Liberation day: more downside ahead for equities

Today’s reaction of risk assets to the worse-than-expected tariff announcements by D. Trump has been strong and unequivocal: U.S. equity markets are deep in the red and underperforming European, Chinese, and Japanese stocks. The U.S. dollar drops by more than 2%, while recession and stagflation market pricings are rising, as evidenced by the decline in real rates and the increase in US 2Y inflation breakeven rates (~3.4%) . We see further downside for U.S. stocks in the short run. The potential for retaliatory measures from China and the EU is significant in our view and contrasts with the views expressed by S. Bessent (we know the “cap”) . The 10% blanket tariffs, while exempting specific sectors, effectively establish a floor for minimum tariffs and will exacerbate both the recession and the inflation risks in the coming weeks . This scenario is the worst possible outcome for risk assets and for central banks. On the corporate front, more tariffs will likely lead to downward revisions in earnings per share (EPS) and profit margins for U.S. companies, particularly in the tech sector, which has the largest foreign exposure within the S&P 500. In terms of market positioning, we expect further gamma forces to play a role in the short run , with CTAs not fully rebalanced according to our indicators (see chart) and leveraged ETFs adjustments. As we recently highlighted using a similarity analysis , the Fed "put" is a necessary condition for triggering a lasting equity rebound. This is why we view the dynamics of U.S. bond yields as crucial in determining whether we are experiencing a mere correction (with a quickly activated Fed put) or entering a cyclical bear market (cautious and/or behind-the-curve Fed). Hence, t he recent decline in U.S. bond yields may be one of the few positive developments for equity markets; however, the current stagflation environment clearly complicates the outlook for the near future. Beyond rates, credit markets will also be critical to monitor for recession risk. Historically, U.S. recessions resulted in an average drawdown of 30% for the S&P 500 and High Yield spreads well above 500bps , while the current S&P 500 drawdown stands at 11.5% and US High Yields spreads are around 350bp s.