EQUITIES COMMENT – “TARIFFS JEOPARDIZE 2025 PROSPECTS FOR STOCKS

Tariffs and Stock Market Performance Normally, we limit the performance portion of this report to the most recent quarter.  However, given the dramatic events and movements in stocks since March 31, 2025, we are including a year to date graph of the TSX Composite and S&P 500.  You can see that both Canadian and U.S. stocks were up until the middle of February.  As tariff talk became tougher, stocks reacted negatively.  On February 13th, Trump announced a plan to impose “reciprocal” tariffs whereby U.S. tariffs would be matched to the rates other countries charge on imports.  Concerns grew that global businesses could be severely impacted.  Given the flip flopping on trade policy by the U.S. president up until that time (postponing tariffs, providing exemptions), the likelihood of damaging tariffs was considered fairly low.  Markets recovered some losses by the end of the quarter with the TSX posting a gain of 1.5% (including dividends) and the S&P 500 losing 4.2% (in Canadian dollar terms).  

The April 2, 2025 announcement about reciprocal tariffs shocked markets.   The tariffs were much higher than expected.   Since the end of March, the S&P 500 is down 9.8% and the TSX is off 8% not including dividends.  Stocks have given up most of the gains earned in the past year.

Tariffs and Sector Returns The threat of tariffs did not have a significant impact on the TSX Composite during the quarter.  As we pointed out in our Special Report, “Tariffs Impact on Canadian Equities”, there is limited representation of steel, aluminum, forestry and auto parts companies in the TSX. Gold stocks powered the Materials sector to a 20% gain.   The price of gold rose as investors moved money into the perceived “safe haven”.    In the U.S., Energy had the best return.  Technology had negative returns in both markets.  This was partly due to the Chinese firm, DeepSeek, announcing that it had developed a low cost Artificial Intelligence model.   This raised questions about the top American firms’ dominance in AI.  At this point, there is still ample skepticism about DeepSeek’s claims.  Sectors that held up during the quarter due to their “defensive” characteristics included Utilities and Consumer Staples. U.S.  Discretionary and Communications sectors were pressured by weakness in their “Tech like” constituents such as Amazon and Google.

Tariffs and the Economy Stocks are reflecting concerns that tariffs will hurt the global economy.  Already, trade policy uncertainty has damaged consumer, business and investor confidence.  This, along with the inflationary impact of tariffs, will likely result in consumers and businesses cutting back on their spending.  The risk of a recession has increased significantly since the start of the year.  Still to be determined is how long tariffs will be in effect (the shorter the better for the economy) and if reductions can be negotiated (the lower the better).  It was generally expected Trump would not push tariffs to the point where they damage U.S. growth however, if left as they are, they will.  Consumers, the most important part of the economy, are in good shape now.  Unemployment has increased but remains low and wages are increasing faster than inflation.  Both unemployment and inflation are likely to rise if current tariffs remain in place.  Bottom line:  a recession in 2025 is likely if U.S. tariffs do not decline or get eliminated.

Tariffs and Corporate Profits At the end of the quarter, earnings were forecast to increase 11% for the TSX and 12% for the S&P 500 in 2025.  We now expect these numbers to be revised down materially unless there is a change for the better in U.S. trade policy.  Tariffs are expected to hurt corporate profits.  For companies that import goods to produce their products, they will now have to pay tariffs which will raise the cost of production.  One example is Apple; a lot of the iPhone components are made in China.   Some companies will be able to pass on the higher cost of running their businesses to consumers without hurting sales.  However, others will have to absorb some of the costs to maintain sales.  Should tariffs push the North American and/or global economy into a recession, corporate profits would be even more negatively affected.

Tariffs and Monetary Policy Normally, central banks provide support to the economy before and during a recession by lowering interest rates.  We expect the Bank of Canada will continue reducing rates because our inflation rate is near the 2% target. In the U.S., inflation has still not reached the 2% target.  Because the U.S. will be feeling the impact of wide-ranging tariffs, inflation there will rise.  This is expected to force the Federal Reserve to wait until there are clear signs growth is faltering before cutting rates. Aggressive action by the Federal Reserve could save the economy but at this time, is viewed as unlikely.   Lower interest rates would benefit corporate profits and stock valuations.

Tariffs and Stock Valuations   Price to earnings ratios (p/e multiples) for stocks have declined with the recent selloff in stocks.  The multiple for the TSX still looks very attractive and is now below the forty year average.   The S&P 500 p/e has also come down.  It is in line with the five year average but remains higher than longer term historical levels.  We attribute this to two factors: 1. the high proportion of Technology related stocks with rapid growth that now make up the S&P 500 and 2. the above average profitability of S&P 500 companies that is due to low taxes and immense economies of scale.  

Our targets of 26,500 for the TSX and 6,400 for the S&P 500 in 2025 now look optimistic.  However, given the fact that trade policy could change in the next weeks or months, we are going to maintain them for now.  As well, Trump’s pro-business policies have yet to be implemented.  Extension of tax cuts and reduced regulations would be positive for corporate America.

Tariffs and Politics – One of the good things that has happened in 2025 is Trump’s trade policy has forged a bond among Canadians and the provincial governments.  Canada has long been plagued by poor productivity which is a very important component of economic growth.  Eliminating provincial trade barriers and reducing red tape to get investment projects approved by regulators and governments would have a positive impact on growth. 

What about south of the border?  Let’s not forget that 2026 will bring midterm elections.  Campaigning will start a year from now.  The Republicans have a slim majority.  If the U.S. economy experiences a recession, it is unlikely they would retain power.  A significant increase in inflation could also derail their re-election chances, especially because lowering inflation was one of Trump’s key campaign promises.

2025 is off to a rocky start for investors thanks to U.S. tariffs.    We had been expecting markets to be more volatile this year due to uncertainty surrounding Trump’s policies and the response to them.  Markets are now experiencing a correction, also not a surprise given the gains over the prior two years.  The speed and depth of the correction has been unexpected.    We believe that opportunities are developing to add quality investments at discounted prices for investors with longer term time horizons.