Global Asset Markets Are Priced For ‘Goldilocks’, Not Chaos
Tariffs as a policy tool are back as President Trump is using the threat of a 10% levy on those countries that stand in the way of his ambitions for the U.S. to own and control mineral-rich Greenland, which is also situated in a critically strategic region of the Arctic. This tariff target would hit virtually all major NATO members and would take the total tariff rate for these regions up to 25% for the part of the world that exports the most to the U.S. by a country mile. If nothing changes, these tariffs would begin on February 1st. Of course, equity investors are hoping for an ‘Art of the Deal’ or ‘TACO’ (depending on one’s perspective) course correction before this deadline is reached. Given recent history, it’s not a bad view to take.
So far, Denmark, Norway, Sweden, France, Germany, the U.K., the Netherlands, and Finland have been targeted (France is very likely next, as President Macron backs Europe implementing ‘The Anti-Coercion Instrument Act’ and declining Trump’s invitation to join his ‘Board of Peace’). Furthermore, European Union lawmakers are likely to halt approval of the EU's trade deal with the U.S. because of this latest round of Trump-induced trade tensions.
The question on everyone’s mind is how far is Trump willing to push this fixation with acquiring Greenland? Following ‘Liberation Day’ last April, it was the bond market and a nearly 15% decline in the S&P 500 that applied the pressure to this administration to back off – I have my doubts that the strike price is as low this time around. Given today’s market reaction (stocks down roughly 2%, gold up 4%, 10-year yields +6 basis points, and the dollar down 0.7%) I’d say markets believe that President Trump is bluffing on Greenland and is only working to secure a “deal”. After all, if there is one thing we know about the Europeans, it is that they are quite capable, as they have shown, of backing down in their confrontations with President Trump, and he knows that.
Complicating the analysis of investors attempting to handicap Trump’s authority to impose tariffs as leverage in this pursuit of Greenland is the Supreme Court decision (which could come down any day now) on the post-Liberation Day tariffs. We shall learn soon enough if all the upending tariff war this past year was all for naught, given how the President leaned on the International Emergency Economic Powers Act to justify these trade actions. Sure, there are other paths this administration can and will take to carryout their tariff ambitions, but they aren’t as clean or powerful.
As for markets, the biggest move catching investors' attention is not in equities or even precious metals, but rather in the Japanese bond market, where the 30-year yield has soared +27 basis points to 3.85%. Japan’s super-long 40-year bond yield has pierced the 4.0% threshold for the first time since its debut in 2007. The move in JGB yields isn’t driven by tariffs or geopolitics, but rather the credibility of Japanese fiscal policy. Since Japan’s recently elected Prime Minister Sanae Takaichi took office in October, longer-term interest rates have jumped +80 basis points, with obvious spillover effects across the globe. This relentless melt-up in JGB yields is applying upward pressure to yields across the globe. The yield on 10-year T-notes was up as much as +6 basis points this morning (4.29%) as rates are clearly breaking out of a two-year trading range (the long Treasury bond yield has spiked +9 basis points and is making a run back to 5%). Should this breakout persist, it will put pressure on the stock market's ability to continue to gravitate higher.
Speaking of stocks, the S&P 500 is marking a notable reversal today as it comes off the top of a nearly four-month trading range and is now breaking below the short-term trend line. Zooming out, the market still lacks a clear medium-term trend, with the price sitting right on the 50-day and RSI suddenly at its most oversold since the December shakeout. The 6,800 level is a key level to watch as to whether it holds or is sustainably broken through to the downside. The latter scenario is much more problematic for those of us in the bull camp, although the 6,600 level is a much more important line in the sand for technicians.
It's a similar picture for the NASDAQ, which has broken below the wedge-like formation it was forming and is now well under the 50-day, tagging the 100-day as of writing. With the 50-day starting to slope lower, the setup isn’t great; near-term support sits at 24,800.
To be fair, one day doesn’t make a trend, but I’m not just talking about one day. In a rather quick fashion, what seemed like a stock market broadening out has now become pretty thin in terms of leadership. Last week, the large money center and Wall St. banks reported solid earnings results, yet the price action was decisively to the downside. Health Care and Consumer Discretionary stocks are showing very little life. The Rail and Trucking stocks look sick, while the Airline stocks look toppy. Outside of Semiconductors, Tech and Communication Services have been considerably weak to kick off the year. AI very well is a long-tale investable theme, but it doesn’t mean it won’t go through intermittent periods of uncomfortable drawdowns.
That leaves investors seeking opportunities in the Metals, Energy, Defense, and Consumer Staples sectors, which have performed well in recent months. As for the Magnificent 7, they are now down to the Terrific Two, with only Alphabet and Amazon outperforming the S&P 500 year-to-date. The correlation within the group has broken down, and all they have in common now is that they command trillion-dollar-plus market caps.
With increased geopolitical chaos, the biggest risk to equities is their rich valuations, and the same goes for credit spreads. Investment-grade corporate bond spreads are trading at a razor-thin 84 basis points, and high yield spreads drum-tight at just 243 basis points. This is as clear (or complacent) a signal as you’ll get from credit markets that perfection is priced in – virtually a 0% chance of a recession at these levels. The same goes for stocks, with the S&P 500 trading at a forward P/E multiple of 22x on an earnings estimate that is penciling in +12% YoY EPS growth. I wouldn’t say that’s bubbly, but it’s a valuation stocks command when everything is going right and expected to stay that way. I know small caps have become a consensus darling at the start of the year, but the low-quality Russell 2000 index, while making new all-time highs, trading at a sky-high 38x multiple worries me.
And while I think foreign equity markets continue to be deserving of investors having some capital allocated to them, it’s not as though equities around the globe are trading at a valuation discount. The chart below from FactSet plots the forward P/E multiple across different regions of the world using data from the last 20 years, where every region is trading at a forward P/E above its 20-year median and interquartile range.
Keep in the back of your mind that as the world pivots from a unipolar to a multipolar world, there will be casualties. A pivot in U.S. policy away from Pax Americana should and will prompt leaders of both U.S. allies and enemies to adjust. For instance, an attempt from this administration to close the trade deficit, onshore industrial policy, shore up the western hemisphere while walking back support for allies not in the western hemisphere, demand NATO (Europe in particular) to increase defense spending (a security blanket the U.S. military industrial complex used to provide)… all risks upsetting the U.S. exceptionalism trade that caused a dominant share of global capital flows to find their way into U.S. markets over the past two decades. The charts below from BofA’s Chief Strategist, Michael Hartnett, plotting the degree to which U.S. equities have outperformed global equities (left chart) and inflows into U.S. equities relative to international stocks since 2020 showcase the vulnerability of U.S. asset prices should flows reverse, for whatever reason.
Bottomline, risk assets are priced for a ‘goldilocks’ environment at a time when general economic policy uncertainty, while off the boil, is still more than three times as high as the historical norm. Uncertainty is higher than it was at the peak of the Tech wreck in 2000, the 9/11 terrorist attacks the following year, and the 2008-2009 Global Financial Crisis. Given where sentiment survey readings are tracking, it's hard not to conclude that investors have built in a pervasive Trump put, with most investors all in on the risk-on trade. Institutional portfolio managers have run down their cash ratios to all-time lows, while the retail investor has plowed so much money into equity-based ETFs to kick off the year that January is running at five times its typical average – over $400 billion in just the past three months alone. The FOMO at new highs is epic.
The mantra is that the stock market is pricing in an economic boom, evidenced by firming Transports and record-breaking small-cap stocks. However, bank stocks showed us last week that solid results might not be good enough for great expectations. Even in the face of stellar earnings, the financial sector was down nearly -2% for the year heading into this week. The homebuilders are the polar opposite setup to the financial sector coming into this year, with expectations much more sanguine and weaker stock performance. All it took was a couple of announcements out of the executive suite to limit institutional ownership in the real estate market and the GSE’s buying +$200 billion in mortgage bonds to send homebuilding stocks up +10% for the year.
Maybe that’s the investment strategy for 2026, a year where a lot of assets are already priced for lofty expectations, whatever public markets this administration ventures into – so too should investors. Since the move to take over Venezuela, the Energy sector (XLE) is up +5%. The proposed expansion of the military budget to $1.5 trillion has swamped any federal intervention in the form of disallowed share buybacks or dividend payouts – defense stocks are up a resounding +11% so far this year. Then there are the one-off interventions into individual companies – I know some of this is old news, but it hasn’t stopped them from working – equity stakes in Intel and deals made with Taiwan Semiconductor have the SOX soaring +12% so far in 2026, and the year is only three weeks old.
While there is no comparison of the energy level of Donald Trump to that of his less active predecessor, it is becoming much more difficult from a domestic economic policy standpoint to differentiate between Republicans and Democrats. Be that as it may, the fact that the President is now adopting parts of the Elizabeth Warren and Bernie Sanders economic playbook seems to be of little concern for the marginal investor. Remember when the consensus narrative was that markets would crater if socialist policies ever got implemented? Not to mention the erratic and at times inconsistent approach when it comes to foreign policy.
As I tried to articulate last week, there are other variables that are bigger and more important in driving market outcomes than the noise coming out of the executive branch, but there is a limit to how much uncertainty the market is willing to overlook. Investors are much more tolerant, and markets are much more forgiving when the tailwinds of economic growth, liquidity, central bank policy, inflation, earnings, and employment are supportive. Which they have been, but this is also why risk assets are priced so richly. As you’re seeing in today’s selloff, it doesn’t take much to knock them off their lofty perch. For now, I don’t view this selloff and corresponding spike in volatility as much to get too nervous about. But this is subject to change depending on how things evolve from here.
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