May 2025 Newsletter

Highlights of this month’s newsletter:

“Tariffs protect ill-considered government policies, such as costly regulations and high taxes on labor and capital that make our goods uncompetitive in international markets.”

— Paul Craig Roberts

Market overview: performance figures (%)

Source: Edmond de Rothschild, 03/03/2025

Source: Edmond de Rothschild

April marked a significant rise in volatility. This increase in uncertainty stemmed from the Trump administration’s announcement of higher than expected tariffs on a wide selection of goods imported into the United States and the heightened risk of a global trade war with retaliatory measures from trading partners. Although these tariffs were subsequently postponed for 90 days to allow bilateral agreements to be reached, except in the case of China, the lack of visibility led investors to reduce their exposure to risky assets.

On the macroeconomic front, recent US figures highlight a slowdown in activity. The publication of negative GDP growth in the first quarter of 2025 in the United States, as well as rapidly falling consumer and industrial sentiment and the cautious outlook communicated by business leaders during the publication of first quarter results, highlight the adverse effects of this uncertainty. In Europe, the fall in inflation and the stabilization of activity at a low level have enabled the ECB to cut interest rates again. In China, the continuing risk of deflation and the adverse effects of the trade war should prompt the authorities to prepare a new fiscal and monetary support plan.

Trump’s tariffs a self-inflicted recession?

As the initial momentum behind the new US administration begins to fade, markets are starting to confront the economic realities of Trump’s second term. The first 100 days have been anything but smooth, with policy volatility replacing early optimism.

April’s US business surveys point to a sharp deterioration in activity, investment, and hiring intentions—hallmarks of an economy under stress. Recession risks have climbed, with some estimates placing the probability at 45%. Notably, the source of this slowdown is not the typical end-of-cycle dynamics but rather external shocks driven by policy.

Key contributors include aggressive tariff hikes, erratic government spending decisions, and a growing fiscal imbalance. The tariff regime, in particular, has acted as a tax on US consumers and businesses, pushing inflation and inflation uncertainty higher. This makes the current environment distinct from traditional recessions, as it stems from policy-induced distortions rather than cyclical overheating.

Chart 1: Likelihood of recession in the next 12 months

Source: Charlie Billelo

A weaker US dollar is here to stay

Rising recession risks in the US, primarily tied to erratic policy decisions, are beginning to shape expectations around the Federal Reserve—and, by extension, the US dollar. With economic momentum faltering, the near-term outlook for the greenback has shifted meaningfully.

The latest GDP data revealed a 0.3% annualized contraction in Q1 2025, a stark reversal from the 2.4% growth recorded in Q4 2024. A 41% import surge largely drove this downturn, as firms rushed to front-load shipments ahead of the Trump administration’s sweeping tariff increases. While some of this import activity may prove transitory, the broader signals are troubling.

The tariffs, now firmly embedded in trade policy, are beginning to weigh on real economic activity. Business sentiment has deteriorated, consumer confidence is waning, and investors are increasingly cautious. Against this backdrop, we expect less room for dollar consolidation in the short to medium term, with pressure on the currency likely to persist as growth concerns intensify and rate expectations adjust.

Are markets questioning US exceptionalism?

At the close of 2024, markets were heavily skewed toward a belief in continued US dominance, reflected in an 86% equity valuation premium over European peers. The prevailing view was that the US, driven by AI innovation and the outperformance of the so-called “Magnificent Seven,” would remain the world’s growth and earnings engine.

Chart 2: US CAPE ratio valuation: % above/below Europe CAPE ratio

Source: Charlie Billelo

Fast-forward to today, and that narrative is starting to unravel. Year to date, international equities have outpaced US stocks by the widest margin in years, signaling a rotation in investor sentiment. Compounding this shift, the US dollar has fallen over 8% year-to-date—its steepest decline in three decades. This combination of fading confidence in US policy stability and weaker growth has eroded the sense of US exceptionalism that underpinned last year’s valuations.

Meanwhile, gold has surged 27% YtD, heading for its most substantial annual return since 1979. With the dollar’s decline and uncertainty over trade policy rattling markets, investors have sought refuge in safe-haven assets, highlighting a broader reassessment of risk and leadership in global markets.

China: The tariff escalation increases growth risks

China delivered solid GDP growth in the first quarter of 2025, providing a reassuring start to the year. However, rising trade tensions with the US now pose a clear threat to the sustainability of that momentum.

The latest round of tariff escalation will likely weigh on exports and overall business confidence, introducing fresh downside risks to China’s growth outlook. While Beijing is expected to respond with more supportive fiscal and monetary policy, such measures may take time to materialize as authorities assess the full extent of the economic damage first.

In the interim, uncertainty remains elevated. We anticipate a notable slowdown in Chinese growth over the coming quarters as the global trade environment becomes more unpredictable and external demand softens. Policymakers may ultimately succeed in cushioning the blow, but not without some near-term volatility.

Europe: Headwinds for growth

The European Central Bank (ECB) has taken proactive steps, cutting rates seven times since the start of its easing cycle—a total reduction of 175 basis points. At its most recent meeting, the ECB reaffirmed its readiness to respond to emerging growth risks, signaling a clear pivot toward a more expansionary stance.

We anticipate at least three additional 25 basis point cuts in the months ahead, which would lower the key policy rate to 1.5% by September. Increased public spending is expected to support demand. While Europe is not immune to global headwinds, its measured and coordinated policy approach may help cushion the blow.

Outlook

Global markets are entering a more uncertain phase as US policy volatility weighs on growth, dampens the dollar, and challenges the narrative of American exceptionalism. While China grapples with rising trade tensions and delayed stimulus, Europe stands out with lower inflation and a proactive central bank. As leadership in global equities begins to shift and gold gains traction as a safe haven, investors should remain diversified, cautious, and alert to opportunities emerging from policy-driven dislocations.

Source: Moneyweb, RMB

The politics of VAT: A coalition compromise

The proposed VAT hike became politically unviable for the ANC-led Government of National Unity (GNU). In response, the ANC and DA agreed to withdraw the VAT increase in favor of expenditure cuts. This decision reflects a broader commitment to fiscal discipline to stabilize the national debt trajectory.

The scrapping of the VAT hike alters the fiscal outlook, increasing the state’s reliance on debt markets. Under the National Treasury’s baseline—prior to the policy shift—gross borrowing needs stood at R582 billion. Without the VAT boost, this could rise to R595 billion.

RMB’s updated projections, which factor in softer revenue and downside macroeconomic risks, suggest the requirement could climb to R603 billion. In a more severe slowdown scenario, shaped by global trade fragmentation, borrowing could peak at R616 billion—underscoring the mounting pressure on South Africa’s fiscal position.

Chart 3: Main budget balance estimates under different scenarios

Source: RMB

South Africa-US relations: A new era of foreign policy

South Africa’s relationship with the United States has sharply deteriorated in recent months, entering a period of heightened tension and limited diplomatic options. While some friction with the Trump administration was anticipated, the scale of criticism and political fallout has surpassed expectations. Below, we reflect on the key factors shaping this diplomatic rift and what it means for South Africa’s foreign policy.

What’s behind the strain in SA-US relations?

Tensions between South Africa and the Trump administration stem from three broad areas of concern—many of which predate Trump’s presidency:

1. Foreign policy frustrations: Washington’s long-standing, bipartisan unease over South Africa’s foreign policy decisions has built up over the past 10–15 years.
2. The Israel case: South Africa’s legal action against Israel at the International Court of Justice is considered a central grievance within the Trump administration.
3. Ideological clashes: The US has voiced opposition to South Africa’s land reform policies, support for climate and DEI goals, and BEE legislation—issues that have drawn criticism from figures like Elon Musk and others close to President Trump.

While these concerns shape US sentiment, it’s important to note the absence of a coherent, long-term US strategy toward South Africa. The result is a relationship defined more by unpredictability than by structured diplomacy.

How meaningful is the US relationship for SA?

Chart 4: The US accounts for almost half of all offshore SA portfolio investments

Source: SBG Securities

Despite rising tensions, the US and South Africa have long cooperated on key issues such as education, security, governance, and climate change—including initiatives like FBI training for NPA prosecutors. However, many of these programs have already been dismantled or face likely closure under the Trump administration’s reshaping of US foreign policy.

The US remains a significant, though not dominant, investor in South Africa. As of end-2023, US foreign direct investment (FDI) stock in South Africa stood at USD165.4 billion—7.4% of the country’s total global FDI—making the US the fourth-largest investor. Regional data shows that Europe (especially the UK) and Asia remain more substantial economic partners.

Chart 5: Top ten holders of SA FDI shares (2023)

Source: SBG Securities

Closing remarks: plan for the worst, hope for the best

Since 20 January, the Trump administration’s aggressive and erratic diplomatic style has placed South Africa firmly in the firing line of its “America First” agenda. As this report outlines, all signs point to a further deterioration in US–SA relations before any improvement is likely. South African authorities must respond with urgency, realism, and strategic clarity in this context.

While diplomatic tools are limited, there are still opportunities to ease tensions. More broadly, this moment calls for a recalibrated foreign policy that safeguards South Africa’s economic and strategic interests and is firmly grounded in the constitutional values that define the nation on the global stage.

Theme of the month: Gold strategy: A new front of uncertainty?

Gold has continued its streak of record highs, recently gaining fresh momentum amid renewed political friction in the U.S. In particular, former President Trump’s criticism of Federal Reserve Chair Jerome Powell has introduced a new front of uncertainty for markets. This political tension appears to have accelerated gold’s trajectory, pushing prices to levels that, in RBC’s high-case scenario, weren’t expected until the second half of the year. While the ultimate impact of these developments remains unclear, what is evident is that we’re operating in an increasingly unpredictable environment—one in which gold has reaffirmed its role as a barometer of investor anxiety and a safe-haven asset of choice.

To date, we have focused on trade and tariff-related uncertainty (see Exhibit 1), which has played a huge role in pushing gold prices to new highs.

Exhibit 1: Gold and uncertainty

Source: RBC

With that has come economic concerns, driven by either growth scares or outright recession worries (Exhibit 2).

Exhibit 2 & 3: Recession probability, ETP flows

Source: RBC

At times, the dollar and yields have aided gold’s moves, but generally, we cite tariff-related uncertainty as the root cause of gold pricing and flows (Exhibit 3). While there have been intermittent contributions from movements in the U.S. dollar and real yields, VEGA aligns with the view that the broader uncertainty—especially around trade—has been the primary driver of price action.

Compounding this, economic forecasts have been downgraded: RBC’s economists have revised U.S. growth expectations downward and now anticipate three Fed rate cuts starting in Q3, both of which are directionally supportive for gold. Even so, the dominant theme remains uncertainty. This uncertainty may be evolving beyond the well-worn themes of tariffs and macro data, opening up a new and potentially more politically charged dimension.

Beyond the data, sentiment is shifting. Anecdotal evidence and persistent headlines suggest a growing investor unease around U.S.-linked assets. Central to this is the re-emergence of political pressure on the Federal Reserve—specifically, former President Trump’s repeated criticisms of Chair Powell and speculation around the Fed’s independence. Regardless of how credible such political threats may be, they have undeniably introduced a fresh layer of uncertainty to a saturated market.

U.S. government bonds have shown signs of strain, and gold has responded by climbing higher, reinforcing its role as a non-dollar safe haven. While our prior focus has been on tariffs and economic risks, we are paying increasing attention to the possibility of a structural rotation out of U.S. dollar-linked assets—something we’ve also observed in recent client queries. The unease around central bank credibility adds a new variable to gold’s bullish thesis: economic fragility and institutional fragility.

Whether this proves to be a durable and dominant force remains to be seen. But the convergence of political, economic, and institutional uncertainty — the “remixed cocktail,” as RBC puts it — has accelerated gold’s ascent beyond previous expectations, bringing forward price levels once thought months away.

Chart 6: Gold versus share rotation

Source: Topdown Charts, LSEG

Risk is not just a feature of investing — it’s the price of admission. Morgan Housel makes it clear that you cannot separate risk from reward. The potential to grow your wealth always comes with the possibility of setbacks. Yet, many investors try to avoid risk altogether, treating it like a problem to be eliminated. But Housel argues that this mindset is flawed. Instead of avoiding risk, we should focus on understanding it and learning to live with it — in other words, we should make peace with it.

One of the most important realizations is that risk is what gives your investments the return potential. Without risk, there would be no opportunity for gain. If you want the safety of cash under the mattress or a guaranteed return from a fixed deposit, you must accept that the trade-off is slower or limited growth. This is why making peace with risk is about balance — not reckless gambling but not paralyzing caution. It’s about finding your comfort zone and staying within it while giving your money room to grow.

Another key idea is that uncertainty doesn’t always mean danger. Volatility, for instance, is often mistaken for risk. However, short-term ups and downs in the market are regular and frequently harmless if you maintain a long-term perspective. Housel reminds us that market drops are not anomalies but part of the deal. Accepting this helps you stay grounded when headlines scream panic. Enduring short-term discomfort is often the price you pay for long-term wealth creation.

Managing risk also means planning for your future with realistic assumptions. No one knows what the market will do next year — or next week — so building in margins of safety is vital. That could mean living below your means, keeping a substantial cash reserve, diversifying your investments, or not relying on high returns to meet your financial goals. It’s about preparing for what could go wrong while hoping for what could go right.

There’s also an emotional component to risk. Fear and greed are two of the strongest forces in investing — and both are reactions to risk. People panic when they fear losing money or chase risky opportunities when gripped by greed. Making peace with risk means mastering these emotions. It accepts that discomfort, uncertainty, and occasional losses are normal. When you understand these are temporary and part of the process, you’re far less likely to make impulsive decisions that hurt your long-term success.

Finally, Housel emphasizes that risk tolerance is deeply personal. What feels manageable for one person may be intolerable for another. Your financial decisions should be guided by your goals, your lifestyle, and your ability to sleep at night — not by what others are doing or recommending. Making peace with risk means understanding yourself as much as understanding the markets.

In essence, Lesson 17 teaches us that embracing risk is not a sign of recklessness — it’s a mark of maturity. Financial success doesn’t come from eliminating all uncertainty but learning to live with it thoughtfully and patiently. When handled wisely, risk is not your enemy — it’s your partner on the road to financial independence.

Source: Visual Capitalist