see another rate cut until November or December.
There’s no question that rates are too high and policy is too tight. We’re seeing the adverse impact across the board, with the economy expected to grow just 1–2% in 2025, a far cry from the 2.5-3% expected at the start of the year:
- The labor market is still cooling, with aggregate income growth clocking in around 3% annualized in Q2 as payroll growth and wage growth eases.
- Prices for services like airfares and hotels are falling, indicating lower demand amid softer wage growth.
- Households are just about able to keep up with price increases and maintain current levels of spending, but consumption is not growing at the pace it was in 2023-2024.
- Housing is struggling amid the weight of high mortgage rates, with low activity and sales.
- Manufacturing is also struggling amid tariff uncertainty, along with higher costs for raw materials.
This doesn’t mean the economy is entering a recession, but there’s clearly a slowdown in place. Cyclical areas like housing and manufacturing are weak amid the weight of high interest rates and tariff hangover. On the other hand, one thing going for the economy right now is the AI build-out, which we’re seeing in high-tech and equipment manufacturing. That’s going to be a positive contributor to GDP (let alone profits for the big tech companies involved in these build-outs).
Coming back to tariffs, the average effective tariff rate is currently around 13%, about 10%-points higher than it was at the start of the year. Even though that’s high, that was pretty much the “best case” scenario for most analysts before Liberation Day. Goldman estimates that the average US effective tariff rate will rise to 19%, but that’s not expected until 2027. There’s a long way to go.
Given that the trade war is essentially over, and average tariff rates appear to be settling near the best-case scenario, it shouldn’t be a surprise that markets are hitting new highs, especially given the dominant AI theme right now. Earnings expectations are also rising as companies navigate around tariffs.
Real GDP running around 1–2% is not great, especially relative to the 2023–2024 pace of 3%, but the stock market surged in the 2010s amid below-trend economic growth. Of course, it was dominated by US large caps. But that may be the case once again over the next few years. One difference now may be that fiscal stimulus outside the US could boost international stocks, with a potential tailwind of a weaker dollar. As we discussed in our Midyear Market Outlook ’25, this is a big reason why we’re neutral weight international stocks in our tactical and strategic portfolios.
In the end, it looks like the trade war will be a net drag on the economy, but moving on does have the advantage of refocusing markets on some of the positives going on, which is part of what’s been driving the market rebound. And let’s face it, it’s usually a good thing when markets can start paying more attention to entrepreneurship and innovation and less attention to policy.
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