News that the Supreme Court has struck down President Trump’s IEEPA tariffs has seen equities rally and both US Treasuries and the dollar fall. We outline how we think markets will react from here.
Negatives and Positives for Treasuries, but the Negatives Dominate, Until We Know More
The impact reaction for Treasuries is higher in yield. Not by much, but it’s taken the 10yr yield back up to the 4.10% area. The biggest direct impact is on the fiscal deficit, and, by extension, on bond supply. There is no doubt that tariff tax revenue has acted as something of a comfort blanket for deficit concerns. The deficit is still too high. But the actual outcomes have been coming in lower than same-period comparisons with 2024, and the tariff revenue has made the difference. It has helped Treasury Secretary Bessent stay clear of needing to increase issuance of bonds, and in particular, no increased pressure to add to longer end supply pressure.
Going beyond the immediate impact, the next big question is to what extent this affects the inflation outlook – critical for bonds. If the tariffs simply go back on again in another guise (our central view), then the inflation threat remains elevated, and could even intensify as new tariffs become really solidified. On the other hand, many of the other means to setting replacement tariffs are temporary and arguably less impactful. In addition, Congress could decide not to write new legislation for the President to deploy in the guise of extended tariff powers. That would downsize the inflation impact (but then upsize the revenue hole that needs filling).
On balance, we view the greater risk as focused on the fiscal deficit, in turn placing upside risks to yields. It’s tough to argue that there is a growth spurt to come from this whole mess. To get there, we’d need to see a material ratchet down in the tariff intention being shown by the administration. Ultimately, this translates into a path for the 10yr yield towards 4.25%, and for some re-steepening of the yield curve; back to the 75bp area for the 2/10yr segment).
A Mild Dollar Negative, but Near-Term Uncertainty
The dollar is a little softer across the board on today’s news. Outperforming are the pro-cyclical currencies, those that are buoyed by global growth. Presumably, today’s ruling might add to the resilience shown by the global export community. Top of the leader board today are the Scandi currencies and the Australian dollar – some of the highest beta currencies on risk-on/global growth plays.
Notwithstanding the issue that today’s ruling gets tied up with the lawyers for the next several months and quarters, we would expect the Canadian dollar and the Mexican peso to lag the pro-cyclical rally given that there is a USMCA renegotiation this July.
The above pitches a bullish activity story – but our macro team doubts there will be tariff relief for long. There is also the outside risk that the dollar comes lower for less positive reasons should US Treasuries get hit – as per the risks outlined above.
In the near term, FX markets will also be dominated by the Iran risk. Any military strike that prompts a $10/20 per barrel surge in crude prices would be a slap in the face for the pro-cyclical story and a dollar positive given the US advantage with energy independence.
Equities: So Far, So Good
Equities seem to like the news that corporate bottom lines could catch a break from tariffs. How long this lasts remains to be seen. In theory, this should keep global interest alive in the rotation into non-US markets. US equity futures are up around 0.7% on the news and Germany’s Dax futures are up around 0.5%.
Data released from the yesterday showed foreigners buying the most amount of eurozone equities last December since late 2021. As long as energy prices do not surge because of events in Iran, it looks like the rotation story can be with us for a while.
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