Markets may be "choppy" near-term amid U.S. fiscal policy uncertainty

Barclays analysts anticipate near-term market volatility due to uncertainty surrounding the U.S. tax-and-spending bill and the potential impact of trade tensions on Q2 earnings, despite a recent trade agreement between the U.S. and China. The analysts highlight disagreements among lawmakers regarding spending cuts and borrowing increases needed to fund the bill. Despite these headwinds, they favor U.S. stocks due to their quality exposure and lower volatility compared to European and Asia-Pacific equities, noting that the valuation advantage of ex-U.S. stocks has diminished.

Analysis

Barclays analysts project near-term market volatility, primarily driven by uncertainties surrounding a significant U.S. tax-and-spending bill and the anticipated impact of recent trade tensions on upcoming second-quarter earnings. The U.S. Senate Republicans are aiming for a July 4 deadline to pass their version of the multi-trillion legislation, facing internal disagreements over spending cuts, notably to Medicaid and clean energy tax breaks, and necessary borrowing increases to fund tax relief and expenditures on defense and border security; this follows the House's narrow passage of its own version. Concurrently, Barclays anticipates that second-quarter corporate earnings will likely reveal the "first substantive hit" from the U.S. administration's aggressive trade agenda, as the effective U.S. tariff rate has risen sharply, despite a recent agreement between the U.S. and China to de-escalate trade frictions and a delay in heightened "reciprocal" duties on most countries until July. Notwithstanding these headwinds and an acknowledged "uncertain" market tone, the analysts note that tariff uncertainty is largely perceived as "in the past," the broader economic environment remains "resilient," and investor interest is increasingly shifting towards the potential of artificial intelligence. Consequently, Barclays favors U.S. stocks over equities in other global regions, citing that the valuation advantage previously held by ex-U.S. large-cap stocks (European/Asia Pacific) has diminished, now trading at similar 10-year percentiles as U.S. large-caps, and that U.S. markets offer superior quality exposure with lower volatility.

Key Decisions for Investors

• Investors should prepare for increased market choppiness in the near term, aligning portfolio strategies to accommodate potential volatility stemming from U.S. fiscal policy debates and evolving trade dynamics.
• Consider maintaining or increasing exposure to U.S. equities, particularly large-cap quality names, given Barclays' assessment of better risk-adjusted return potential compared to European and Asia-Pacific markets, despite narrowing valuation differentials.
• Closely monitor legislative progress on the U.S. tax-and-spending bill and upcoming Q2 earnings reports for concrete evidence of trade policy impacts on corporate profitability and forward guidance.