"There's a balloon flying around Wall Street looking for a needle": why investors are wrong about duties

The S&P 500 index remains at an all-time high despite risks from duties and overheated valuations. Investors so far ignore the threat of a trade war, believing that Donald Trump will not go for tough measures. Still, Wall Street analysts warn: even the duties already in place are starting to hit businesses, eroding profits and stoking inflation. Bloomberg economists forecast a slowdown in U.S. GDP growth, and some investment banks, including Morgan Stanley and UBS, believe the market is vulnerable to a 5-10 or even 20% correction.

The main U.S. stock index, the S&P 500, has gained more than 7% since the start of 2025 and is now still trading at its all-time high. Its current price to projected earnings (forward P/E) is 22, one of the highest levels since the coronavirus pandemic, writes Bloomberg. Investors ignore the trade risks and continue to buy up U.S. stocks because they are confident: Trump speaks loudly but acts softly, the agency adds. Still, some professional market participants say: no matter what the final rates turn out to be, investors are underestimating the risks even from the duties already in place.

"The market is priced right now as if everything has to go perfectly," notes Paul Nolty, a strategist at Murphy & Sylvest Wealth Management. - So any, even a small disappointment can lead to a revaluation of assets. Right now, Wall Street is like an inflated balloon that is about to hit the needle - and no one knows what it will be. It may very well be the needle.

Any disappointment - be it weak company reports or fluctuations in macro statistics - can easily interrupt the current market rally, Bloomberg notes. Although the season of quarterly reports has just begun, it is already evident that the current duties are beginning to put pressure on business. According to Bloomberg Economics, the average burden on U.S. importers has already exceeded 13% - that's five times higher than last year's level. Another of the alarming signals of declining corporate profits amid the trade war came from logistics company FedEx, a barometer of the global economy. The company warned of weak results due to continued duty pressure, especially in the U.S.-China segment. And this week Wall Street will get new indicators - General Motors, affected by auto duties, and Capital One Bank, whose data may shed light on the behavior of the American consumer, will publish their reports.

At the macro level, alarming signals are also appearing: the pressure of duties is increasingly reflected in economic statistics, emphasizes Bloomberg. Inflationary data for June showed an acceleration of the core consumer price index, and price growth in such duty-sensitive segments as furniture and clothing indicates that businesses have begun to pass on increased costs to customers, the agency adds.

"Ignoring these duties and just moving on is the wrong reaction," said UBS chief strategist Bhanu Baweja on Bloomberg TV on July 21. - When inflationary pressures get to real household incomes, that's when I think the market will really feel it."

Murphy & Sylvest Wealth Management strategist Paul Nolty believes the market is now vulnerable to a full-blown "bearish" scenario - that is, a collapse of 20 percent or more. According to HSBC analyst Alester Pinder, even the current trade levies could cut corporate earnings growth by 5 percent or more. According to his forecasts, in the second half of the year we should expect a slowdown in retail sales and a new round of inflation - as soon as companies sell off old stocks purchased before the increase in duties.

Even the most ardent "bulls" on Wall Street are beginning to prepare for turbulence, emphasizes Bloomberg. One of them is Morgan Stanley's chief strategist for U.S. equities Mike Wilson, who changed his "bearish" view to "bullish" at the beginning of the year after the market sell-off. Now he remains positive about the market over a 12-month horizon and doesn't expect a collapse, but he warns: in the coming months, corporate forecasts could fail and cause "market indigestion." "In the third quarter, there is a risk that the effect of cost shifting will start to manifest itself: margins will sag a little - and this could well turn into a correction of 5-10%," he says.

Overall, Bloomberg Economics estimates that current trade duties would shrink the U.S. economy by about 1.6% over the next two to three years compared to a duty-free scenario. Prices for consumers would rise 0.9%. Any further strengthening - or even "sticking" - of inflation could dash investors' hopes for a rate cut this year, Bloomberg emphasizes.

However, not all "bulls" have succumbed to panic, Bloomberg notes. Many on Wall Street still believe that stocks have reason to hold at high levels. For example, in Goldman Sachs say that the current estimates are justified: rates are going down, unemployment remains low, and corporate profits - at a high level. Additional support for the market may come from the new fiscal law signed by Trump this month: it makes a number of corporate deductions permanent. Morgan Stanley estimates that this law alone could add 5-7% to the profits of companies in the S&P 500 index.

This article was AI-translated and verified by a human editor