It's Time To Lock In

Diversification Matters Again

The only thing the market seems to care about at the moment are Trump tariffs. At first, the market largely shrugged them off when it appeared they were going to be used primarily for short-term negotiating leverage. Over the past few weeks, the trade war has only accelerated and it’s clearly going to be used for economic purposes as well. The Canada and Mexico tariffs are back on (and are being met with retaliatory tariffs), while Chinese tariffs are going from 10% to 20%. Canada and Mexico are the two largest buyers of U.S. exports by a fairly wide margin, so any escalation and/or persistence in tariff policy is likely going to yield very damaging short- and long-term results.

While the market’s reaction has been decisively negative, the escalation is already showing up elsewhere. The Atlanta Fed’s GDPNow forecast is calling for a -2.8% print in Q1, mostly being driven lower by net export activity. I’ve seen some measures showing the odds of recession have doubled to more than 40% over just the past couple weeks. Fed futures have gone from pricing in 1.5 cuts in 2025 to more than three over the past month. PMI readings, which admittedly are a lagging indicator, have moved sharply lower in each of the past two months. Even though the Q4 earnings season was relatively solid, that’s all in the past. It’s all about the possibility of economic slowdown now.

There are similar concerns in the fixed income market. The 10-year Treasury yield is at a 4-month low, down 65 basis points in a little over a month and a half. High yield credit spreads are also at 4-month highs. The two numbers confirm to me that we’re entering a new regime. Credit risk is finally being priced back into the fixed income market (although there’s still a long way to go for it to hit real warning levels). Both of these are symbolic of a broad risk-off shift.

With the markets focused almost exclusively on inflation risk and the interest rate response to them during an economic expansion, the expression of risk-off has been damaged for more than two years. In 2025, investors have been much more worried about economic growth risk, which is much more favorable for the traditional risk-on/risk-off relationship and the assets that express that. I think that’s a big reason why we’re seeing the inverse correlation between stocks and Treasuries returning in a big way. I think it’s a big reason why we’re seeing traditionally defensive sectors and strategies almost uniformly outperforming growth, tech and high beta. And I think it’s a big reason why we’re seeing international stocks getting an extended look. Diversification matters again.