Week ended May 23, 2025: all eyes on US budget

WHAT CAUGHT MY EYE THIS WEEK (SO FAR)

Investors have mainly been focused on yields in the US Treasury bond market this week, not surprising given the increasingly precarious fiscal position of the US government.  How we got to this point is by no means Mr Trump’s fault in isolation.  Rather, the problem can be laid at the feet of both political parties, meaning sequential Congresses and the Presidents dating back 25+ years.  The last time the US had a balanced budget was in the second term of President Clinton in the late 1990s.  Since then, every administration (including Trump 1.0 and Biden) have passed budgets that have dug the US into a deeper fiscal hole.  Although somehow stock investors seem immune, bond investors certainly are not, a topic I will touch on further below. 

Retailer earnings in the US this week have been at best a mixed bag and at worst concerning.  Major US retailers have been reporting results for 1Q2025, pre-“liberation day”, so investors need to brace themselves for results for the second quarter (to be released late summer), which will include the effects of the ongoing deterioration in consumer confidence, as well as the impact of the implementation and partial deferral/rollback of “liberation day” tariffs on prices.   Some retailers impressively maintained their guidance for the full year, although few mentioned the word “tariff” in their analysts’ calls to avoid experiencing a similar wrath-like response that Walmart incurred from Mr Trump, following the company telling the truth about tariffs (i.e. they would need to raise prices to protect margins). 

Outside of the US, April inflation was slightly above expectations in the UK, enough to probably delay any further decreases in the UK policy rate until the autumn.  The UK also made some minor inroads into improving its post-BREXIT trading status with the EU.

Risk markets have felt edgy all week as the reality of higher borrowing costs in the US (and globally, for that matter) have filtered through the market.  The weakness in USTs and particularly the US Dollar are important signals, with the latter pushing paired currencies higher, including Bitcoin to a new record high.  The price of gold also rose as investors moved back into haven assets.  

2025-26 US Budget

I have written about the deteriorating financial situation in the US many times, most recently Monday following the Moody’s downgrade of the US (here).  The Moody's downgrade is a sideshow, because what really matters is the 2025-26 US budget, which Mr Trump refers to as the “big beautiful bill”, that has finally been passed by the House and will now be heading to the Senate.  Clearly, the budget in its current form will worsen the US debt situation in the coming years.  It is clear that the Trump Administration and Congress care little, so it is up to the bond and currency markets to send a resounding message, which they are doing.  Unfortunately, the Republican Party is duping the American population by suggesting that the pro-growth tax cuts embedded in this version of the budget will spur economic growth, leading to higher tax revenues.  Moreover, there is no scenario even contemplated of a slowing US economy, which would make the situation even worse. 

Bond investors clearly aren’t buying it. The 20y US Treasury auction ($16 billion) struggled but got done on Wednesday, pushing the entire yield curve higher with the 30y UST yield touching 5.15% intraday on Thursday, a level not seen since at least 2007.

The 10y US Treasury TIPS (inflation-linked) re-opening yesterday seemed to go slightly better, with $18 billion getting done at a spread of 2.22% (meaning the bond will offer a real return over inflation of +2.22% over its lifetime).  Nonetheless, global bond investors remain “yippy” to say the least.

I would not be surprised to see this administration paint the sharp rise in yields as a combination of the Fed’s fault and bond investors being “yippy”.  Keep in mind that the Fed controls the Fed Funds rate, influential at the short end of the curve (say out to 2 years), but global bond investors rule the rest of the yield curve independent of the Fed (albeit correlated) based on long-term inflation expectations, the US fiscal “soundness” (meaning the budget), and expectations regarding the trajectory of the US economy. Naturally, I do not like duration in this context, and would suggest staying short for now if you are a fixed income investor. 

US retailers: earnings and outlooks

Following the release of Walmart’s (WMT) earnings the week before, more retailers reported 1Q25 results this week in the US.  For context, keep in mind that following Walmart’s CFO’s and CEO’s commentaries on the impact of tariffs (higher prices), and President Trump’s social media post that was effectively a threat to the company to eat the cost of tariffs rather than raise prices, the stage was set to see what other large US retailers had experienced in the pre-“liberation day” first quarter.  It was a mixed lot, but certainly, the word “tariffs” wasn't uttered in post-release commentaries following WMT’s honest assessment, for obvious reasons.

• Target (TGT) was the worst in terms of missing expectations.  Both sales and earnings declined, with same-store sales down 5.7% YoY.  Guidance was revised down.

• Home Depot (HD) also missed but experienced top-line growth; same store sales declined 0.3% (increased 0.2% in the US).  The company reaffirmed its guidance.

• Lowes (LOW) was in line with expectations, but both sales and earnings declined, and same-store sales were down 1.7% YoY.  The company reaffirmed its guidance.

The graph below illustrates the performance of the stocks of WMT, TGT, HD and LOW the past two weeks, compared to the S&P 500.

UK inflation April 2025

UK inflation came in slightly above expectations for April (see attached).  Headline CPI was 3.5% in April, vs consensus analysts’ expectations of 3.3%, and the Bank of England’s forecast of 3.4%.  Inflation was expected to increase in April (from 2.6% YoY in March) because of the reset of the annual energy cap, as well as increases in water bills and council taxes.  However, the slightly larger-than-expected increase is expected to defer any further reductions in the Bank of England policy rate (the Bank Rate) until the autumn. 

MARKETS LAST WEEK

“Oops...I did it again” should be Mr Trump’s new theme song, after his trade commentary rattled  risk markets on Friday, just as folks in the U.S. (and U.K.) were preparing for a long holiday weekend.  On Thursday, there had arguably been some sense of relief – if you can call it that – when the House barely passed Mr Trump’s budget-busting “big beautiful bill”.  At least the 2025-26 budget can now move to the Senate, where I hope that Senators will prove to be smarter and more in tune with the precarious fiscal situation of the U.S. than members of the House.  Let’s see, as I suspect the budget discussions will drag on for many more weeks.  

The net outcome on Friday was that concerned bond investors were joined by nervous stock investors, who had to once again price in uncertainty related to rather silly trade comments from Mr Trump.  I am not going to beat a dead horse, but threatening 25% tariffs on iPhones made in India, or China for that matter, shows basic economic ignorance of how trade works, and the concept of comparative advantage that results in win-win situations.  And threatening a 50% tariff on EU goods is so ridiculous that it actually makes me wish Europe well in their discussions, because at least there’s some semblance of understanding of basic economics on this side of the pond.  Rather than go on and go, investors themselves provided the answer to these rather absurd proclamations on Friday from the president, as we potentially start down a turbulent “trade war” path again. 

Risk markets were already fragile as the 2025-26 budget was debated in the House last week, with the administration touting that the budget would improve the deficit, when the reality is that a 5th grader would know otherwise.  Yields were inching up most of the week as bond investors digested the worsening fiscal situation of the U.S., but stocks remained reasonably resilient for reasons that I still do not fully understand.  The “trade war” rhetoric on Friday though proved to be a catalyst for another leg down.  I can’t help but wonder if Mr Trump is simply setting the stage for another opportunity to say “buy stocks” just before a major trade deal is struck.  Let’s be honest – this "self-enrichment" approach does have a horrible stench.  Nonetheless, that’s the way this administration rolls, and in any event, a celebration (up) feels miles away after we closed the books on the week.

As the tables in the "Market Tables" section below illustrate, there was nowhere really to hide last week. Most equity and bond markets suffered, with the best performing asset nor surprisingly being the haven asset, gold.  U.S. stocks were down on the week the most since the period following the “liberation day” tariff announcement, with U.K. stocks being the only index to eke out gains.  Bonds again took it on the chin, for reasons I have already mentioned, and I suspect that barring a consensus reversion back to a recession scenario, yields will remain elevated for the time being.

INVESTMENT APPROACH (NOT ADVICE)

My investment “foundation” remains the same:

• Defensive in stocks, keeping in mind that this can include select Mag 7 names (and I mean only a handful, as outlooks are murky on some)

• International equity diversification, meaning do not have all of your eggs just in the "U.S. stocks" basket

• Short duration in Treasuries or corporate bonds for fixed income investors; care as far as on-investment grade exposure

• Some small percentage in alternative assets, with gold heading my list 

MARKET TABLES