Topic Tags: International Economy

Policy Uncertainty Blurs the Outlook

As we enter the second half of the year, Liberation Day-induced market volatility seems like a distant memory with the S&P hitting another all-time high on July 10th and non-U.S. stocks significantly outpacing their U.S. counterparts through June 30th. Meanwhile, the One Big Beautiful Bill was signed into law by President Trump on July 4th with varying expectations on its impact to growth but a consensus view that it will push the deficit higher.

In this edition:

  • Tariff and policy uncertainty
  • Risk factors and market indicators
  • Equity market drivers
  • Currency and regional trends
  • What to watch in the second half

Why Are Emerging Markets Investors Removing Their China Exposure?

Emerging markets (EM) equities have gone through cycles of performance throughout time, creating varied investor sentiment towards the asset class. Recently, discussions around excluding China from investment portfolios have become more common, spurring the growth of active EM ex-China strategies. This newsletter explores the current landscape of EM investing, examines the drivers of the EM ex-China trend, and analyzes the performance impact of removing China from an EM allocation.

Bring Out the Big Guns

NATO has decided to take the phrase “don’t bring a knife to a gun fight” quite literally. Last week at the NATO summit in The Hague, the 32 member countries pledged to increase their defense spending as a percentage of GDP from the current 2% target share to a new 5% target share. The pledge includes spending 3.5% on defense items such as troops and weapons and 1.5% on defense-related initiatives such as critical infrastructure, cybersecurity, and resilience measures. This change comes on the heels of criticism from President Trump regarding the underspending of member nations on security, as well as his ambivalent comments on the U.S. commitment to collective defense under Article 5. Additionally, commitments to the alliance have been reinvigorated given the ongoing war in Ukraine and a desire to combat an increasingly hostile Russia.

This new commitment follows a trend of increased defense spending by NATO member states, as there are now significantly more members achieving the 2% target than in previous years. In 2021, the year prior to Russia’s invasion of Ukraine, only six member states achieved the 2% target, compared to 23 member states last year. Some members of NATO even pledged to spend 3.5% of GDP on defense prior to the rollout of the new 5% target. That said, and as this week’s chart indicates, only one NATO country (Poland) currently spends at that 3.5% level.

While the higher spending guidelines are groundbreaking, there is still significant progress that must be made for members to achieve this new level. For example, simply to meet the previously planned target of at least 3.5% of GDP, Germany would have to spend an extra €689 billion on defense through 2035. Similarly, Italy and France would each need to spend more than €400 billion. This increase in spending may provide near-term tailwinds for European equities, particularly defense stocks as detailed in a previous Chart of the Week. However, higher defense spending could add to already ballooning fiscal deficits in many member states, meaning inflation may remain elevated across Europe. While it remains to be seen if NATO members will achieve the new spending target and what the ultimate impact on financial markets will be as a result of these dynamics, one thing is certain: NATO is no longer willing to not be armed and dangerous.

Oil Pares Gains After U.S. Strikes Iran

Last week, Marquette released a publication detailing the importance of the Strait of Hormuz within the context of the global oil trade given recent tensions in the Middle East. Over the weekend, these tensions escalated materially, with the United States carrying out a bombing campaign against multiple nuclear enrichment facilities in Iran. In response, Iranian officials launched a missile attack on a U.S. military installation in Qatar and have threatened to close the Strait of Hormuz, a measure that would need to be ratified by the country’s parliament and national security council. Experts agree that such an undertaking would be highly problematic for the global economy and China in particular, which accounts for roughly 90% of Iran’s oil exports (around 1.6 million barrels per day). Goldman Sachs estimates that a closure of the strait could push the price of oil to more than $100 per barrel.

Interestingly, despite these developments, oil prices have not moved significantly higher in recent time. Brent crude, the international oil benchmark, did climb above $81 per barrel immediately after the U.S. strikes, but has since dropped back to around $72 per barrel as of this writing. Interestingly, most of this decline occurred after the missile attack on the U.S. airbase in Qatar, which may have led investors to believe that oil flows will not be the primary target of the Iranian military going forward. The current figure of $72 per barrel, while still above the five-year average level for Brent crude oil, is largely in line with where the commodity has traded since 2021. Equity markets do not seem particularly phased by this weekend’s strikes either, with major global stock indices finishing Monday in positive territory. These positive dynamics amid a string of negative headlines likely stem from the fact that the Strait of Hormuz has yet to be officially closed, although analysts have reported a slowdown in shipping navigation through the strait since the U.S. strikes. Clearly, much uncertainty remains related to the situation in the Middle East, and asset prices could see increased volatility in the near term depending on the next moves by any of the countries involved.

Oil Markets in Focus Given Middle East Turmoil

Tensions in the Middle East spiked last week following a major escalation in the conflict between Israel and Iran, raising concerns over the stability of the global energy supply chain. To that point, the Strait of Hormuz — a vital chokepoint for global oil and gas flows that connects the Persian Gulf and the Gulf of Oman — has become increasingly fragile amid new reports of electronic interference with navigation systems and a tanker collision near the strait earlier this week. Roughly 20 million barrels of crude oil pass through the Strait of Hormuz each day, accounting for roughly 27% of the world’s maritime oil trade and 20% of total global oil consumption. Additionally, around 20% of global liquefied natural gas (LNG) is transported through the area, primarily from Qatar. Despite the heightened conflict and concerns that Iran could attempt to block the Strait of Hormuz, tanker traffic has remained relatively stable, with 111 vessels reportedly transiting through the Strait on June 15. This figure is down only slightly from 116 on June 12, and consistent with the recent daily range of 100 to 120 vessels.

Most of the material exported through the Strait of Hormuz is delivered to Asia, with roughly 84% of the crude oil and 83% of the LNG being shipped to the region last year. China, India, Japan, and South Korea accounted for approximately 69% of these flows, making Asia particularly vulnerable to supply shocks. While the U.S. has reduced its reliance on Middle East crude oil imports in recent years, with only 6% of its oil imports coming via the Strait, concerns remain for potential inflationary pressures and global GDP headwinds if regional conflicts escalate further.

In response to recent events, Brent crude oil has climbed to over $78 per barrel, and any further escalation could trigger additional volatility in energy prices and, by extension, global financial markets. Indeed, the Strait of Hormuz remains one of the most strategically significant and sensitive corridors for the global economy and investors should continue to monitor developments within the region given the potential for broader economic impacts.

The Global Economic Outlook

In a report published last week, the Organization for Economic Cooperation and Development sharply lowered its global economic growth outlook, pointing to the disruptive impact of ongoing trade tensions. Global GDP is now projected to grow by 2.9% on a year-over-year basis in 2025, down from an estimate of 3.1% in March. The United States economy is expected to grow by 1.6% this year, which represents a sharp downgrade from the March forecast of 2.2% by the OECD. Indeed, out of the countries outlined in this week’s chart, only India saw its 2025 economic growth estimates revised upward in the most recent OECD projections, with forecasts for the euro area and Japan remaining in line with where they stood in March. These assessments underscore the reality of trade disruptions as major drags on global economic momentum. Further, the OECD emphasized in its report that even a complete rollback of tariffs by the U.S. and other nations would not provide an immediate boost to the global economy due to lingering uncertainty about the direction of future policy.

In addition to trade headwinds, the OECD pointed out that domestic factors are compounding U.S. economic challenges, with immigration restrictions and a shrinking federal workforce contributing to weaker growth prospects. Additionally, despite tariff-generated revenues (which hit an all-time high last month), the U.S. budget deficit is expected to widen as slowing economic activity will likely outweigh any fiscal gains from trade barriers. Inflation in the U.S. will also rise in the near term according to OECD forecasters, which could delay substantive monetary easing by the Federal Reserve until at least 2026. The report cautions that this timeline could be pushed even further if inflation expectations become unmoored. Beyond the immediate economic implications of trade disputes, the OECD raised alarm about mounting global fiscal pressures and urged governments to streamline spending and improve revenue collection by expanding their tax bases. Clearly, policymakers around the world have much to evaluate as we prepare to enter the second half of 2025.

Land of the Rising Yields

For many years, Japan experimented with ultra-loose monetary policy given long-term economic stagnation and persistent deflationary pressures that plagued the nation. Actions related to this policy included the Bank of Japan pushing interest rates lower, the implementation of yield curve control, and the purchase of more than 50% of all outstanding Japanese government bonds by the central bank. Roughly one year ago, however, the Bank of Japan ended both its yield curve control and negative interest rate policies after achieving sustained inflation and wage growth. Unfortunately, policymakers in Japan face an entirely new set of problems today.

As detailed in this week’s chart, yields on long-term Japanese government bonds have surged in recent days following a weak auction outcome, with the nation’s 30-year bond yield climbing to a record of 3.14%. There are many reasons for this spike, including new trade restrictions that pose a dual challenge to the Japanese economy. On one hand, tariffs diminish the likelihood of near-term interest rate increases by the Bank of Japan, thereby boosting demand for short-term debt. At the same time, trade tensions heighten inflation risks, which undermine investor confidence in long-term bonds. These dynamics present a dilemma for the Bank of Japan as it seeks to scale back its bond buying program and signal potential trouble for Japan’s heavily indebted government. To be clear, rising yields in Japan reflect a broader pattern, as long-term borrowing costs have climbed across major economies given investor concerns over the ability of governments to manage large fiscal deficits. Still, Japan finds itself on particularly precarious footing, and its central bank must now contend with inflationary pressures, weaker sentiment, and demographic headwinds.

The Soybean Shuffle

The most recent headlines related to tariffs have been positive, with the U.S. and China reaching a 90-day pause on May 12 and domestic equities surging in response to this news. Despite this reprieve, however, U.S. farmers may still have reason for concern. To that point, current duties on the second highest U.S. agricultural export, soybeans, remain almost as high as those from 2018, a year that saw U.S. soybeans become a major casualty of another trade conflict triggered by American tariffs on Chinese goods. The U.S. soybean industry was hit hard as a result, suffering an immediate loss of market presence in China. This trend can be observed in the chart above. During a recent hearing before the U.S. Senate Finance Committee, the president of the American Soybean Association expressed fears that current trade restrictions could lead to a loss in market share for U.S soybean farmers similar to that of 2018.

China accounts for roughly 60% of global soybean imports and around half of total U.S. soybean exports, meaning tariffs will almost certainly impact U.S. farmers negatively. Additionally, the Chinese government has endeavored to increase its partnership with Brazil, which is currently China’s largest soybean trading partner. Earlier this month, the leaders of both countries met in Beijing to emphasize the importance of the relationship and sign new trade agreements. Even before this summit, Chinese companies have worked to expand infrastructure within Brazil (e.g., building railroads and water ports) with the goal of bolstering the agriculture supply chain. Additionally, one the largest state-owned conglomerates in China, COFCO, is in the process of building an export terminal in the major Brazilian port city of Santos, which is expected to increase capacity from 5 million tons to 14 million tons. This port is key when it comes to the exporting of commodities such as corn, sugar, and soybeans. It remains to be seen how much stronger the trade relationship between China and Brazil will become in the coming years.

In conclusion, recent tariffs have both redefined international trade relationships and underscored the vulnerability of domestic farmers.  Readers should note that uncertainty surrounding the global macroeconomic landscape is likely to persist, and commodities like soybeans could exhibit elevated levels of volatility amid a reshaping of world trade.

1Q 2025 Market Insights

This video is a recording of a live webinar held April 16 by Marquette’s research team analyzing the first quarter of 2025 (and recent weeks) across the economy and various asset classes as well as themes we’ll be monitoring in the coming months.

Our Market Insights series examines the primary asset classes we cover for clients including the U.S. economy, fixed income, U.S. and non-U.S. equities, hedge funds, real estate, infrastructure, private equity, and private credit, with presentations by our research analysts and directors.

Featuring:
Greg Leonberger, FSA, EA, MAAA, FCA, Partner, Director of Research
Frank Valle, CFA, CAIA, Associate Director of Fixed Income
Catherine Hillier, Senior Research Analyst
David Hernandez, CFA, Director of Traditional Manager Search
Evan Frazier, CFA, CAIA, Senior Research Analyst
Dennis Yu, Research Analyst
Hayley McCollum, Senior Research Analyst
Chad Sheaffer, CFA, CAIA Senior Research Analyst

Sign up for research alerts to be invited to future webinars and notified when we publish new videos.

If you have any questions, please send our team an email.

 

Bracing for Stagflation

As markets swirl and stagflation fears mount, what should investors do?
Our newsletter last week outlined the broad context of President Trump’s new tariff policy as well as the most notable market impacts. Granted, the news seems to change daily, as does the market’s reaction; trying to pen a targeted newsletter is an almost worthless endeavor because by the time the ink has dried, markets have shifted due to another policy pivot. In the short term, the omnipresent cloud of uncertainty will continue to drive market volatility and investor sentiment. The best recipe for investors to weather this storm is patience and discipline, both of which can be difficult to come by in the current environment.

As we step back and take a longer-term view of the future, however, the threat of stagflation is becoming more realistic. Coined as a combination of the words “stagnation” and “inflation,” it is an economic backdrop characterized by high inflation, slow economic growth, and in some cases, high unemployment.

In this edition, we examine which asset classes are most exposed to stagflation and which can offer shelter.