The tantrum over tariffs looks to have passed for now with the major market indexes up slightly so far this week. Event risk, particularly at weekends, is still in the minds of traders considering the uncertainty over the potential economic impact of tariffs. Investors don’t realize enough about Trump’s next action and how the Fed will react.

Policy uncertainty is not only having a negative impact on the investing community. Consumer confidence has eroded as evidenced by the Conference Board’s survey released last week. Recent labor department data this week showed 1.89 million continuing weekly unemployment insurance claims were made, near their highest level of the past three years. This suggests more Americans are remaining unemployed for longer and continuing to claim unemployment benefits.

The Fed recently confirmed it was in no hurry to cut interest rates further, even as it left the door open for further reductions. The position to maintain interest rates on hold is completely understandable considering progress on inflation has stalled. While the Fed has cut interest rates by 100 basis points since September, longer-term rates rose as bond investors positioned themselves to hedge against inflation risks. Broad equity indices seemingly stalled out despite a three-week decline in10-year Treasury yields which have fallen approximately 40 basis points since mid-January.  

A fall in long-term yields suggests that either risks of inflation have become subdued, or the risks of economic sluggishness are becoming more pronounced. It is evident that high interest rates have challenged residential construction and resale housing activity. Yet with the recent decline in the 10-year interest rates, home builders and building materials stocks have not participated in the market recovery this week. Consumer cyclicals, industrials, and energy have also lagged overall, pointing to a potential shift in near term market sentiment to the downside.

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