The Tariff Tipping Point

While the U.S. economy remains central to investors’ attention, rising trade barriers are beginning to weigh on global growth momentum. As tariff policies disrupt supply chains and increase costs, international markets, particularly Canada, are emerging as more stable and attractively valued investment alternatives.

• Trade Tensions & Data Distortion

• Divergence In Economic Indicators

• Where The Market Is Heading

• Staying In The Game

• Key Investment Implications

• Why Canada Stands Out

Overview

In early 2025, the U.S. sharply increased tariffs on a wide range of imports, pushing the effective rate from 

~2% to over 20%. These actions have introduced fresh disruptions to global trade, distorting short-term data and raising the risk of a policy-driven slowdown. While current economic indicators remain stable, forward-looking signals point to softening confidence and rising volatility. This report explores the market impact of these developments, the diverging paths of leading versus coincident indicators, and why Canada stands out as a potential winner. We also highlight key strategies for investors navigating a global environment increasingly shaped by policy, not just fundamentals.

Trade Tensions May Be Distorting The Latest Data

Higher tariffs are likely to increase costs for businesses and consumers, while also distorting short-term economic data. Some of the weak U.S. GDP growth in Q1/25—and strength elsewhere—likely reflects importers rushing to bring in goods before tariffs hits.

Some of these effects are expected to reverse in the coming months/quarters. Since the beginning of the year, we estimate the effective tariff rate on U.S. imports has risen a near tenfold increase. While positioned by the U.S. administration as reciprocal, the pace and breadth of these measures are introducing significant disruptions to global trade flows and supply chains.

Divergence Between Coincident vs. Leading Economic Indicators

Statistics tracking the actual performance of the economy, or coincident economic indicators, still suggest a resilient global economic growth backdrop. Current economic data still points to resilient global growth. However, forward-looking indicators show weakening confidence among businesses and consumers. In short, the risk of a policy-driven recession is rising.

At the same time, the Federal Reserve is dealing with a strong labour market and ongoing inflation concerns, limiting its ability to step in with timely rate cuts. The situation remains fluid. The U.S. administration is actively pursuing trade deals, which could help the global economy avoid a deep downturn—or even achieve a soft landing—if tensions ease quickly. But if negotiations drag on, the risk of recession becomes more likely.

Where the Market Is Heading

Financial markets could remain volatile as trade policy developments swing investors’ sentiment. For now, we believe markets have mainly priced-in the first-order impacts of tariffs. The full economic fallout, or second-order impacts of tariffs, has yet to be fully discounted. In the absence of trade deal announcements, our analysis suggests we could be entering a “churning” phase, one where short-term volatility may increase. The S&P 500 has already experienced a meaningful correction since February highs, and history suggests that we may see an eventual retest of early April lows.

“The second-order impacts of tariffs, have yet to be fully discounted.”

Staying In the Game … But with Some Protection

Given the current environment, many investors are exploring how defensive sectors can help manage volatility. Defensive sectors such as consumer staples, health care and utilities typically offer some degree of protection through bouts of market volatility. The opposite is generally true for cyclical sectors such as energy, materials and industrials. Importantly, history shows that the bulk of bad news has been discounted around market bottoms when defensives trade at a ~20% valuation premium vs. cyclicals. We are not there yet. Bonds represent another valid portfolio diversification alternative for investors. In short, growth concerns typically outweigh inflation fears through economic slowdowns or recessions, leading to a flight to safety and a rally in US Treasuries. Finally, gold prices typically thrive through growth scares, high inflation and/or US depreciation episodes. We believe at least two of the three aforementioned factors will play out and likely push the bullion to new highs over the next few months.

“As volatility rises, investors are reassessing portfolios, leaning on defensives and bonds for protection.”

A Severe Bear Market Scenario Remains a Low Probability Outcome

In our view, a revisit of April’s market lows would not mark the beginning of a sustained market downturn similar in magnitude to the 2000-02 or 2007-09 bear markets. Historically, severe U.S. recessions and/or bear markets have coincided with excess household and/or corporate debt levels. This time around, private sector balance sheets look healthy and the AI investment cycle is being financed via companies’ free cash flows rather than debt.

Why Canada Stands Out

So far this year, investors have been rewarded for looking outside the U.S. Canada is emerging as a key beneficiary in this current environment. There are several reasons for this:

• Trade tensions between the U.S. and other trading partners could open a window of opportunity for Canadian producers looking to diversify their export markets outside the U.S.

• With reciprocal tariffs on U.S. imports from Europe and Asia, Canada could potentially gain market share in the U.S.

• A positive resolution of politically sensitive issues such as fentanyl and border controls could lead to much lower tariffs for Canada.

• The valuation gap between U.S. and international equities (including Canadian equities) remains wide by historical standards.

To conclude, Canadian financial assets, in our view, look well-positioned to outperform their U.S. counterparts. Importantly, similar phases of outperformance in the past were positive for the Canadian dollar (CAD/USD) and helped to compound returns in a geographically diversified portfolio.

Key Investment Implications

For investors, this environment calls for selective repositioning, not wholesale reallocation.  Here are a few considerations:

1. Increase Global Diversification

   Equity portfolios heavily concentrated in the U.S. may be missing opportunities abroad. Canada, developed international markets, and even emerging markets stand to benefit from persistent shift in capital flows and a catch-up in relative equity market valuations.
   
   

2. Watch For Entry Points In Bonds And Gold

   As growth slows and inflation expectations stabilize, long-term bonds are starting to look attractive again. Gold, which recently pulled back from all-time highs, remains supported by global central banks and investors seeking to reduce their exposure to the U.S. dollar. Both assets could play a stabilizing role in a diversified portfolio.
   
   

3. Maintain Some Exposure To Defensive Sectors—For Now

   Consumer staples, healthcare, REITs and utilities remain attractive, owing to their defensive attributes. Until we get more visibility on economic policy and the trajectory of corporate earnings, we believe investors should remain selective on sectors vulnerable through economic slowdowns and/or displaying demanding valuations profiles.
   
   

4. Pay Attention To Policy, Not Just Data

   Traditional economic data still matters, but in 2025, the biggest swings in markets are coming from policy decisions—on tariffs, interest rates, and government spending. Staying informed on these developments can provide a crucial edge.

Conclusion

Markets are adjusting to a new reality—one where policy decisions, rather than fundamentals alone, are shaping outcomes. For many investors, this requires a shift in perspective: from relying on familiar patterns of U.S. market leadership to staying open to opportunity in less conventional places. Navigating this environment calls for patience, discipline, and the willingness to adapt as conditions evolve.