The roller coaster ride in global financial markets has continued this week as Trump’s policy vortex gets larger. Where it started off as simply an attempt to even the playing field and reduce fentanyl into the U.S., tariffs and retaliatory tariffs now seem to have an endless number of purposes, depending on the time of day one listens to the White House. Stocks would fall, then bounce on a tweet or leak of possible relaxation on measures, only to fall again when the White House would call “fake news” on the headline.  A week after Trump’s liberation day, we are now seeing the collateral damage that his policies have had, with economists raising the probability of recession and a risk-off sentiment spreading outside of equities to commodities and even U.S. bonds.

I view this as a new stage of uncertainty and one which may not so easily be reversed on the basis of a tweet. The above chart shows what is called the “World Uncertainty Index” and is put together by The Economist. It is a measure of global uncertainty and is calculated from text extractions (the word “uncertain” or variations of it) from country reports put together by The Economist.  As you can see, the index is now at its highest level since the pandemic and unless we believe that use of the word is going to decrease anytime soon, the index could push even higher.

This level of uncertainty has taken the conversation of a potential recession to a new territory – that of a more permanent restructuring of the global economy and trade system.  Some commentators have said that globalization is dead, but I disagree.  The self-inflicted damage on the U.S. by Trump’s policies are more likely to reorient a new global order of quasi free trade away from America. This is still a lower probability than recession, but it is influencing how investors see the U.S.

As much as the declines in U.S. equity valuations has been significant, it is the correction in U.S. bonds that is getting the focus today. We usually think of investors moving money from risk assets to the safety of bonds and that has in fact been the case this year as market participants grappled with Trump’s trade policies. As U.S. stocks slumped, the 10yr treasury yield tumbled from 4.8% at the start of the year to 4% last Friday.  This morning, that yield spiked to north of 4.4% and the 30yr yield went from just below 4.4% to 4.9%. This is order of magnitude is huge and represents a sizable hit to a bond portfolio.

The main catalyst for the sell-off is still unclear. It is possible that hedge funds, being faced with margin calls because of portfolio losses, are being forced to liquidate not only stocks but bonds too in order to meet those calls. The other problem is that because yields on bonds are still relatively low, it requires leverage to generate significant returns. That means funds will borrow in order to purchase treasury notes and then those notes are used as collateral.  When the price of the note goes down, it can force the unwinding of such spreads. One reflection of this is the so-called 10yr SOFR spread, which this morning went negative to the tune of four standard deviations.

The other suggestion being kicked around is that foreign countries that are being targeted by Trump’s tariffs are pulling back on their purchases of U.S. treasuries and may even be selling. As we know, the higher U.S. bonds yields go, the more expensive it becomes for business and consumers to borrow, which potentially could have a negative impact on growth. All of this on a day when the U.S. treasury is auctioning off $39 billion in 10yr bonds and on the doorstep of tomorrow’s $22 billion 30yr auction.

Other countries have also seen their bond markets impacted.  The UK 30yr gilt yield rose to the highest level since 1998 and Japan’s 30yr bond rose to a 21-year high. Japan has said that it is coordinating with the IMF to restore stability to the market, but one silver lining is that the UK’s auction of 30yr paper was actually well received, suggesting that investors in that market are not in panic mode. For Canada, we have also seen longer-term bond yields rise, but this is not as severe as what is taking place south of the border. Our 10yr yield has risen from just below 2.9% last week to around 3.20%. 

At the time of writing, Trump had announced his 90-day pause to tariffs (curiously reflecting the "fake news" headline of the other day), while also imposing 125% tariffs on China in retaliation for China's announced 84% tariffs last night, which was in retaliation to the ridiculous 104% tariffs imposed by Trump on Tuesday.  Volatility had also calmed down from this morning’s highs, stocks rebounded and bonds also recovered some ground. Still, there will be few portfolio managers betting the farm that this rally will stick for any prolonged period of time. 

We still believe that the best strategy for long-term investors is to remain diversified and not overreact to the high frequency headlines.  Central banks have had a lot of practice in dealing with dislocations in both equity and fixed income markets and have tools at had to stabilize things, if necessary. That being said, the increased uncertainty over the economic outlook cannot be dismissed and may call for some additional defensive measures to be put in place.

On behalf of the Pyle Wealth Advisory team, have a rest of the week.

Andrew Pyle